SUB: BMFA

UNIT-1
Definition of Management

“Management” (from Old French management “the art of conducting, directing”, from Latin
manu agere “to lead by the hand”) characterizes the process of leading and directing all or part of
an organization, often a business, through the deployment and manipulation of resources.

This definition is interesting because it traces the root meaning back to the Latin phrase meaning
“to lead by the hand”. Leading by the hand implies giving direction that is stronger than just a
passing suggestion yet still fairly gentle in approach. Leading by the hand also implies that the
person doing the leading is first going where the follower is being lead. The leader is not asking
the follower to do something he is not willing to do himself.

The guidance and control of action required to execute a program. Also, the individuals charged
with the responsibility of conducting a program.

This definition of management refers to a “program”. This implies that, for management to be
effective there needs to be some type of defined approach or system in place. This system
becomes the plan and management is guiding others in following that plan. This is often the
downfall of managers. They have no plan or system. As a result their actions seem random to the
people they are managing and this leads to confusion and disappointment. This is why it is so
important for business managers to have an employee manual. Without the employee manual
providing direction, managers will struggle to be fair and balanced in their dealings with
employees.

Is the organizational process that includes strategic planning, setting; objectives, managing
resources, deploying the human and financial assets needed to achieve objectives, and
measuring results. Management also includes recording and storing facts and information for
later use or for others within the organization. Management functions are not limited to
managers and supervisors. Every member of the organization has some management and
reporting functions as part of their job.

This definition is more in depth and tailored toward business management. Notice that it consists
of three primary activities. First, management establishes a plan. This plan becomes the road
map for what work is going to be done. Second, management allocates resources to implement
the plan. Third, management measures the results to see how the end product compares with
what was originally envisioned. Most management failings can be attributed to insufficient effort
occurring in one of these three areas.

The definition goes on to talk about how management is responsible for measuring details that
may not be required presently, but may be useful later on. These measurements often help
determine the objectives in the planning stage.

When management is following this type of sequence, it becomes a continuing cycle. Plan,
execute, and measure. The measurements become the basis for the next planning stage and so on.

Is the activity of getting things done with the aid of people and other resources.

This definition of management focus on management as the process of accomplishing work

through the efforts of others. Skilled managers can accomplish much more through others than
they can through their own single efforts.

Effective utilisation and coordination of resources such as capital, plant, materials, and labor to
achieve defined objectives with maximum efficiency.

This definition of management looks at not only the people but the entire range of resources
necessary to follow a plan. Notice how it focuses on efficiency. Management isn’t just getting
from point A to point B. It is getting there by choosing the best possible path.

The process of getting activities completed efficiently with and through other people; 2. The
process of setting and achieving goals through the execution of five basic management
functions: planning, organizing, staffing, directing, and controlling; that utilize human,
financial, and material resources.

The first definition looks at the fact that management is getting work done through other people.
The second definition divides management up into five components. These components are all
parts of the three components (plan, execute, measure) that we looked at above. However the
more detailed definition helps show the activities that occur in each of the three phase definition.

The process of planning, leading, organizing and controlling people within a group in order to
achieve goals; also used to mean the group of people who do this.

Once again, this definition of management addresses accomplishing work through other people.
This definition stresses the activities that are necessary for reaching particular goals.
The process of achieving the objectives of the business organization by bringing together human,
physical, and financial resources in an optimum combination and making the best decision for
the organization while taking into consideration its operating environment.

This definition talks about the different components that managers need to control in order to
achieve objectives. One differentiator of this definition is the way it considers the operating
environment as part of what a manager must understand.

Management and Administration

According to Theo Haimann, “Administration means overall determination of policies, setting of

major objectives, the identification of general purposes and laying down of broad programmes
and projects”. It refers to the activities of higher level. It lays down basic principles of the
enterprise. According to Newman, “Administration means guidance, leadership & control of the
efforts of the groups towards some common goals”.

Whereas, management involves conceiving, initiating and bringing together the various
elements; coordinating, actuating, integrating the diverse organizational components while
sustaining the viability of the organization towards some pre-determined goals. In other words, it
is an art of getting things done through & with the people in formally organized groups.

The difference between Management and Administration can be summarized under 2 categories:
-

1. Functions
2. Usage / Applicability

On the Basis of Functions:

Basis Management Administration

Meaning Management is an art of getting things done It is concerned with formulation of

through others by directing their efforts broad objectives, plans & policies.
towards achievement of pre-determined goals.

Nature Management is an executing function. Administration is a decision-

making function.

Process Management decides who should as it & how Administration decides what is to
 should he dot it. be done & when it is to be done.

Function Management is a doing function because Administration is a thinking

managers get work done under their function because plans & policies
supervision. are determined under it.

Skills Technical and Human skills Conceptual and Human skills

Level Middle & lower level function Top level function

On the Basis of Usage: -

Basis Management Administration

Applicability It is applicable to business concerns It is applicable to non-business concerns

i.e. profit-making organization. i.e. clubs, schools, hospitals etc.

Influence The management decisions are The administration is influenced by

influenced by the values, opinions, public opinion, govt. policies, religious
beliefs & decisions of the managers. organizations, customs etc.

Status Management constitutes the Administration represents owners of the

employees of the organization who enterprise who earn return on their
are paid remuneration (in the form of capital invested & profits in the form of
salaries & wages). dividend.

Practically, there is no difference between management & administration. Every manager is

concerned with both – administrative management function and operative management function
as shown in the figure. However, the managers who are higher up in the hierarchy denote more
time on administrative function & the lower level denote more time on directing and controlling
worker’s performance i.e. management.
The Figure above clearly shows the degree of administration and management performed by the
different levels of management

Concepts of management

Nature and importance of management

Management is concerned with human beings whose behavior is highly unpredictable. Ever
since people began forming groups to achieve goal, they could not achieve as individuals.
Managing has been essential to provide the coordination of individual’s efforts. Management is
found in every walk of life.

Management does not perform specific jobs. It motivates other people to perform specific jobs.
Management is not doing the work but getting the work done through the effort of others.

Management brings together basic resources popularly known as 6 M’s – Men, Material,
Machines, Methods, Money and Market.

This helps to achieve the expected results quickly and economically in terms of
(a) Production
(b) Sales
(c) Profit and
(d) Goodwill in the Market
Importance of Management

The importance of management in business is universally accepted. It acts as a driving force in

business. Modern business is highly competitive and need efficient and capable management. It
is through management that business activities are organized and conducted efficiently and
objectives are achieved.

The following points will suggest the importance of management

1) Optimum use of resources: management facilities optimum utilization of available human and
physical resources, which leads to progress and prosperity of a business enterprise. Even wastage
of all types are eliminated or minimized.

2) Competitive strength: Management develops competitive strength in an enterprise. This

enables an enterprise to develop and expand its assets and profits.

3) Cordial industrial relations: Management develops cordial industrial relation, ensures better
life and welfare to employees and raises their morale through suitable incentives.

4) Motivates employees: It motivates employees to take more interest and initiative in the work
assigned and contributes for raising productivity and profitability of the enterprise.

5) New techniques: Management facilities the introduction of new machines and new methods in
the conduct of business activities. It also brings useful technologies developments and innovation
in the management of business activities.

6) Effective management: Society gets the benefits of efficient management in terms of

industrial development, justice to different social groups, consumer’s satisfaction and welfare
and proper discharge of social responsibilities.

7) Expansion of business: Expansion growth and diversification of a business unit are possible
through efficient management. It creates good corporate image to a business enterprise.

8) Stability and prosperity: Efficient management brings success stability and prosperity to a
business enterprise through cooperation and team spirit among employees.

9) Team spirit: Management develops team spirit and raises overall efficiency of a business
enterprise.

10) Effective use of managers: Management ensures effective use of managers so that the
benefits of their experience, skills and maturity are available to enterprise.

11) Smooth functioning: Management ensures smooth, orderly and continuous functioning of an
enterprise over a long period. It also raises the efficiency, productivity and profitability of an
enterprise.

12) Reduces turnover and absenteeism: It reduces Labour turnover and absenteeism and ensures
continuity in the business activities and operations.

13) Sound organization: A dynamic and progressive management guarantees development of

sound organization, which can face any situation – favorable or unfavorable with ease and
confidence.

Management is not only practiced in organization and business entities but management plays an
important role in our daily lives and is practiced by every individual is some or the other way.

Importance of Management
 It helps in Achieving Group Goals – It arranges the factors of production, assembles and
organizes the resources, integrates the resources in effective manner to achieve goals. It directs
group efforts towards achievement of pre-determined goals. By defining objective of
organization clearly there would be no wastage of time, money and effort. Management converts
disorganized resources of men, machines, money etc. into useful enterprise. These resources are
coordinated, directed and controlled in such a manner that enterprise work towards attainment of
goals.

 Optimum Utilization of Resources – Management utilizes all the physical & human resources
productively. This leads to efficacy in management. Management provides maximum utilization
of scarce resources by selecting its best possible alternate use in industry from out of various
uses. It makes use of experts, professional and these services leads to use of their skills,
knowledge, and proper utilization and avoids wastage. If employees and machines are producing
its maximum there is no under employment of any resources.

 Reduces Costs – It gets maximum results through minimum input by proper planning and by
using minimum input & getting maximum output. Management uses physical, human and
financial resources in such a manner which results in best combination. This helps in cost
reduction.

 Establishes Sound Organization – No overlapping of efforts (smooth and coordinated

functions). To establish sound organizational structure is one of the objective of management
which is in tune with objective of organization and for fulfillment of this, it establishes effective
authority & responsibility relationship i.e. who is accountable to whom, who can give
instructions to whom, who are superiors & who are subordinates. Management fills up various
positions with right persons, having right skills, training and qualification. All jobs should be
cleared to everyone.

 Establishes Equilibrium – It enables the organization to survive in changing environment. It

keeps in touch with the changing environment. With the change is external environment, the
initial co-ordination of organization must be changed. So it adapts organization to changing
demand of market / changing needs of societies. It is responsible for growth and survival of
organization.

 Essentials for Prosperity of Society – Efficient management leads to better economical

production which helps in turn to increase the welfare of people. Good management makes a
difficult task easier by avoiding wastage of scarce resource. It improves standard of living. It
increases the profit which is beneficial to business and society will get maximum output at
minimum cost by creating employment opportunities which generate income in hands.
Organization comes with new products and researches beneficial for society.

Objectives of Management

The main objectives of management are:

1. Getting Maximum Results with Minimum Efforts – The main objective of

management is to secure maximum outputs with minimum efforts & resources.
Management is basically concerned with thinking & utilizing human, material &
financial resources in such a manner that would result in best combination. This
combination results in reduction of various costs.
2. Increasing the Efficiency of factors of Production – Through proper utilization of
various factors of production, their efficiency can be increased to a great extent which
can be obtained by reducing spoilage, wastages and breakage of all kinds, this in turn
leads to saving of time, effort and money which is essential for the growth & prosperity
of the enterprise.
3. Maximum Prosperity for Employer & Employees – Management ensures smooth and
coordinated functioning of the enterprise. This in turn helps in providing maximum
benefits to the employee in the shape of good working condition, suitable wage system,
incentive plans on the one hand and higher profits to the employer on the other hand.
4. Human betterment & Social Justice – Management serves as a tool for the upliftment
as well as betterment of the society. Through increased productivity & employment,
management ensures better standards of living for the society. It provides justice through
its uniform policies.

Management as a Process

As a process, management refers to a series of inter – related functions. It is the process by which
management creates, operates and directs purposive organization through systematic,
coordinated and co-operated human efforts, according to George R. Terry, “Management is a
distinct process consisting of planning, organizing, actuating and controlling, performed to
determine and accomplish stated objective by the use of human beings and other resources”. As a
process, management consists of three aspects:

1. Management is a social process – Since human factor is most important among the
other factors, therefore management is concerned with developing relationship among
people. It is the duty of management to make interaction between people – productive
and useful for obtaining organizational goals.
2. Management is an integrating process – Management undertakes the job of bringing
together human physical and financial resources so as to achieve organizational purpose.
Therefore, is an important function to bring harmony between various factors.
3. Management is a continuous process – It is a never ending process. It is concerned with
constantly identifying the problem and solving them by taking adequate steps. It is an on-
going process.

Management as an Activity

Like various other activities performed by human beings such as writing, playing, eating,
cooking etc, management is also an activity because a manager is one who accomplishes the
objectives by directing the efforts of others. According to Koontz, “Management is what a
manager does”. Management as an activity includes –

1. Informational activities – In the functioning of business enterprise, the manager

constantly has to receive and give information orally or in written. A communication link
has to be maintained with subordinates as well as superiors for effective functioning of an
enterprise.
2. Decisional activities – Practically all types of managerial activities are based on one or
the other types of decisions. Therefore, managers are continuously involved in decisions
of different kinds since the decision made by one manager becomes the basis of action to
be taken by other managers. (E.g. Sales Manager is deciding the media & content of
advertising).
3. Inter-personal activities – Management involves achieving goals through people.
Therefore, managers have to interact with superiors as well as the sub-ordinates. They
must maintain good relations with them. The inter-personal activities include with the
sub-ordinates and taking care of the problem. (E.g. Bonuses to be given to the sub-
ordinates).

a. The top management is also responsible towards the shareholders for the
performance of the enterprise.

a.
 Functions of Management

For theoretical purposes, it may be convenient to separate the function of management but
practically these functions are overlapping in nature i.e. they are highly inseparable. Each
function blends into the other & each affects the performance of others.

1. Planning

It is the basic function of management. It deals with chalking out a future course of action &
deciding in advance the most appropriate course of actions for achievement of pre-determined
goals. According to KOONTZ, “Planning is deciding in advance – what to do, when to do &
how to do. It bridges the gap from where we are & where we want to be”. A plan is a future
course of actions. It is an exercise in problem solving & decision making. Planning is
determination of courses of action to achieve desired goals. Thus, planning is a systematic
thinking about ways & means for accomplishment of pre-determined goals. Planning is
necessary to ensure proper utilization of human & non-human resources. It is all pervasive, it is
an intellectual activity and it also helps in avoiding confusion, uncertainties, risks, wastages etc.
2. Organising

It is the process of bringing together physical, financial and human resources and developing
productive relationship amongst them for achievement of organizational goals. According to
Henry Fayol, “To organize a business is to provide it with everything useful or its functioning
i.e. raw material, tools, capital and personnel’s”. To organize a business involves determining &
providing human and non-human resources to the organizational structure. Organizing as a
process involves:

 Identification of activities.
 Classification of grouping of activities.
 Assignment of duties.
 Delegation of authority and creation of responsibility.
 Coordinating authority and responsibility relationships.

3.Staffing

It is the function of manning the organization structure and keeping it manned. Staffing has
assumed greater importance in the recent years due to advancement of technology, increase in
size of business, complexity of human behavior etc. The main purpose o staffing is to put right
man on right job i.e. square pegs in square holes and round pegs in round holes. According to
Kootz & O’Donell, “Managerial function of staffing involves manning the organization structure
through proper and effective selection, appraisal & development of personnel to fill the roles
designed un the structure”. Staffing involves:

 Manpower Planning (estimating man power in terms of searching, choose the person and
giving the right place).
 Recruitment, selection & placement.
 Training & development.
 Remuneration.
 Performance appraisal.
 Promotions & transfer.

4. Directing

It is that part of managerial function which actuates the organizational methods to work
efficiently for achievement of organizational purposes. It is considered life-spark of the
enterprise which sets it in motion the action of people because planning, organizing and staffing
are the mere preparations for doing the work. Direction is that inert-personnel aspect of
management which deals directly with influencing, guiding, supervising, motivating sub-ordinate
for the achievement of organizational goals. Direction has following elements:

 Supervision
 Motivation
 Leadership
  Communication

Supervision- implies overseeing the work of subordinates by their superiors. It is the act of
watching & directing work & workers.

Motivation- means inspiring, stimulating or encouraging the sub-ordinates with zeal to work.
Positive, negative, monetary, non-monetary incentives may be used for this purpose.

Leadership- may be defined as a process by which manager guides and influences the work of
subordinates in desired direction.

Communications- is the process of passing information, experience, opinion etc from one
person to another. It is a bridge of understanding.

5. Controlling

It implies measurement of accomplishment against the standards and correction of deviation if

any to ensure achievement of organizational goals. The purpose of controlling is to ensure that
everything occurs in conformities with the standards. An efficient system of control helps to
predict deviations before they actually occur. According to Theo Haimann, “Controlling is the
process of checking whether or not proper progress is being made towards the objectives and
goals and acting if necessary, to correct any deviation”. According to Koontz & O’Donell
“Controlling is the measurement & correction of performance activities of subordinates in order
to make sure that the enterprise objectives and plans desired to obtain them as being
accomplished”. Therefore controlling has following steps:

a. Establishment of standard performance.

b. Measurement of actual performance.
c. Comparison of actual performance with the standards and finding out deviation if any.
d. Corrective action.

Functions of Management ( In brief)

Basic functions of management

Management operates through various functions, often classified as planning, organizing,

leading/motivating, and controlling.

 Planning: Deciding what needs to happen in the future (today, next week, next month,
next year, over the next 5 years, etc.) and generating plans for action.
  Organizing: (Implementation) making optimum use of the resources required to enable
the successful carrying out of plans.
 Staffing: Job analyzing, recruitment, and hiring individuals for appropriate jobs.
 Leading: Determining what needs to be done in a situation and getting people to do it.
 Controlling: Monitoring, checking progress against plans, which may need
modification based on feedback.
 Motivating: the process of stimulating an individual to take action that will accomplish a
desired goal.

Principles of Management

A principle refers to a fundamental truth. It establishes cause and effect relationship between two
or more variables under given situation. They serve as a guide to thought & actions. Therefore,
management principles are the statements of fundamental truth based on logic which provides
guidelines for managerial decision making and actions. These principles are derived: -

a. On the basis of observation and analysis i.e. practical experience of managers.

b. By conducting experimental studies.

There are 14 Principles of Management described by Henri Fayol.

1. Division of Labor

a. Henry Fayol has stressed on the specialization of jobs.

b. He recommended that work of all kinds must be divided & subdivided and allotted to
various persons according to their expertise in a particular area.
c. Subdivision of work makes it simpler and results in efficiency.
d. It also helps the individual in acquiring speed, accuracy in his performance.
e. Specialization leads to efficiency & economy in spheres of business.

2. Party of Authority & Responsibility

a. Authority & responsibility are co-existing.

b. If authority is given to a person, he should also be made responsible.
c. In a same way, if anyone is made responsible for any job, he should also have concerned
authority.
d. Authority refers to the right of superiors to get exactness from their sub-ordinates
whereas responsibility means obligation for the performance of the job assigned.
e. There should be a balance between the two i.e. they must go hand in hand.
f. Authority without responsibility leads to irresponsible behavior whereas responsibility
without authority makes the person ineffective.
3. Principle of One Boss

a. A sub-ordinate should receive orders and be accountable to one and only one boss at a
time.
b. In other words, a sub-ordinate should not receive instructions from more than one person
because –

- It undermines authority
- Weakens discipline
- Divides loyalty
- Creates confusion
- Delays and chaos
- Escaping responsibilities
- Duplication of work
- Overlapping of efforts

c. Therefore, dual sub-ordination should be avoided unless and until it is absolutely

essential.
d. Unity of command provides the enterprise a disciplined, stable & orderly existence.
e. It creates harmonious relationship between superiors and sub-ordinates.

4. Unity of Direction

a. Fayol advocates one head one plan which means that there should be one plan for a group
of activities having similar objectives.
b. Related activities should be grouped together. There should be one plan of action for
them and they should be under the charge of a particular manager.
c. According to this principle, efforts of all the members of the organization should be
directed towards common goal.
d. Without unity of direction, unity of action cannot be achieved.
e. In fact, unity of command is not possible without unity of direction.

Basis Unity of command Unity of direction

Meaning It implies that a sub-ordinate should It means one head, one plan for a
receive orders & instructions from only group of activities having similar
one boss. objectives.

Nature It is related to the functioning of It is related to the functioning of

personnel’s. departments, or organization as a
 whole.

Necessity It is necessary for fixing responsibility of It is necessary for sound organization.

each subordinates.

Advantage It avoids conflicts, confusion & chaos. It avoids duplication of efforts and
wastage of resources.

Result It leads to better superior sub-ordinate It leads to smooth running of the

relationship. enterprise.

Therefore it is obvious that they are different from each other but they are dependent on each
other i.e. unity of direction is a pre-requisite for unity of command. But it does not automatically
come from the unity of direction.

5. Equity
a. Equity means combination of fairness, kindness & justice.
b. The employees should be treated with kindness & equity if devotion is expected
of them.
c. It implies that managers should be fair and impartial while dealing with the
subordinates.
d. They should give similar treatment to people of similar position.
e. They should not discriminate with respect to age, caste, sex, religion, relation etc.
f. Equity is essential to create and maintain cordial relations between the managers
and sub-ordinate.
g. But equity does not mean total absence of harshness.
h. Fayol was of opinion that, “at times force and harshness might become necessary
for the sake of equity”.

6. Order
a. This principle is concerned with proper & systematic arrangement of things and
people.
b. Arrangement of things is called material order and placement of people is called
social order.
c. Material order- There should be safe, appropriate and specific place for every
article and every place to be effectively used for specific activity and commodity.
 d. Social order- Selection and appointment of most suitable person on the suitable
job. There should be a specific place for every one and everyone should have a
specific place so that they can easily be contacted whenever need arises.

7. Discipline
a. According to Fayol, “Discipline means sincerity, obedience, respect of authority
& observance of rules and regulations of the enterprise”.
b. This principle applies that subordinate should respect their superiors and obey
their order.
c. It is an important requisite for smooth running of the enterprise.
d. Discipline is not only required on path of subordinates but also on the part of
management.
e. Discipline can be enforced if –

- There are good superiors at all levels.

- There are clear & fair agreements with workers.
- Sanctions (punishments) are judiciously applied.

8. Initiative
a. Workers should be encouraged to take initiative in the work assigned to them.
b. It means eagerness to initiate actions without being asked to do so.
c. Fayol advised that management should provide opportunity to its employees to
suggest ideas, experiences& new method of work.
d. It helps in developing an atmosphere of trust and understanding.
e. People then enjoy working in the organization because it adds to their zeal and
energy.
f. To suggest improvement in formulation & implementation of place.
g. They can be encouraged with the help of monetary & non-monetary incentives.

9. Fair Remuneration
a. The quantum and method of remuneration to be paid to the workers should be
fair, reasonable, satisfactory & rewarding of the efforts.
b. As far as possible it should accord satisfaction to both employer and the
employees.
c. Wages should be determined on the basis of cost of living, work assigned,
financial position of the business, wage rate prevailing etc.
d. Logical & appropriate wage rates and methods of their payment reduce tension &
differences between workers & management creates harmonious relationship and
pleasing atmosphere of work.
e. Fayol also recommended provision of other benefits such as free education,
medical & residential facilities to workers.
10. Stability of Tenure
a. Fayol emphasized that employees should not be moved frequently from one job
position to another i.e. the period of service in a job should be fixed.
b. Therefore employees should be appointed after keeping in view principles of
recruitment & selection but once they are appointed their services should be
served.
c. According to Fayol. “Time is required for an employee to get used to a new work
& succeed to doing it well but if he is removed before that he will not be able to
render worthwhile services”.
d. As a result, the time, effort and money spent on training the worker will go waste.
e. Stability of job creates team spirit and a sense of belongingness among workers
which ultimately increase the quality as well as quantity of work.

11. Scalar Chain

a. Fayol defines scalar chain as ’The chain of superiors ranging from the ultimate
authority to the lowest”.
b. Every orders, instructions, messages, requests, explanation etc. has to pass
through Scalar chain.
c. But, for the sake of convenience & urgency, this path can be cut shirt and this
short cut is known as Gang Plank.
d. A Gang Plank is a temporary arrangement between two different points to
facilitate quick & easy communication as explained below:
  In the figure given, if D has to communicate with G he will first send the communication
upwards with the help of C, B to A and then downwards with the help of E and F to G which
will take quite some time and by that time, it may not be worth therefore a gang plank has
been developed between the two.

 Gang Plank clarifies that management principles are not rigid rather they are very
flexible. They can be moulded and modified as per the requirements of situations.

12. Sub-Ordination of Individual Interest to General Interest

a. An organization is much bigger than the individual it constitutes therefore interest of the
undertaking should prevail in all circumstances.
b. As far as possible, reconciliation should be achieved between individual and group
interests.
c. But in case of conflict, individual must sacrifice for bigger interests.
d. In order to achieve this attitude, it is essential that –

- Employees should be honest & sincere.

- Proper & regular supervision of work.
- Reconciliation of mutual differences and clashes by mutual agreement. For
example, for change of location of plant, for change of profit sharing ratio, etc.

13. Espirit De’ Corps (can be achieved through unity of command)

a. It refers to team spirit i.e. harmony in the work groups and mutual understanding among
the members.
 b. Spirit De’ Corps inspires workers to work harder.
c. Fayol cautioned the managers against dividing the employees into competing groups
because it might damage the moral of the workers and interest of the undertaking in the
long run.
d. To inculcate Espirit De’ Corps following steps should be undertaken –
o There should be proper co-ordination of work at all levels
o Subordinates should be encouraged to develop informal relations among
themselves.
o Efforts should be made to create enthusiasm and keenness among subordinates so
that they can work to the maximum ability.
o Efficient employees should be rewarded and those who are not up to the mark
should be given a chance to improve their performance.
o Subordinates should be made conscious of that whatever they are doing is of great
importance to the business & society.
e. He also cautioned against the more use of Britain communication to the subordinates i.e.
face to face communication should be developed. The managers should infuse team spirit
& belongingness. There should be no place for misunderstanding. People then enjoy
working in the organization & offer their best towards the organization.

14. Centralization & De-Centralization

a. Centralization means concentration of authority at the top level. In other words,

centralization is a situation in which top management retains most of the decision making
authority.
b. Decentralization means disposal of decision making authority to all the levels of the
organization. In other words, sharing authority downwards is decentralization.
c. According to Fayol, “Degree of centralization or decentralization depends on no. of
factors like size of business, experience of superiors, dependability & ability of
subordinates etc.
d. Anything which increases the role of subordinate is decentralization & anything which
decreases it is centralization.
e. Fayol suggested that absolute centralization or decentralization is not feasible. An
organization should strike to achieve a lot between the two.

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Management Theory

The Principles of Scientific Management

Frederick Winslow Taylor

Fredrick Winslow Taylor ( March 20, 1856 - March 21, 1915) commonly known as ’Father of
Scientific Management’ started his career as an operator and rose to the position of chief
engineer. He conducted various experiments during this process which forms the basis of
scientific management. It implies application of scientific principles for studying & identifying
management problems.

According to Taylor, “Scientific Management is an art of knowing exactly what you want your
men to do and seeing that they do it in the best and cheapest way”. In Taylors view, if a work is
analysed scientifically it will be possible to find one best way to do it.

Hence scientific management is a thoughtful, organized, dual approach towards the job of
management against hit or miss or Rule of Thumb.

According to Drucker, “The cost of scientific management is the organized study of work, the
analysis of work into simplest element & systematic management of worker’s performance of
each element”.

Frederick Winslow Taylor (March 20, 1856–March 21, 1915), widely known as F. W. Taylor,
was an American mechanical engineer who sought to improve industrial efficiency. He is
regarded as the father of scientific management, and was one of the first management
consultants.

Taylor was one of the intellectual leaders of the Efficiency Movement and his ideas, broadly
conceived, were highly influential in the Progressive Era.

Taylor thought that by analyzing work, the "One Best Way" to do it would be found. He is most
remembered for developing the time and motion study. He would break a job into its component
parts and measure each to the hundredth of a minute. One of his most famous studies involved
shovels. He noticed that workers used the same shovel for all materials. He determined that the
most effective load was 21½ lb, and found or designed shovels that for each material would
scoop up that amount. He was generally unsuccessful in getting his concepts applied and was
dismissed from Bethlehem Steel. It was largely through the efforts of his disciples (most notably
H.L. Gantt) that industry came to implement his ideas. Nevertheless, the book he wrote after
parting company with Bethlehem Steel.

Mayo’s Hawthorne experiment

George Elton John Mayo (26 December 1880 - 7 September 1949) was an Australian
psychologist, sociologist and organization theorist.

Elton Mayo’s Hawthorn experiments

Elton Mayo’s team conducted a number of experiments involving six female workers. These
experiments are often referred to as the Hawthorne experiments or Hawthorne studies as they
took place at The Hawthorne Works of the Western Electric Company in Chicago.
Over the course of five years, Mayo’s team altered the female worker’s working conditions and
then monitored how the working conditions affected the workers morale and productivity. The
changes in working conditions included changes in working hours, rest brakes, lighting,
humidity, and temperature. The changes were explained to the workers prior to implementation.

At the end of the five year period, the female worker’s working conditions, reverted back to the
conditions before the experiment began. Unexpectedly the workers morale and productivity rose
to levels higher than before and during the experiments.

The combination of results during and after the experiment (ie the increase in the workers
productivity when they were returned to their original working conditions) led Mayo to conclude
that workers were motivated by psychological conditions more than physical working condition.
He also concluded that workers were motivated by more than self interest and instead the
following applied:

 There is an unwritten understanding between the worker and employer regarding what is
expected from them; Mayo called this the psychological contract.

 A worker’s motivation can be increased by showing an interest in them. Mayo classified

studying the workers (through the experiments) as showing an interest in the workers.

 Work is a group activity, team work can increase a worker’s motivation as it allows
people to form strong working relationships and increases trust between the workers.
Work groups are created formally by the employer but also occur informally. Both
informal and formal groups should be used to increase productivity as informal groups
influence the worker’s habits and attitudes.

 Workers are motivated by the social aspect of work, as demonstrated by the female
workers socialising during and outside work and the subsequent increase in motivation.

 Workers are motivated by recognition, security and a sense of belonging.

 The communication between workers and management influences workers’ morale and
productivity. Workers are motivated through a good working relationship with
management.

Abraham Maslow Theory of Human needs

Abraham Maslow between 1943-1954 developed his 'Hierarchy of needs' motivation theory. It is
probably the most popular and most read motivation theory. His theory suggests that within each
person their is a hierarchy of needs and the individual must satisfy each level before they move
onto the next. There are five hierarchical levels. These are:

 Physiological needs: Food, shelter, sexual satisfaction i.e those needs needed for basic
survival.
  Safety needs: The need to feel safe within your environment. Also refers to emotional and
physical safety.
 Social Needs: The need for love, friendship and belongingness
 Esteem needs: The need for self respect, status and recognition from others.
 Self actualisation: The point of reaching ones full potential. Are you capable at excelling
yourself?

Diagram: Maslow's Hierarchy of Needs

So an individual will need to satisfy their most basic need before they can move onto the next.
Only when that individual knows that they have met their physiological needs will they move
onto their safety needs. Maslow suggests that if you wanted to motivate an individual you will
need to know where within the hierarchy they are placed.

Douglas McGregor’s Theory X and Theory Y

Douglas McGregor (1906 – 1964) was a Management professor at the MIT Sloan School of
Management and president of Antioch College from 1948 to 1954. His 1960 book The Human
Side of Enterprise had a profound influence on education practices. In the book he identified an
approach of creating an environment within which employees are motivated via authoritative,
direction and control or integration and self-control, which he called theory X and theory Y,
respectively. Theory Y is the practical application of Dr. Abraham Maslow's Humanistic School
of Psychology, or Third Force psychology, applied to scientific management.

He is commonly thought of as being a proponent of Theory Y, but, as Edgar Schein tells in his
introduction to McGregor's subsequent, posthumous (1967), book The Professional Manager :
"In my own contacts with Doug, I often found him to be discouraged by the degree to which
theory Y had become as monolithic a set of principles as those of Theory X, the over-
generalization which Doug was fighting....Yet few readers were willing to acknowledge that the
content of Doug's book made such a neutral point or that Doug's own presentation of his point of
view was that coldly scientific".

Theory X

This theory is also referred to as “the authoritarian management style”, as it states that the
average person needs to be coerced (even threatened with punishment), into working towards
organisational objectives.

 The average employee does not like work and will attempt to avoid it.
 As employees are lazy they do not want responsibility and have no ambition.
 Individuals prefer to be directed and want security above everything else.
 Individuals need to be closely supervised and controlled.

Theory Y

Also known as “the participative management style”, a theory Y organisation’s view of people is
the opposite of an organisation applying theory X.

 The average employee likes work, and is self-motivated.

 Employees can learn to not only accept but seek greater responsibility.
 Individuals are ambitious not lazy, and work is as natural as rest and play.
 Individuals exercise self control and self-direction to achieve objectives that they are
committed to. Threats of punishment are unnecessary.
 The rewards of achievement generate commitment from employees.
 If individuals are given freedom there is opportunity to increase productivity.

Managers applying theory Y believe that if employees are given the opportunity, they will
develop a desire to be imaginative and creative at work. They will therefore try and remove
obstacles that prevent employees from realising their potential. They believe that negative
attitudes such as avoidance of responsibility are caused by experience and are not “inherent
characteristics”. Therefore by creating the positive experiences and conditions such negatives
can be banished.

McGregor’s theory of X and Y represents two extremes, which probably aren’t applied in full by
today’s organisations. However the theory has provided the foundations for today’s management
strategy and elements of it can be seen in other management evaluations

Hertzberg’s Two Factor theory of Motivation

Herzberg's Motivation Hygiene Theory

Herzberg's Two Factor Theory is a "content theory" of motivation" (the other main one is
Maslow's Hierarchy of Needs).
Herzberg analysed the job attitudes of 200 accountants and engineers who were asked to recall
when they had felt positive or negative at work and the reasons why.

From this research, Herzberg suggested a two-step approach to understanding employee

motivation and satisfaction:

Hygiene Factors

Hygiene factors are based on the need to for a business to avoid unpleasantness at work. If these
factors are considered inadequate by employees, then they can cause dissatisfaction with work.
Hygiene factors include:

- Company policy and administration

- Wages, salaries and other financial remuneration

- Quality of supervision

- Quality of inter-personal relations

- Working conditions
- Feelings of job security

Motivator Factors

Motivator factors are based on an individual's need for personal growth. When they exist,
motivator factors actively create job satisfaction. If they are effective, then they can motivate an
individual to achieve above-average performance and effort. Motivator factors include:

- Status

- Opportunity for advancement

- Gaining recognition

- Responsibility

- Challenging / stimulating work

- Sense of personal achievement & personal growth in a job

There is some similarity between Herzberg's and Maslow's models. They both suggest that needs
have to be satisfied for the employee to be motivated. However, Herzberg argues that only the
higher levels of the Maslow Hierarchy (e.g. self-actualisation, esteem needs) act as a motivator.
The remaining needs can only cause dissatisfaction if not addressed.

Applying Hertzberg's model to de-motivated workers

What might the evidence of de-motivated employees be in a business?

- Low productivity

- Poor production or service quality

- Strikes / industrial disputes / breakdowns in employee communication and relationships

- Complaints about pay and working conditions

According to Herzberg, management should focus on rearranging work so that motivator factors
can take effect. He suggested three ways in which this could be done:

- Job enlargement

- Job rotation and Job enrichment

 Leadership styles

The leadership styles we look at here are:

 Autocratic leadership
 Bureaucratic leadership
 Charismatic leadership
 Democratic leadership
 Laissez-faire leadership
 People-oriented leadership
 Servant leadership
 Task-oriented leadership
 Transactional leadership
 Transformational leadership

Autocratic Leadership

Autocratic leadership is an extreme form of transactional leadership, where a leader exerts high
levels of power over his or her employees or team members. People within the team are given
few opportunities for making suggestions, even if these would be in the team's or organization’s
interest.

Many people resent being treated like this. Because of this, autocratic leadership often leads to
high levels of absenteeism and staff turnover. Also, the team's output does not benefit from the
creativity and experience of all team members, so many of the benefits of teamwork are lost.

For some routine and unskilled jobs, however, this style can remain effective, where the
advantages of control outweigh the disadvantages.

Bureaucratic Leadership

Bureaucratic leaders work “by the book”, ensuring that their staff follow procedures exactly.
This is a very appropriate style for work involving serious safety risks (such as working with
machinery, with toxic substances or at heights) or where large sums of money are involved (such
as cash-handling).

In other situations, the inflexibility and high levels of control exerted can demoralize staff, and
can diminish the organization's ability to react to changing external circumstances.

Charismatic Leadership

A charismatic leadership style can appear similar to a transformational leadership style, in that
the leader injects huge doses of enthusiasm into his or her team, and is very energetic in driving
others forward.
However, charismatic leaders can tend to believe more in themselves than in their teams. This
can create a risk that a project, or even an entire organization, might collapse if the leader were to
leave: in the eyes of their followers, success is tied up with the presence of the charismatic
leader. As such, charismatic leadership carries great responsibility, and needs long-term
commitment from the leader.

Democratic Leadership or Participative Leadership

Although a democratic leader will make the final decision, he or she invites other members of
the team to contribute to the decision-making process. This not only increases job satisfaction by
involving employees or team members in what’s going on, but it also helps to develop people’s
skills. Employees and team members feel in control of their own destiny, and so are motivated to
work hard by more than just a financial reward.

As participation takes time, this style can lead to things happening more slowly than an
autocratic approach, but often the end result is better. It can be most suitable where team working
is essential, and where quality is more important than speed to market or productivity.

Laissez-Faire Leadership

This French phrase means “leave it be” and is used to describe a leader who leaves his or her
colleagues to get on with their work. It can be effective if the leader monitors what is being
achieved and communicates this back to his or her team regularly. Most often, laissez-faire
leadership works for teams in which the individuals are very experienced and skilled self-
starters. Unfortunately, it can also refer to situations where managers are not exerting sufficient
control.

People-Oriented Leadership or Relations-Oriented Leadership

This style of leadership is the opposite of task-oriented leadership: the leader is totally focused
on organizing, supporting and developing the people in the leader’s team. A participative style, it
tends to lead to good teamwork and creative collaboration. However, taken to extremes, it can
lead to failure to achieve the team's goals.

In practice, most leaders use both task-oriented and people-oriented styles of leadership.

Servant Leadership

This term, coined by Robert Greenleaf in the 1970s, describes a leader who is often not formally
recognized as such. When someone, at any level within an organization, leads simply by virtue
of meeting the needs of his or her team, he or she is described as a “servant leader”.

In many ways, servant leadership is a form of democratic leadership, as the whole team tends to
be involved in decision-making.
Supporters of the servant leadership model suggest it is an important way ahead in a world where
values are increasingly important, and in which servant leaders achieve power on the basis of
their values and ideals. Others believe that in competitive leadership situations, people practicing
servant leadership can find themselves "left behind" by leaders using other leadership styles.

Task-Oriented Leadership

A highly task-oriented leader focuses only on getting the job done, and can be quite autocratic.
He or she will actively define the work and the roles required, put structures in place, plan,
organize and monitor. However, as task-oriented leaders spare little thought for the well-being of
their teams, this approach can suffer many of the flaws of autocratic leadership, with difficulties
in motivating and retaining staff. Task-oriented leaders can benefit from an understanding of the
Blake-Mouton Managerial Grid, which can help them identify specific areas for development
that will help them involve people more.

Transactional Leadership

This style of leadership starts with the premise that team members agree to obey their leader
totally when they take a job on: the “transaction” is (usually) that the organization pays the team
members, in return for their effort and compliance. As such, the leader has the right to “punish”
team members if their work doesn’t meet the pre-determined standard.

Team members can do little to improve their job satisfaction under transactional leadership. The
leader could give team members some control of their income/reward by using incentives that
encourage even higher standards or greater productivity. Alternatively a transactional leader
could practice “management by exception”, whereby, rather than rewarding better work, he or
she would take corrective action if the required standards were not met.

Transactional leadership is really just a way of managing rather a true leadership style, as the
focus is on short-term tasks. It has serious limitations for knowledge-based or creative work, but
remains a common style in many organizations.

Transformational Leadership

A person with this leadership style is a true leader who inspires his or her team with a shared
vision of the future. Transformational leaders are highly visible, and spend a lot of time
communicating. They don’t necessarily lead from the front, as they tend to delegate
responsibility amongst their teams. While their enthusiasm is often infectious, they can need to
be supported by “detail people”.

In many organizations, both transactional and transformational leadership are needed. The
transactional leaders (or managers) ensure that routine work is done reliably, while the
transformational leaders look after initiatives that add new value.
The transformational leadership style is the dominant leadership style taught in the How to Lead:
Discover the Leader Within You leadership program, although we do recommend that other
styles are brought as the situation demands.

Using the Right Style – Situational Leadership

While the Transformation Leadership approach is often a highly effective style to use in
business, there is no one “right” way to lead or manage that suits all situations. To choose the
most effective approach for you, you must consider:

 The skill levels and experience of the members of your team.

 The work involved (routine or new and creative).
 The organizational environment (stable or radically changing, conservative or
adventurous).
 You own preferred or natural style.

A good leader will find him or herself switching instinctively between styles according to the
people and work they are dealing with. This is often referred to as “situational leadership”.

For example, the manager of a small factory trains new machine operatives using a bureaucratic
style to ensure operatives know the procedures that achieve the right standards of product quality
and workplace safety. The same manager may adopt a more participative style of leadership
when working on production line improvement with his or her team of supervisors.

Social Responsibilities of Management

The term social responsibilities can be defined as the obligation of management towards the
society and others concerned.

Reason for Social Responsibilities: Business enterprises are creatures of society and should
respond to the demands of society. If the management does not react to changes in social
demands, the society will either force them to do so through laws or will not permit the
enterprise to survive. Therefore the longterm interests of business are best served when
management assume social responsibilities. The image of business organization liked with the
quality of its products and customer service and the extent to which it fulfills the expectations of
owners, employees, consumers, government and the community at large. For longterm success it
matters a great deal if the firm has a favourable image in the public mind. Every business
enterprise is a organ of society and its activities have impact on the social scene. Therefore, it is
important for management to consider whether their policies and actions are likely to promote
the public good, advances the basic values of society, and constitute to its stability, strength and
harmony.

Increasing concern for the social responsibility of management, it is now recognized that besides
taking care of the financial interest of owners, managers of business firms must also take into
account the interest of various other groups such as employees, consumers, the government and
the community as a whole. These interested groups are directly or indirectly affected by the
pursuit of business activities and they are the stake-holders of the business enterprise.

Responsibility towards owners: The primary responsibilities of management is to assure a fair

and reasonable rate of return on capital and fair return on investment can be determined on the
basis of difference in the risks of business in different fields of activity. With the growth of
business the shareholders can also expect appreciation in the value of their capital.

Responsibility towards employees: Management responsibility towards employees relate to the

fair wages and salaries, satisfactory work environment, labour management relations and
employee welfare. Fair wages should be fixed in the light of labor productivity, the prevailing
wage rates in the same or neighbouring areas and relative importance of jobs. Managers salaries
and allowances are expected to be linked with their responsibility, initiative and skill. But the
spread between minimum wages and highest salaries should be reasonable. Employees are
expected to build up and maintain harmonious relationships between superior and subordinates.
Another aspect of responsibility towards employees is the provision of welfare amenities like
safety and security of working conditions, medical facilities, housing, canteen, leave and
retirement benefits.

Responsibility towards consumers: In a competitive market, serving consumers is supposed to

be a prime concern of management. But in reality perfect competition does not prevail in all
product markets. In the event of shortage of supply there is no automatic correction. Besides
consumers are often victims of unfair trade practices and unethical conduct of business.
Consumer interests are thus protected to some extent with laws and pressure of organized
consumer groups. Management should anticipate these developments, satisfy consumer needs
and protect consumer interests. Goods must be of appropriate standard and quality and be
available in adequate quantities at reasonable prices. Management should avoid resorting to
hoarding or creating artificial scarcity as well as false and misleading advertisements.

Responsibility towards the Governments: As a part of their social responsibility, management

must conduct business affair in lawful manner, honestly pay all the taxes and dues, and should
not corrupt public officials for selfish ends. Business activities must also confirm to the
economic and social policies of the government.

Responsibility towards the community and society: The socially responsible role of
management in relation to the community are expected to be revealed by its policies with respect
to the employment of handicapped persons, and weaker sections of the community,
environmental protection, pollution control, setting up industries in backward areas, and
providing relief to the victims of natural calamities etc
Frederick Taylor and Scientific Management

In 1911, Frederick Winslow Taylor published his work, The Principles of Scientific
Management, in which he described how the application of the scientific method to the
management of workers greatly could improve productivity. Scientific management methods
called for optimizing the way that tasks were performed and simplifying the jobs enough so that
workers could be trained to perform their specialized sequence of motions in the one "best" way.

Prior to scientific management, work was performed by skilled craftsmen who had learned their
jobs in lengthy apprenticeships. They made their own decisions about how their job was to be
performed. Scientific management took away much of this autonomy and converted skilled
crafts into a series of simplified jobs that could be performed by unskilled workers who easily
could be trained for the tasks.

Taylor became interested in improving worker productivity early in his career when he observed
gross inefficiencies during his contact with steel workers.

Soldiering

Working in the steel industry, Taylor had observed the phenomenon of workers' purposely
operating well below their capacity, that is, soldiering. He attributed soldiering to three causes:

1. The almost universally held belief among workers that if they became more productive,
fewer of them would be needed and jobs would be eliminated.
2. Non-incentive wage systems encourage low productivity if the employee will receive the
same pay regardless of how much is produced, assuming the employee can convince the
employer that the slow pace really is a good pace for the job. Employees take great care
never to work at a good pace for fear that this faster pace would become the new
standard. If employees are paid by the quantity they produce, they fear that management
will decrease their per-unit pay if the quantity increases.
3. Workers waste much of their effort by relying on rule-of-thumb methods rather than on
optimal work methods that can be determined by scientific study of the task.

To counter soldiering and to improve efficiency, Taylor began to conduct experiments to

determine the best level of performance for certain jobs, and what was necessary to achieve this
performance.

Time Studies

Taylor argued that even the most basic, mindless tasks could be planned in a way that
dramatically would increase productivity, and that scientific management of the work was more
effective than the "initiative and incentive" method of motivating workers. The initiative and
incentive method offered an incentive to increase productivity but placed the responsibility on
the worker to figure out how to do it.
To scientifically determine the optimal way to perform a job, Taylor performed experiments that
he called time studies, (also known as time and motion studies). These studies were characterized
by the use of a stopwatch to time a worker's sequence of motions, with the goal of determining
the one best way to perform a job.

The following are examples of some of the time-and-motion studies that were performed by
Taylor and others in the era of scientific management.

Pig Iron
If workers were moving 12 1/2 tons of pig iron per day and they could be incentivized to try to
move 47 1/2 tons per day, left to their own wits they probably would become exhausted after a
few hours and fail to reach their goal. However, by first conducting experiments to determine the
amount of resting that was necessary, the worker's manager could determine the optimal timing
of lifting and resting so that the worker could move the 47 1/2 tons per day without tiring.

Not all workers were physically capable of moving 47 1/2 tons per day; perhaps only 1/8 of the
pig iron handlers were capable of doing so. While these 1/8 were not extraordinary people who
were highly prized by society, their physical capabilities were well-suited to moving pig iron.
This example suggests that workers should be selected according to how well they are suited for
a particular job.

The Science of Shoveling

In another study of the "science of shoveling", Taylor ran time studies to determine that the
optimal weight that a worker should lift in a shovel was 21 pounds. Since there is a wide range of
densities of materials, the shovel should be sized so that it would hold 21 pounds of the
substance being shoveled. The firm provided the workers with optimal shovels. The result was a
three to four fold increase in productivity and workers were rewarded with pay increases. Prior to
scientific management, workers used their own shovels and rarely had the optimal one for the
job.

Bricklaying
Others performed experiments that focused on specific motions, such as Gilbreth's bricklaying
experiments that resulted in a dramatic decrease in the number of motions required to lay bricks.
The husband and wife Gilbreth team used motion picture technology to study the motions of the
workers in some of their experiments.

Taylor's 4 Principles of Scientific Management

After years of various experiments to determine optimal work methods, Taylor proposed the
following four principles of scientific management:

1. Replace rule-of-thumb work methods with methods based on a scientific study of the
tasks.
2. Scientifically select, train, and develop each worker rather than passively leaving them to
train themselves.
 3. Cooperate with the workers to ensure that the scientifically developed methods are being
followed.
4. Divide work nearly equally between managers and workers, so that the managers apply
scientific management principles to planning the work and the workers actually perform
the tasks.

These principles were implemented in many factories, often increasing productivity by a factor
of three or more. Henry Ford applied Taylor's principles in his automobile factories, and families
even began to perform their household tasks based on the results of time and motion studies.

Drawbacks of Scientific Management

While scientific management principles improved productivity and had a substantial impact on
industry, they also increased the monotony of work. The core job dimensions of skill variety,
task identity, task significance, autonomy, and feedback all were missing from the picture of
scientific management.

While in many cases the new ways of working were accepted by the workers, in some cases they
were not. The use of stopwatches often was a protested issue and led to a strike at one factory
where "Taylorism" was being tested. Complaints that Taylorism was dehumanizing led to an
investigation by the United States Congress. Despite its controversy, scientific management
changed the way that work was done, and forms of it continue to be used today.

Deming's Contribution to Call Center Quality

In part one of this ongoing series, we posed four vital questions to be addressed in any
effective quality-monitoring program:

1) How are we, as an organization, doing at representing our call center?

2) What can we, as an organization, do to get better at representing our call center?

3) How is this particular agent doing at representing our call center?

4) What can we, as managers, do to help this agent to get better at representing our call
center?

In the November issue, we began looking at the second question, by considering boundaries
and starting points. With this as a foundation, we are ready to consider the contributions of
Edward Deming relevant to this discussion. Although first published in 1986, Deming's classic
book Out of the Crisis has stood the test of time. Deming's most famous prescriptions for
business are contained in his fourteen points and his seven deadly sins of management. (If you
haven't read the book, just do a Google search for "Deming 14 Points." There you'll find several
good introductions to his precepts.) Deming said that, in his experience, 94 percent of all
improvement opportunities come from answering vital question two and only 6 percent from
answering the third one.

Put First Things First: While individual feedback is important to give, it is secondary, not
primary. This new model helps keep first things first. It is in answering vital question two that
you stand to gain the most from Getting Quality Right. With a consistent system in place for
answering question one, you can prioritize your efforts as you dig into question two. Without
answering question one first, it's easy become distracted about improvement that really won't
make much difference in overall quality.

Time Series View of Data: Deming considered a time series view of sampled data as
important, as it is to most practitioners of total quality management. We can learn a lot from
studying quality scores through this lens. This is because quality tends to vary over time.

The key measures we have used so far in analyzing distributed data include the mean,
median, range, skewness, and standard deviation. These results are typically represented visually
in a histogram. This approach to analysis has many benefits; however, it hides variations within
that time frame.

In viewing a month's worth of data, you can learn a lot about how you did for the month, but
not about what went on within shorter periods. Therefore, you'll benefit from looking at a
supplementary point of view that shows the time dimension. That's what a run chart and its close
cousin, a control chart, can do.

Run Charts: Your randomly selected calls are already identified by a date/time stamp. All
you need to do is sort them by time and date and draw a run chart. A run chart gives you a visual
impression of how variation happens over time. Excel, Minitab, SPSS, and other statistical
programs make it easy to generate run charts.

If you plot a month's worth of sampled calls, you're going to have a busy run chart. That's
okay; it's worth considering. You can also simplify it by looking at shorter periods, or by
combining data points into subgroups. You can gain more meaning when you view the data
through a control chart.

Control Charts: Control charts are more complex than run charts. They allow you to
convert your impressions into a quantitatively verifiable form from which you can draw
conclusions. Control charts are like run charts on steroids.
 Be aware that control charts come in a variety of confusing types. In addition, different
authors tend to use slightly different terms for the various types. Therefore, wading into this
subject is like wandering into a swamp, but it's worth it because control charts allow you to
convert your visual impressions into a statistically verifiable form.

For a classic text on this subject, see Kaoru Ishikawa's Guide to Quality Control. At first
glance, the many formulas are forbidding, but stay with him. His explanations are clear, though
technical.

A Very Brief Overview: Control charts work by overlaying additional information upon run
charts. The most typical of those are two boundaries known as Upper Control Limits (UCL) and
Lower Control Limits (LCL). These limits are mathematically derived statistical boundaries of
the variation in your data; they are not boundaries that you set by management fiat.

Control limits show you, given the variation in your quality scores as viewed over time, the
range within which you can expect to see those scores vary. If all of your scores fall within the
control limits, then your call handling is known to be in statistical control. Your scores may be
in control, but you still may not like the wide range over which they vary. Alternatively, you
may be dissatisfied with the low level of your average scores. If either is the case, it is time to
address your training, coaching, or scoring processes.

This is what answering vital question two is all about. Process improvement in quality call
monitoring is largely about two things: reduce variation and raise overall performance.

Most likely, you'll find some scores that fall outside of the control limits. Those calls are
known as outliers. Any call below the LCL is one that was scored low. Any call above the UCL
was scored high. If a scored call is outside of those limits, you will want to investigate what
went on with that call. You may want to recheck your evaluator's scores. Perhaps someone
should evaluate the same call independently as a check on your calibration standards.

Once you confirm that your evaluator's scores are valid, you may want to bring that call to
that agent's attention (or supervisor's) attention. If it is high, this could be a really well handled
call, worthy of praise. If low, remedial training or coaching of that rep may be needed.

Outliers are just one way to use control charts to identify special causes in variation. You
can also use control charts as "early warning indicators" that there is something about the types
of calls you are getting, or the way that reps are handling calls, that is changing over time. There
are a variety of statistical rules of thumb that you can use when studying data points in a control
chart to determine this. Some things to look for are a run of data points heading in the same
direction or points alternating about the central tendency line. Also, you'll want to scrutinize a
cluster of scores that are higher or lower than the central line.
UNIT-2

A plant layout study is an engineering study used to analyze different physical configurations for
an industrial plant.

Plant Layout is the physical arrangement of equipment and facilities within a Plant. The Plant
Layout can be indicated on a floor plan showing the distances between different features of the
plant. Optimizing the Layout of a Plant can improve productivity, safety and quality of Products.
Unnecessary efforts of materials handling can be avoided when the Plant Layout is optimized.

This is valid for:

- Distances Material has to move
- Distances Equipment has to move
- Distances Operators have to move
- Types of Handling Equipment needed
- Energy required to move items against resistance (i.e. gravity)

Types of Plant Layout

The following are the popular types of plant layout:

(1) Process layout

(2) Product layout

(3) Combined layout

(4) Static product layout or Project layout

(5) Cellular layout

(6) Job Shop layout.

Each layout is explained in brief in the following paragraphs:

1. Process layout: It is also called functional layout. All machines performing similar type of
operations are grouped at one location in the process layout e.g. all lathes, milling machines,
cutting machines etc in the engineering shop will be clustered in their like groups. Thus all
forging will be done in one area and all the lathes will be placed in another area. In this layout,
several products may share a machine to make its full use. The sequential arrangement of the
machine group is generally, but not necessarily made on the basis of labor operations. In this
type of layout the process rather than the product has a dominating role. The product is given
secondary consideration and is moved for the purpose of operations to the process section with
like machines stationed at a particular point. This type of process is more suitable to job order
type of production. In such production the operation differs from product to product. So, it is
desirable to arrange the machines on the basis of process rather than on the products.

The typical arrangement of the machines in the process layout will be as under:

Product ‘A’ and Product ‘B’ with their differential sequence will be routed for the processing in
the manner.

Advantages: The process layout avails of the following advantages:

1) Like product layout it eliminates the duplication of machines an enables the optimum use of
installed capacity.
2) It facilitates the flexibility in production. It is more flexible than a line layout. Different
products can be made without the changes in the arrangement of machine. The production
capacity is not arranged in rigid sequence and fixed rated capacity with line balancing.
3) Like product layout, the break down of one machine does not interrupt the entire production
flow.
4) Specialization in supervision becomes possible.
5) Individual incentive schemes can be developed.

Disadvantages: The following are the main disadvantages of the process layout:

1) Due to lack of straight line sequence of production, it is impossible to maintain the line
balancing in production. So the problems of bottleneck and waiting and idle capacity arise.
2) The cost of material handling increases due to long routing and back tracking between the
processes.
3) The processing time is prolonged which reduces the inventory turnover and increase the
investments in inventories.
4) The inspection cost increases. Due to frequent changes in the machine set-up inspection is
required at each stage of the process.
5) The cost of supervision increase due to specialist supervisors and more number of supervisors
are required at each process unit.
6) The production planning and control becomes difficult due to complexities arising in routing,
scheduling, dispatching and follow up.
7) It is not possible to implement the group inventive schemes on the basis of quantity of the
products manufacturing
More space is required for internal storing, reservoir of materials and provision for the expansion
of the particular process section.

2. Product layout:

In this type of layout, the machines are arranged in the sequence as required by the particular
product. All machines as required to balance the particular product the product line layout. In
this layout, one product goes through all the machines lined up, in the order required by its
manufacture. The best known example of this type of layout is seen in motor car production. To
make this layout successful, the work load on the various machines must be balanced. The
process of getting even loading at each stage of production is called line balancing.

In this type of layout, the product is dominating over the process, in the sense that the product is
given the primary importance and the process machine must remain present at a point where the
product needs its services. Thus, unlike the process layout, the process is given secondary
importance in relation to the product. Product layout suitable for continuous flow production
with few items of production:

It does not require frequent changes in machine set up. The typical arrangement of the machines
in the product with the separate independent product lines for the Product ‘A’ and Product ‘B’
will be as shown.

Advantages: The product layout is advantageous as under:

1) Reduced material handling cost due to straight line production flow.

2) Mechanization of material handling is possible due to handling between fixed points.
3) Line balancing may eliminate bottlenecks an idle capacity.
4) Shorter operating cycle due to shorter and speedier movement of materials.
5) Maximum utilization of machine and labor capacity through developing proper balance
between them.
6) Effective control over production with reduced supervision by generalist supervisors. By
reducing the manufacturing to simple steps we can often use less skilled labor.
7) Effective quality control with reduced inspection points. It does not require frequent changes
in machine set-up.
Effective production planning and control. Unlike process layout, the routing, scheduling,
dispatching and follow up are relatively easier.
9) Maximum use of space due to straight production flow and reduced need of interim storing.
10) It facilitates the implementation of the group inventive schemes for the workers.
11) It is relatively easy to control

Methods of Production
 1. Job production
2. Batch Production
3. Mass production

1. Job production

Job production involves firms producing items that meet the specific requirements of the
customer. Often these are one-off, unique items such as those made by an architect or wedding
dressmaker. For an architect, each building or structure that he designs will be different and
tailored to the needs of each individual client.

With job production, a single worker or group of workers handles the complete task. Jobs can be
on a small-scale involving little or no technology. However, jobs can also be complex requiring
lots of technology.

With low technology jobs, production is simple and it is relatively easy to get hold of the skills
and equipment required. Good examples of the job method include:

 Hairdressers
 Tailoring
 Painting and decorating
 Plumbing and heating repairs in the home

High technology jobs are much more complex and difficult. These jobs need to be very well
project-managed and require highly qualified and skilled workers. Examples of high technology /
complex jobs include:

 Film production
 Large construction projects (e.g. the Millennium Dome)
 Installing new transport systems (e.g. trams in Sheffield and Manchester)

Advantages

The advantage of job production is that each item can be altered for the specific customer and
this provides genuine marketing benefits. A business is likely to be able to ‘add value’ to the
products and possibly create a unique selling point (USP), both of which should enable it to sell
at high prices.

Disadvantages
Whether it is based on low or high technology, Job production is an expensive process as it is
labour intensive (uses more workers compared to machines). This raises costs to firms as the
payment of wages and salaries is more expensive than the costs of running machines.

2. Batch production

As businesses grow and production volumes increase, the production process is often changed to
a “batch method”. Batch methods require that a group of items move through the production
process together, a stage at a time.

For example when a bakery bakes loaves of wholemeal bread, a large ball of wholemeal dough
will be split into several loaves which will be spread out together on a large baking tray. The
loaves on the tray will then together be cooked, wrapped and dispatched to shelves, before the
bakery starts on a separate batch of, for example, crusty white bread. Note that each loaf is
identical within a batch but that loaves can vary from batch to batch.

Batch production is a very common method of organising manufacture. Good examples include:

 Production of electronic instruments

 Fish and chip shops
 Paint and wallpaper manufacturers
 Cereal farming

Advantages

The batch method can be an advantage for businesses that produce a range of products. It is
cheaper to produce a number of each item in one go because machines can be used more
effectively, the materials can be bought in bulk and the workers can specialise in that task. There
are two particular advantages of workers being able to concentrate their skills.

 They should become more expert at their tasks, which will in turn increase productivity
(output per worker). This will lower costs, as fewer workers are needed to produce a set
amount.
 Better quality products should be produced as workers are more familiar with the task
and so can find ways of improving it.

Disadvantages

Batch production requires very careful planning to decide what batch will be produced when.
Once a batch is in production it is difficult to change, as switching to another batch takes time
and will mean a loss of output. Batch methods can also result in the build up of significant “work
in progress” or stocks (i.e. completed batches waiting for their turn to be worked on in the next
operation). This increases costs as it takes up space and raises the chance of damage to stock.
Mass production definition - business

The automated production of large quantities of identical products on a continuous basis. Mass
production is used to produce a homogeneous product at low cost.

MARKETING MANAGEMENT

Definitions of marketing

Widely used definition of marketing is:

"Marketing is a social and managerial process by which individuals and groups obtain what
they need and want through creating and exchanging products and value with others." (Kotler &
Armstrong 1987)

The mission of marketing is satisfying customer needs. That takes place in a social context. In
developed societies marketing is needed in order to satisfy the needs of society's members.
Industry is the tool of society to produce products for the satisfaction of needs.

There are broad and narrow definitions of marketing. Different types of approaches to marketing
are needed when analysing the possibilities to improve marketing.

Marketing has a connective function in society. It connects supply and demand or production and
consumption. At micro-level, marketing builds and maintains the relationship between producer
and consumer.

At business unit level, marketing can have an integrative function. It integrates all the functions
and parts of a company to serve the markets.

The narrowest definition is to see marketing as a function of a business enterprise between

production and markets taking care that products move smoothly from production to customers.

Functions of marketing
Marketing is sometimes thought of as simply the process of buying and selling. Its tasks are
much more extensive than this simple description. For a marketing system to be operative and
effective, there are three general types of functions which it must provide.

 Exchange functions:

- Buying
- selling
- pricing.

 Physical functions:

- Assembling
- transport and handling
- storage
- processing and packaging
- grading and standardization.

 Facilitating functions:

- Financing and risk-bearing

- market information
- demand and supply creation
- market research.

Exchange functions are what is commonly thought of as marketing. They involve finding a buyer
or a seller, negotiating price and transferring ownership (but not necessarily physical transfer).
These functions take place at the "market" - that is, the physical meeting point for buyers and
sellers at the point of production or via some other means of communication. At this point,
formal or informal property rights are important to ensure the reliable transfer of ownership and
to guarantee legality (e.g. those animals on sale were not stolen and will not be reclaimed).

Physical functions enable the actual flow of commodities through space and time from producer
to consumer and their transformation to a form desirable to the consumer. Assembling or
concentrating the product at convenient points allows its economical transport (i.e. getting
enough animals together to transport cheaply). This is a valuable function which is often
overlooked in the public perception of traders. Storage allows the commodity to be held until
peak season demand, thereby stabilising supply. Processing transforms the commodity into the
products desired by the consumers. Grading and standardization allow the consumer to be more
confident of the characteristics of the good being purchased.

Financing and risk-bearing are two important facilitating functions. The owner of goods at any
marketing stage must sacrifice the opportunity to use the working capital needed to buy those
goods elsewhere. Or the owner must borrow that capital. In either case, capital must be provided
by the trader or by some lending source. Regardless, cost is involved. Further, there is an implicit
cost in the risk of losing all or part of that capital through theft, spoilage, mortality or changing
market conditions. Without the willingness to provide the capital and to bear these costs, no
stage of the market chain could function. Other facilitating functions enable producers to respond
to consumer needs and thus provide goods in the locations, quantity and form desired.

These functions create the marketing environment, whose elements are:

 Market and facilities - including all of the physical infrastructure that a market may depend
on.

 Market information and intelligence - including informal and formal communication systems,
and standard weights and grades on which market information depends.

 Institutional environment - including the government policy environment, regulations and

supporting legislatio

Marketing Mix.

The marketing mix is probably the most famous marketing term. Its elements are the basic,
tactical components of a marketing plan. Also known as the Four P's, the marketing mix elements
are price, place, product, and promotion. Read on for more details on the marketing mix.

The concept is simple. Think about another common mix - a cake mix. All cakes contain eggs,
milk, flour, and sugar. However, you can alter the final cake by altering the amounts of mix
elements contained in it. So for a sweet cake add more sugar!
Some commentators will increase the marketing mix to the Five P's, to include people. Others
will increase the mix to Seven P's, to include physical evidence (such as uniforms, facilities, or
livery) and process (i.e. the whole customer experience e.g. a visit the Disney World). The term
was coined by Neil H. Borden in his article The Concept of the Marketing Mix in 1965.

Price

There are many ways to price a product. Let's have a look at some of them and try to understand
the best policy/strategy in various situations.

Place

Another element of Neil H.Borden's Marketing Mix is Place. Place is also known as channel,
distribution, or intermediary. It is the mechanism through which goods and/or services are
moved from the manufacturer/ service provider to the user or consumer

Product

 For many a product is simply the tangible, phsysical entity that they may be buying or
selling. You buy a new car and that's the product - simple! Or maybe not. When you buy
a car, is the product more complex than you first thought? The Three Levels of a Product
 The Product Life Cycle (PLC) is based upon the biological life cycle. For example, a
seed is planted (introduction); it begins to sprout (growth); it shoots out leaves and puts
down roots as it becomes an adult (maturity); after a long period as an adult the plant
begins to shrink and die out (decline).
 The Customer Life Cycle (CLC) has obvious similarities with the Product Life Cycle
(PLC). However, CLC focuses upon the creation of and delivery of lifetime value to the
customer i.e. looks at the products or services that customers NEED throughout their
lives.

Promotion

Another one of the 4P's is promotion. This includes all of the tools available to the marketer for
'marketing communication'. As with Neil H.Borden's marketing mix, marketing communications
has its own 'promotions mix.' Think of it like a cake mix, the basic ingredients are always the
same. However if you vary the amounts of one of the ingredients, the final outcome is different.

Physical Evidence

Physical Evidence is the material part of a service. Strictly speaking there are no physical
attributes to a service, so a consumer tends to rely on material cues. There are many examples of
physical evidence, including some of the following:
People

People are the most important element of any service or experience. Services tend to be produced
and consumed at the same moment, and aspects of the customer experience are altered to meet
the 'individual needs' of the person consuming it.

Process

Process is another element of the extended marketing mix, or 7P's.There are a number of
perceptions of the concept of process within the business and marketing literature. Some see
processes as a means to achieve an outcome, for example - to achieve a 30% market share a
company implements a marketing planning process.

A Summary Table of the Marketing Mix

The following table summarizes the marketing mix decisions, including a list of some of the
aspects of each of the 4Ps.

Summary of Marketing Mix Decisions

Product Price Place Promotion

Functionality List price Channel members Advertising

Appearance Discounts Channel motivation Personal selling

Quality Allowances Market coverage Public relations

Packaging Financing Locations Message

Brand Leasing options Logistics Media

Warranty Service levels Budget

Service/Support
 Channels of distribution

Distribution (or "Place") is the fourth traditional element of the marketing mix. The other three
are Product, Price and Promotion.

The Nature of Distribution Channels

Most businesses use third parties or intermediaries to bring their products to market. They try to
forge a "distribution channel" which can be defined as

"all the organisations through which a product must pass between its point of production and
consumption"

Why does a business give the job of selling its products to intermediaries? After all, using
intermediaries means giving up some control over how products are sold and who they are sold
to.

The answer lies in efficiency of distribution costs. Intermediaries are specialists in selling. They
have the contacts, experience and scale of operation which means that greater sales can be
achieved than if the producing business tried run a sales operation itself.

Functions of a Distribution Channel

The main function of a distribution channel is to provide a link between production and
consumption. Organisations that form any particular distribution channel perform many key
functions:

Information Gathering and distributing market research and intelligence - important

for marketing planning

Promotion Developing and spreading communications about offers

Contact Finding and communicating with prospective buyers

Matching Adjusting the offer to fit a buyer's needs, including grading, assembling
and packaging

Negotiation Reaching agreement on price and other terms of the offer

Physical distribution Transporting and storing goods

Financing Acquiring and using funds to cover the costs of the distribution channel
Risk taking Assuming some commercial risks by operating the channel (e.g. holding
stock)

All of the above functions need to be undertaken in any market. The question is - who performs
them and how many levels there need to be in the distribution channel in order to make it cost
effective.

Numbers of Distribution Channel Levels

Each layer of marketing intermediaries that performs some work in bringing the product to its
final buyer is a "channel level". The figure below shows some examples of channel levels for
consumer marketing channels:

In the figure above, Channel 1 is called a "direct-marketing" channel, since it has no

intermediary levels. In this case the manufacturer sells directly to customers. An example of a
direct marketing channel would be a factory outlet store. Many holiday companies also market
direct to consumers, bypassing a traditional retail intermediary - the travel agent.

The remaining channels are "indirect-marketing channels".

Channel 2 contains one intermediary. In consumer markets, this is typically a retailer. The
consumer electrical goods market in the UK is typical of this arrangement whereby producers
such as Sony, Panasonic, Canon etc. sell their goods directly to large retailers such as Comet,
Dixons and Currys which then sell the goods to the final consumers.

Channel 3 contains two intermediary levels - a wholesaler and a retailer. A wholesaler typically
buys and stores large quantities of several producers goods and then breaks into the bulk
deliveries to supply retailers with smaller quantities. For small retailers with limited order
quantities, the use of wholesalers makes economic sense. This arrangement tends to work best
where the retail channel is fragmented - i.e. not dominated by a small number of large, powerful
retailers who have an incentive to cut out the wholesaler. A good example of this channel
arrangement in the UK is the distribution of drugs.

Definition

Human Resource Management (HRM) is the function within an organization that focuses on
recruitment of, management of, and providing direction for the people who work in the
organization. Human Resource Management can also be performed by line managers.

Human Resource Management is the organizational function that deals with issues related to
people such as compensation, hiring, performance management, organization development,
safety, wellness, benefits, employee motivation, communication, administration, and training.

Manpower planning

The penalties for not being correctly staffed are costly.

 Understaffing loses the business economies of scale and specialization, orders, customers
and profits.
 Overstaffing is wasteful and expensive, if sustained, and it is costly to eliminate because
of modern legislation in respect of redundancy payments, consultation, minimum periods
of notice, etc. Very importantly, overstaffing reduces the competitive efficiency of the
business.

Planning staff levels requires that an assessment of present and future needs of the organization
be compared with present resources and future predicted resources. Appropriate steps then be
planned to bring demand and supply into balance.

Thus the first step is to take a 'satellite picture' of the existing workforce profile (numbers, skills,
ages, flexibility, gender, experience, forecast capabilities, character, potential, etc. of existing
employees) and then to adjust this for 1, 3 and 10 years ahead by amendments for normal
turnover, planned staff movements, retirements, etc, in line with the business plan for the
corresponding time frames.

The result should be a series of crude supply situations as would be the outcome of present
planning if left unmodified. (This, clearly, requires a great deal of information accretion,
classification and statistical analysis as a subsidiary aspect of personnel management.)

What future demands will be is only influenced in part by the forecast of the personnel manager,
whose main task may well be to scrutinize and modify the crude predictions of other managers.
Future staffing needs will derive from:

 Sales and production forecasts

 The effects of technological change on task needs
 Variations in the efficiency, productivity, flexibility of labor as a result of training, work
study, organizational change, new motivations, etc.
 Changes in employment practices (e.g. use of subcontractors or agency staffs, hiving-off
tasks, buying in, substitution, etc.)
 Variations, which respond to new legislation, e.g. payroll taxes or their abolition, new
health and safety requirements
 Changes in Government policies (investment incentives, regional or trade grants, etc.)

What should emerge from this 'blue sky gazing' is a 'thought out' and logical staffing demand
schedule for varying dates in the future which can then be compared with the crude supply
schedules. The comparisons will then indicate what steps must be taken to achieve a balance.

That, in turn, will involve the further planning of such recruitment, training, retraining, labor
reductions (early retirement/redundancy) or changes in workforce utilization as will bring supply
and demand into equilibrium, not just as a one–off but as a continuing workforce planning
exercise the inputs to which will need constant varying to reflect 'actual' as against predicted
experience on the supply side and changes in production actually achieved as against forecast on
the demand side
Recruitment and selection of employees

Recruitment of staff should be preceded by:

An analysis of the job to be done (i.e. an analytical study of the tasks to be performed to
determine their essential factors) written into a job description so that the selectors know what
physical and mental characteristics applicants must possess, what qualities and attitudes are
desirable and what characteristics are a decided disadvantage;

 In the case of replacement staff a critical questioning of the need to recruit at all
(replacement should rarely be an automatic process).
 Effectively, selection is 'buying' an employee (the price being the wage or salary
multiplied by probable years of service) hence bad buys can be very expensive. For that
reason some firms (and some firms for particular jobs) use external expert consultants for
recruitment and selection.
 Equally some small organizations exist to 'head hunt', i.e. to attract staff with high
reputations from existing employers to the recruiting employer. However, the 'cost' of
poor selection is such that, even for the mundane day-to-day jobs, those who recruit and
select should be well trained to judge the suitability of applicants.

The main sources of recruitment are:

 Internal promotion and internal introductions (at times desirable for morale purposes)
 Careers officers (and careers masters at schools)
 University appointment boards
 Agencies for the unemployed
 Advertising (often via agents for specialist posts) or the use of other local media (e.g.
commercial radio)

Where the organization does its own printed advertising it is useful if it has some identifying
logo as its trade mark for rapid attraction and it must take care not to offend the sex, race, etc.
antidiscrimination legislation either directly or indirectly. The form on which the applicant is to
apply (personal appearance, letter of application, completion of a form) will vary according to
the posts vacant and numbers to be recruited.

It is very desirable in many jobs that claim about experience and statements about qualifications
are thoroughly checked and that applicants unfailingly complete a health questionnaire (the latter
is not necessarily injurious to the applicants chance of being appointed as firms are required to
employ a percentage of disabled people).

Before letters of appointment are sent any doubts about medical fitness or capacity (in
employments where hygiene considerations are dominant) should be resolved by requiring
applicants to attend a medical examination. This is especially so where, as for example in the
case of apprentices, the recruitment is for a contractual period or involves the firm in training
costs.
Interviewing can be carried out by individuals (e.g. supervisor or departmental manager), by
panels of interviewers or in the form of sequential interviews by different experts and can vary
from a five minute 'chat' to a process of several days. Ultimately personal skills in judgment are
probably the most important, but techniques to aid judgment include selection testing for:

 Aptitudes (particularly useful for school leavers)

 Attainments
 General intelligence

(All of these need skilled testing and assessment.) In more senior posts other techniques are:

 Leaderless groups
 Command exercises
 Group problem solving

(These are some common techniques - professional selection organizations often use other
techniques to aid in selection.)

Training in interviewing and in appraising candidates is clearly essential to good recruitment.

Largely the former consists of teaching interviewers how to draw out the interviewee and the
latter how to xratex the candidates. For consistency (and as an aid to checking that) rating often
consists of scoring candidates for experience, knowledge, physical/mental capabilities,
intellectual levels, motivation, prospective potential, leadership abilities etc. (according to the
needs of the post). Application of the normal curve of distribution to scoring eliminates freak
judgments.

Employee motivation

To retain good staff and to encourage them to give of their best while at work requires attention
to the financial and psychological and even physiological rewards offered by the organization as
a continuous exercise.

Basic financial rewards and conditions of service (e.g. working hours per week) are determined
externally (by national bargaining or government minimum wage legislation) in many
occupations but as much as 50 per cent of the gross pay of manual workers is often the result of
local negotiations and details (e.g. which particular hours shall be worked) of conditions of
service are often more important than the basics. Hence there is scope for financial and other
motivations to be used at local levels.

As staffing needs will vary with the productivity of the workforce (and the industrial peace
achieved) so good personnel policies are desirable. The latter can depend upon other factors (like
environment, welfare, employee benefits, etc.) but unless the wage packet is accepted as 'fair and
just' there will be no motivation.

Hence while the technicalities of payment and other systems may be the concern of others, the
outcome of them is a matter of great concern to human resource management.
Increasingly the influence of behavioral science discoveries are becoming important not merely
because of the widely-acknowledged limitations of money as a motivator, but because of the
changing mix and nature of tasks (e.g. more service and professional jobs and far fewer unskilled
and repetitive production jobs).

The former demand better-educated, mobile and multi-skilled employees much more likely to be
influenced by things like job satisfaction, involvement, participation, etc. than the economically
dependent employees of yesteryear.

Hence human resource management must act as a source of information about and a source of
inspiration for the application of the findings of behavioral science. It may be a matter of
drawing the attention of senior managers to what is being achieved elsewhere and the gradual
education of middle managers to new points of view on job design, work organization and
worker autonomy.

Employee evaluation

An organization needs constantly to take stock of its workforce and to assess its performance in
existing jobs for three reasons:

 To improve organizational performance via improving the performance of individual

contributors (should be an automatic process in the case of good managers, but (about
annually) two key questions should be posed:
o What has been done to improve the performance of a person last year?
o And what can be done to improve his or her performance in the year to come?).
 To identify potential, i.e. to recognize existing talent and to use that to fill vacancies
higher in the organization or to transfer individuals into jobs where better use can be
made of their abilities or developing skills.
 To provide an equitable method of linking payment to performance where there are no
numerical criteria (often this salary performance review takes place about three months
later and is kept quite separate from 1. and 2. but is based on the same assessment).

On-the-spot managers and supervisors, not HR staffs, carry out evaluations. The personnel role is
usually that of:

 Advising top management of the principles and objectives of an evaluation system and
designing it for particular organizations and environments.
 Developing systems appropriately in consultation with managers, supervisors and staff
representatives. Securing the involvement and cooperation of appraisers and those to be
appraised.
 Assistance in the setting of objective standards of evaluation / assessment, for example:
o Defining targets for achievement;
o Explaining how to quantify and agree objectives;
o Introducing self-assessment
o Eliminating complexity and duplication.
  Publicizing the purposes of the exercise and explaining to staff how the system will be
used.
 Organizing and establishing the necessary training of managers and supervisors who will
carry out the actual evaluations/ appraisals. Not only training in principles and procedures
but also in the human relations skills necessary. (Lack of confidence in their own ability
to handle situations of poor performance is the main weakness of assessors.)
 Monitoring the scheme - ensuring it does not fall into disuse, following up on training/job
exchange etc. recommendations, reminding managers of their responsibilities.

Full-scale periodic reviews should be a standard feature of schemes since resistance to evaluation
/ appraisal schemes is common and the temptation to water down or render schemes ineffectual
is ever present (managers resent the time taken if nothing else).

Basically an evaluation / appraisal scheme is a formalization of what is done in a more casual

manner anyway (e.g. if there is a vacancy, discussion about internal moves and internal attempts
to put square pegs into 'squarer holes' are both the results of casual evaluation). Most managers
approve merit payment and that too calls for evaluation. Made a standard routine task, it aids the
development of talent, warns the inefficient or uncaring and can be an effective form of
motivation.

Industrial relations

Good industrial relations, while a recognizable and legitimate objective for an organization, are
difficult to define since a good system of industrial relations involves complex relationships
between:

(a) Workers (and their informal and formal groups, i. e. trade union, organizations and their
representatives);

(b) Employers (and their managers and formal organizations like trade and professional
associations);

(c) The government and legislation and government agencies l and 'independent' agencies like
the Advisory Conciliation and Arbitration Service.

Oversimplified, work is a matter of managers giving instructions and workers following them -
but (and even under slavery we recognize that different 'managing' produces very different
results) the variety of 'forms' which have evolved to regulate the conduct of parties (i.e. laws,
custom and practice, observances, agreements) makes the giving and receipt of instructions far
from simple. Two types of 'rule' have evolved:

 'Substantive', determining basic pay and conditions of service (what rewards workers
should receive);
 'Procedural,' determining how workers should be treated and methods and procedures.

Determining these rules are many common sense matters like:

  Financial, policy and market constraints on the parties (e.g. some unions do not have the
finance to support industrial action, some have policies not to strike, some employers are
more vulnerable than others to industrial action, some will not make changes unless
worker agreement is made first, and rewards always ultimately reflect what the market
will bear);
 The technology of production (the effect of a strike in newspaper production is
immediate -it may be months before becoming effective in shipbuilding);
 The distribution of power within the community - that tends to vary over time and with
economic conditions workers (or unions) dominating in times of full employment and
employers in times of recession.

Broadly in the Western style economies the parties (workers and employers) are free to make
their own agreements and rules. This is called 'voluntarism'. But it does not mean there is total
noninterference by the government. That is necessary to:

 Protect the weak (hence minimum wage);

 Outlaw discrimination (race or sex);
 Determine minimum standards of safety, health, hygiene and even important conditions
of service;
 To try to prevent the abuse of power by either party.

HR managers responsibilities

The personnel manager's involvement in the system of industrial relations varies from
organization to organization, but normally he or she is required to provide seven identifiable
functions, thus:

1. To keep abreast of industrial law (legislation and precedents) and to advise managers
about their responsibilities e.g. to observe requirements in respect of employing disabled
persons, not to discriminate, not to disclose 'spent' convictions of employees, to observe
codes of practice etc. in relation to discipline and redundancy, and similarly to determine
organizational policies (in conjunction with other managers) relevant to legal and moral
requirements (see also 4.).
2. To conduct (or assist in the conduct) of either local negotiations (within the plant) or
similarly to act as the employer's representative in national negotiations. This could be as
a critic or advisor in respect of trade etc. association policies or as a member of a trade
association negotiating team. Agreements could be in respect of substantive or procedural
matters. Even if not directly involved the personnel manager will advise other managers
and administrators of the outcome of negotiations.
3. To ensure that agreements reached are interpreted so as to make sense to those who must
operate them at the appropriate level within the organization (this can involve a lot of
new learning at supervisory level and new pay procedures and new recording
requirements in administration and even the teaching of new employment concepts – like
stagger systems of work - at management level).
4. To monitor the observance of agreements and to produce policies that ensure that
agreements are followed within the organization. An example would be the policy to be
 followed on the appointment of a new but experienced recruit in relation to the offered
salary where there is a choice of increments to be given for experience, ability or
qualification.
5. To correct the situations which go wrong. 'Face' is of some importance in most
organizations and operating at a 'remote' staff level personnel managers can correct
industrial relations errors made at local level without occasioning any loss of dignity
(face) at the working level. 'Human resource management' and the obscurity of its
reasoning can be blamed for matters which go wrong at plant level and for unwelcome
changes, variations of comfortable 'arrangements' and practices and unpopular
interpretation of agreements.
6. To provide the impetus (and often devise the machinery) for the introduction of joint
consultation and worker participation in decision-making in the organization. Formal
agreement in respect of working conditions and behavior could never cover every
situation likely to arise. Moreover the more demanding the task (in terms of the mental
contribution by the worker to its completion) the more highly–educated the workers need
to be and the more they will want to be consulted about and involved in the details of
work life. Matters like the rules for a flexitime system or for determining the correction
of absenteeism and the contents of jobs are three examples of the sort of matters that may
be solely decided by management in some organizations but a matter for joint
consultation (not negotiation) in others with a more twenty-first-century outlook and
philosophy. Human resource management is very involved in promoting and originating
ideas in this field.
7. To provide statistics and information about workforce numbers, costs, skills etc. as
relevant to negotiations (i.e. the cost of pay rises or compromise proposals, effect on
differentials and possible recruitment/retention consequences of this or whether
agreement needs to be known instantly); to maintain personnel records of training,
experience, achievements, qualifications, awards and possibly pension and other records;
to produce data of interest to management in respect of personnel matters like absentee
figures and costs, statistics of sickness absence, costs of welfare and other employee
services, statements about development in policies by other organizations, ideas for
innovations; to advise upon or operate directly, grievance, redundancy, disciplinary.

Provision of employee services

Attention to the mental and physical well-being of employees is normal in many organizations as
a means of keeping good staff and attracting others.

The forms this welfare can take are many and varied, from loans to the needy to counseling in
respect of personal problems.

Among the activities regarded as normal are:

 Schemes for occupational sick pay, extended sick leave and access to the firm's medical
adviser;
 Schemes for bereavement or other special leave;
  The rehabilitation of injured/unfit/ disabled employees and temporary or permanent move
to lighter work;
 The maintenance of disablement statistics and registers (there are complicated legal
requirements in respect of quotas of disabled workers and a need for 'certificates' where
quota are not fulfilled and recruitment must take place);
 Provision of financial and other support for sports, social, hobbies, activities of many
kinds which are work related;
 Provision of canteens and other catering facilities;
 Possibly assistance with financial and other aid to employees in difficulty (supervision,
maybe, of an employee managed benevolent fund or scheme);
 Provision of information handbooks,
 Running of pre-retirement courses and similar fringe activities;
 Care for the welfare aspects of health and safety legislation and provision of first-aid
training.

The location of the health and safety function within the organization varies. Commonly a split
of responsibilities exists under which 'production' or 'engineering' management cares for the
provision of safe systems of work and safe places and machines etc., but HRM is responsible for
administration, training and education in awareness and understanding of the law, and for the
alerting of all levels to new requirements.

Employee education, training and development

In general, education is 'mind preparation' and is carried out remote from the actual work area,
training is the systematic development of the attitude, knowledge, skill pattern required by a
person to perform a given task or job adequately and development is 'the growth of the
individual in terms of ability, understanding and awareness'.

Within an organization all three are necessary in order to:

 Develop workers to undertake higher-grade tasks;

 Provide the conventional training of new and young workers (e.g. as apprentices, clerks,
etc.);
 Raise efficiency and standards of performance;
 Meet legislative requirements (e.g. health and safety);
 Inform people (induction training, pre-retirement courses, etc.);

From time to time meet special needs arising from technical, legislative, and knowledge need
changes. Meeting these needs is achieved via the 'training loop'. (Schematic available in PDF
version.)

The diagnosis of other than conventional needs is complex and often depends upon the intuition
or personal experience of managers and needs revealed by deficiencies. Sources of inspiration
include:
  Common sense - it is often obvious that new machines, work systems, task requirements
and changes in job content will require workers to be prepared;
 Shortcomings revealed by statistics of output per head, performance indices, unit costs,
etc. and behavioral failures revealed by absentee figures, lateness, sickness etc. records;
 Recommendations of government and industry training organizations;
 Inspiration and innovations of individual managers and supervisors;
 Forecasts and predictions about staffing needs;
 Inspirations prompted by the technical press, training journals, reports of the experience
of others;
 The suggestions made by specialist (e.g. education and training officers, safety engineers,
work-study staff and management services personnel).

Designing training is far more than devising courses; it can include activities such as:

 Learning from observation of trained workers;

 Receiving coaching from seniors;
 Discovery as the result of working party, project team membership or attendance at
meetings;
 Job swaps within and without the organization;
 Undertaking planned reading, or follow from the use of self–teaching texts and video
tapes;
 Learning via involvement in research, report writing and visiting other works or
organizations.

So far as group training is concerned in addition to formal courses there are:

 Lectures and talks by senior or specialist managers;

 Discussion group (conference and meeting) activities;
 Briefing by senior staffs;
 Role-playing exercises and simulation of actual conditions;
 Video and computer teaching activities;
 Case studies (and discussion) tests, quizzes, panel 'games', group forums, observation
exercises and inspection and reporting techniques.

Evaluation of the effectiveness of training is done to ensure that it is cost effective, to identify
needs to modify or extend what is being provided, to reveal new needs and redefine priorities
and most of all to ensure that the objectives of the training are being met.

The latter may not be easy to ascertain where results cannot be measured mathematically. In the
case of attitude and behavioral changes sought, leadership abilities, drive and ambition fostered,
etc., achievement is a matter of the judgment of senior staffs. Exact validation might be
impossible but unless on the whole the judgments are favorable the cooperation of managers in
identifying needs, releasing personnel and assisting in training ventures will cease.

In making their judgments senior managers will question whether the efforts expended have
produced:
  More effective, efficient, flexible employees;
 Faster results in making newcomers knowledgeable and effective than would follow from
experience;
 More effective or efficient use of machinery, equipment and work procedures;
 Fewer requirements to implement redundancy (by retraining);
 Fewer accidents both personal and to property;
 Improvements in the qualifications of staff and their ability to take on tougher roles;
 Better employee loyalty to the organization with more willingness to innovate and accept
change.

Performance Appraisal
Is the process of obtaining, analyzing and recording information about the relative worth of
an employee. The focus of the performance appraisal is measuring and improving the
actual performance of the employee and also the future potential of the employee. Its aim is
to measure what an employee does.

According to Flippo, a prominent personality in the field of Human resources,

"performance appraisal is the systematic, periodic and an impartial rating of an employee’s
excellence in the matters pertaining to his present job and his potential for a better job."
Performance appraisal is a systematic way of reviewing and assessing the performance of
an employee during a given period of time and planning for his future.

It is a powerful tool to calibrate, refine and reward the performance of the employee. It
helps to analyze his achievements and evaluate his contribution towards the achievements
of the overall organizational goals.

By focusing the attention on performance, performance appraisal goes to the heart of

personnel management and reflects the management's interest in the progress of the
employees.

Objectives Of Performance appraisal:

 To review the performance of the employees over a given period of time.

 To judge the gap between the actual and the desired performance.

 To help the management in exercising organizational control.

 Helps to strengthen the relationship and communication between superior –

subordinates and management – employees.

 To diagnose the strengths and weaknesses of the individuals so as to identify the

training and development needs of the future.
  To provide feedback to the employees regarding their past performance.

 Provide information to assist in the other personal decisions in the organization.

 Provide clarity of the expectations and responsibilities of the functions to be

performed by the employees.

 To judge the effectiveness of the other human resource functions of the

organization such as recruitment, selection, training and development.

 To reduce the grievances of the employees.

Grievance Handling

A grievance is a sign of an employee's discontentment with his job or his relationship with his
colleagues. Grievances generally arise out of the day-to-day working relations in an organization.
An employee or a trade union protests against an act or policy of the management that they
consider as violating employee's rights.

One of the effective ways of minimizing and eliminating the source of an employee's grievance
is by having an ‘open door policy'. An ‘open door policy'facilitates upward communication in the
organization where employees can walk into a superiors'cabin at any time and express their
grievances. The National Commission on Labor suggested a Model Grievance Procedure, which
lays down the sequence of steps to be taken whenever a grievance is expressed.

Conflict occurs when two or more people or parties perceive an incompatibility in their goals or
expectations. There are seven methods for achieving reconciliation of conflict. These methods
are win-lose, withdrawal and retreat from argument, smoothing and playing down the difference,
arbitration, mediation, compromise and problem solving. Of all these methods ‘problem-
solving'method is most likely to bring about a win-win situation.

Essential Pre requisites of a Grievance Procedure

Every organization should have a systematic grievance procedure in order to redress the
grievances effectively. As explained above, unattended grievances may culminate in the form of
violent conflicts later on. The grievance procedure, to be sound and effective should possess
certain pre-requisites:

(a) Conformity with statutory provisions: Due consideration must be given to the
prevailing legislation while designing the grievance handling procedure.
 (b) Unambiguity: Every aspect of the grievance handling procedure should be clear and
unambiguous. All employees should know whom to approach first when they have a
grievance, whether the complaint should be written or oral, the maximum time in
which the redressal is assured, etc. The redressing official should also know the limits
within which he can take the required action.
(c) Simplicity: The grievance handling procedure should be simple and short. If the
procedure is complicated it may discourage employees and they may fail to make use
of it in a proper manner.
(d) Promptness: The grievance of the employee should be promptly handled and
necessary action must be taken immediately. This is good for both the employee and
management, because if the wrong doer is punished late, it may affect the morale of
other employees as well.
(e) Training: The supervisors and the union representatives should be properly trained in
all aspects of grievance handling beforehand or else it will complicate the problem.
(f) Follow up: The Personnel Department should keep track of the effectiveness and the
functioning of grievance handling procedure and make necessary changes to improve
it from time to time.

Steps in the Grievance Procedure

(a) Employee dissatisfaction or grievance should be identified by the management if they

are not expressed. If they are ventilated, management has to promptly acknowledge
them.
(b) The management has to define the problem properly and accurately after it is
identified/acknowledged.
(c) Complete information should be collected from all the parties relating to the
grievance. Information should be classified as facts, data, opinions, etc.
(d) The information should be analyzed, alternative solutions to the problem should be
developed and the best solution should be selected.
(e) The grievance should be redressed by implementing the solution.
(f) Implementation of the solution must be followed up at every stage in order to ensure
effective and speedy implementation.

Job evaluation

Job evaluation is the process of systematically determining a relative internal value of a job in
an organization. In all cases the idea is to evaluate the job, not the person doing it. Job evaluation
is the process of determining the worth of one job in relation to that of the other jobs in a
company so that a fair and equitable wage and salary system can be established.
Job evaluation is a practical technique, designed to enable trained and experienced staff to judge
the size of one job relative to others. It does not directly determine pay levels, but will establish
the basis for an internal ranking of jobs.

The two most common methods of job evaluation that have been used are first, whole job
ranking, where jobs are taken as a whole and ranked against each other. The second method is
one of awarding points for various aspects of the job. In the points system various aspects or
parts of the job such as education and experience required to perform the job are assessed and a
points value awarded - the higher the educational requirements of the job the higher the points
scored. The most well known points scheme was introduced by Hay management consultants in
1951. This scheme evaluates job responsibilities in the light of three major factors - know how,
problem solving and accountability.

Some Principles of Job Evaluation

 Clearly defined and identifiable jobs must exist. These jobs will be accurately described
in an agreed job description.
 All jobs in an organisation will be evaluated using an agreed job evaluation scheme.
 Job evaluators will need to gain a thorough understanding of the job
 Job evaluation is concerned with jobs, not people. It is not the person that is being
evaluated.
 The job is assessed as if it were being carried out in a fully competent and acceptable
manner.
 Job evaluation is based on judgement and is not scientific. However if applied correctly it
can enable objective judgements to be made.
 It is possible to make a judgement about a job's contribution relative to other jobs in an
organisation.
 The real test of the evaluation results is their acceptability to all participants.
 Job evaluation can aid organisational problem solving as it highlights duplication of tasks
and gaps between jobs and functions

Job Evaluation Methods

There are three basic methods of job evaluation: (1) ranking, (2) classification, (3) factor
comparison. While many variations of these methods exist in practice, the three basic approaches
are described here.

Ranking Method

Perhaps the simplest method of job evaluation is the ranking method. According to this method,
jobs are arranged from highest to lowest, in order of their value or merit to the organization. Jobs
also can be arranged according to the relative difficulty in performing them. The jobs are
examined as a whole rather than on the basis of important factors in the job; and the job at the
top of the list has the highest value and obviously the job at the bottom of the list will have the
lowest value.

Jobs are usually ranked in each department and then the department rankings are combined to
develop an organizational ranking. The following table is a hypothetical illustration of ranking of
jobs.

Table: Array of Jobs according to the Ranking Method

Rank Monthly salaries

1. Accountant Rs 3,000

2. Accounts clerk Rs 1,800

3. Purchase assistant Rs 1,700

4. Machine-operator Rs 1,400

5. Typist Rs 900

6. Office boy Rs 600

The variation in payment of salaries depends on the variation of the nature of the job performed
by the employees. The ranking method is simple to understand and practice and it is best suited
for a small organization. Its simplicity, however, works to its disadvantage in big organizations
because rankings are difficult to develop in a large, complex organization. Moreover, this kind of
ranking is highly subjective in nature and may offend many employees. Therefore, a more
scientific and fruitful way of job evaluation is called for.

Classification Method

According to this method, a predetermined number of job groups or job classes are established
and jobs are assigned to these classifications. This method places groups of jobs into job classes
or job grades. Separate classes may include office, clerical, managerial, personnel, etc.
Following is a brief description of such a classification in an office.

(a) Class I - Executives: Further classification under this category may be Office
manager, Deputy office manager, Office superintendent, Departmental supervisor,
etc.
 (b) Class II - Skilled workers: Under this category may come the Purchasing
assistant, Cashier, Receipts clerk, etc.

(c) Class III - Semiskilled workers: Under this category may come Stenotypists,
Machine-operators, Switchboard operators, etc.

(d) Class IV - Semiskilled workers: This category comprises Daftaris, File clerks,
Office boys, etc.

The job classification method is less subjective when compared to the earlier ranking method.
The system is very easy to understand and acceptable to almost all employees without hesitation.
One strong point in favor of the method is that it takes into account all the factors that a job
comprises. This system can be effectively used for a variety of jobs.

The weaknesses of the job classification method are:

 Even when the requirements of different jobs differ, they may be combined into a single
category, depending on the status a job carries.
 It is difficult to write all-inclusive descriptions of a grade.
 The method oversimplifies sharp differences between different jobs and different grades.
 When individual job descriptions and grade descriptions do not match well, the
evaluators have the tendency to classify the job using their subjective judgments.

1. Explain the introduction of capital?

Introduction

Finance is the prerequisite to commence and vary on business. It is rightly said to be the
lifeblood of the business. No growth and expansion of business can take place without
sufficient finance. It shows that no business activity is possible without finance. This is why;
every business has to make plans regarding acquisition and utilization of funds.

However efficient a firm may be in terms of production as well as marketing if it ignores the
proper management of flow of funds it certainly lands in financial crunch and the very
survival of the firm would be at a stake.

Function of finance
 the Financial Management can be broken down in to three major decisions or functions of
finance. They are: (i) the investment decision, (ii) the financing decision and (iii) the
dividend policy decision.

Investment Decision

The investment decision relates to the selection of assets in which funds will be invested by a
firm. The assets as per their duration of benefits, can be categorized into two groups: (i) long-
term assets which yield a return over a period of time in future (ii) short-term or current
assents which in the normal course of business are convertible into cash usually with in a
year. Accordingly, the asset selection decision of a firm is of two types. The investment in
long-term assets is popularly known as capital budgeting and in short-term assets, working
capital management.

1. Capital budgeting: Capital budgeting – the long – term investment decision – is

probably the most crucial financial decision of a firm. It relates to the selection of an
assent or investment proposal or course of action that benefits are likely to be available in
future over the lifetime of the project.

2. Working Capital Management: Working capital management is concerned with the

management of the current assets. As we know, the short-term survival is a pre-requisite
to long-term success. The major thrust of working capital management is the trade-off
between profitability and risk (liquidity), which are inversely related to each other. If a
firm does not have adequate working capital it may not have the ability to meet its current
obligations and thus invite the risk of bankrupt. One the other hand if the current assets
are too large the firm will be loosing the opportunity of making a good return and thus
may not serve the requirements of suppliers of funds. Thus, the profitability and liquidity
are the two major dimensions of working capital management. In addition, the individual
current assets should be efficiently managed so that neither inadequate nor unnecessary
funds are locked up.
Finance Decision

The second major decision involved in financial management is the financing decision,
which is concerned with the financing – mix or capital structure of leverage. The term capital
structure refers to the combination of debt (fixed interest sources of financing) and equity
capital (variable – dividend securities/source of funds). The financing decision of a firm
relates to the choice of the proportion of these sources to finance the investment
requirements. A higher proportion of debt implies a higher return to the shareholders and also
the higher financial risk and vice versa. A proper balance between debt and equity is a must
to ensure a trade – off between risk and return to the shareholders. A capital structure with a
reasonable proportion of debt and equity capital is called the optimum capital structure.

The second aspect of the financing decision is the determination of an appropriate capital
structure, which will result, is maximum return to the shareholders and in turn maximizes the
worth of the firm. Thus, the financing decision covers two inter-related aspects: (a) capital
structure theory, and (b) capital structure decision.

Dividend Policy decision

The third major decision of financial management is relating to dividend policy. The firm has
two alternatives with regard to management of profits of a firm. They can be either
distributed to the shareholder in the form of dividends or they can be retained in the business
or even distribute some portion and retain the remaining. The course of action to be followed
is a significant element in the dividend decision. The dividend pay out ratio i. e. the
proportion of net profits to be paid out to the shareholders should be in tune with the
investment opportunities available within the firm. The second major aspect of the dividend
decision is the study of factors determining dividend policy of a firm in practice.

2. Explain about the working capital analysis?

WORKING CAPITAL ANALYSIS

Finance is required for two purpose viz. for it establishment and to carry out the day-to-day
operations of a business. Funds are required to purchase the fixed assets such as plant,
machinery, land, building, furniture, etc, on long-term basis. Investments in these assets
represent that part of firm’s capital, which is blocked on a permanent of fixed basis and is called
fixed capital. Funds are also needed for short-term purposes such as the purchase of raw
materials, payment of wages and other day-to-day expenses, etc. and these funds are known as
working capital. In simple words working capital refers that part of the firm’s capital, which is
required for financing short term or current assets such as cash, marketable securities, debtors
and inventories. The investment in these current assets keeps revolving and being constantly
converted into cash and which in turn financed to acquire current assets. Thus the working
capital is also known as revolving or circulating capital or short-term capital.

Concept of working capital

There are two concepts of working capital:

1. Gross working capital

2. Net working capital

Gross working capital:

In the broader sense, the term working capital refers to the gross working capital. The notion of
the gross working capital refers to the capital invested in total current assets of the enterprise.
Current assets are those assets, which in the ordinary course of business, can be converted into
cash within a short period, normally one accounting year.

Examples of current assets:

1. Cash in hand and bank balance

2. Bills receivables or Accounts Receivables
3. Sundry Debtors (less provision for bad debts)
4. Short-term loans and advances.
5. Inventories of stocks, such as:
 (a) Raw materials
(b) Work – in process
(c) Stores and spares
(d) Finished goods
6. Temporary Investments of surplus funds.
7. Prepaid Expenses
8. Accrued Incomes etc.

Net working capital:

In a narrow sense, the term working capital refers to the net working capital. Networking capital
represents the excess of current assets over current liabilities.

Current liabilities are those liabilities, which are intend to be paid in the ordinary course of
business within a short period, normally one accounting year out of the current assets or the
income of the business. Net working capital may be positive or negative. When the current assets
exceed the current liabilities net working capital is positive and the negative net working capital
results when the liabilities are more then the current assets.

Examples of current liabilities:

1. Bills payable
2. Sundry Creditors or Accounts Payable.
3. Accrued or Outstanding Expanses.
4. Short term loans, advances and deposits.
5. Dividends payable
6. Bank overdraft
7. Provision for taxation etc.

Importance of working capital

Working capital is refereed to be the lifeblood and nerve center of a business. Working capital is
as essential to maintain the smooth functioning of a business as blood circulation in a human
body. No business can run successfully with out an adequate amount of working capital. The
main advantages of maintaining adequate amount of working capital are as follows:

1. Solvency of the business: Adequate working capital helps in maintaining

solvency of the business by providing uninterrupted flow of production.
2. Good will: Sufficient working capital enables a business concern to make prompt
payment and hence helps in creating and maintaining good will.
3. Easy loans: A concern having adequate working capital, high solvency and good
credit standing can arrange loans from banks and others on easy and favorable
terms.
4. Cash Discounts: Adequate working capital also enables a concern to avail cash
discounts on the purchases and hence it reduces costs.
5. Regular supply of raw materials: Sufficient working capital ensures regular
supply of raw materials and continuous production.
6. Regular payments of salaries wages and other day to daycommitments : A
company which has ample working capital can make regular payment of salaries,
wages and other day to day commitments which raises the morale of its
employees, increases their efficiency, reduces wastage and cost and enhances
production and profits.
7. Exploitation of favorable market conditions: The concerns with adequate
working capital only can exploit favorable market conditions such as purchasing
its requirements in bulk when the prices are lower.
8. Ability to face crisis: Adequate working capital enables a concern to face
business crisis in emergencies.

UNIT-3

1.Explaain the Introduction of Economics?

“Economic activities”. It was only during the eighteenth century that Adam Smith, the Father of
Economics, defined economics as the study of nature and uses of national wealth’.

Dr. Alfred Marshall, one of the greatest economists of the nineteenth century, writes “Economics
is a study of man’s actions in the ordinary business of life: it enquires how he gets his income
and how he uses it”.
 Prof. Lionel Robbins defined Economics as “the science, which studies human behaviour as a
relationship between ends and scarce means which have alternative uses”. With this, the focus of
economics shifted from ‘wealth’ to human behaviour’.

Lord Keynes defined economics as ‘the study of the administration of scarce means and the
determinants of employments and income”.

Microeconomics

The study of an individual consumer or a firm is called microeconomics (also called the Theory
of Firm). Micro means ‘one millionth’. Microeconomics deals with behavior and problems of
single individual and of micro organization. Managerial economics has its roots in
microeconomics and it deals with the micro or individual enterprises. It is concerned with the
application of the concepts such as price theory, Law of Demand and theories of market structure
and so on.

Macroeconomics

The study of ‘aggregate’ or total level of economics activity in a country is called

macroeconomics. It studies the flow of economics resources or factors of production (such as
land, labour, capital, organisation and technology)

Management

Management is the science and art of getting things done through people in formally organized
groups. It is necessary that every organisation be well managed to enable it to achieve its desired
goals. Management includes a number of functions: Planning, organizing, staffing, directing,
and controlling. The manager while directing the efforts of his staff communicates to them the
goals, objectives, policies, and procedures; coordinates their efforts; motivates them to sustain
their enthusiasm; and leads them to achieve the corporate goals.
 2.Explain about the Managerial Economics

Introduction

Managerial Economics as a subject gained popularity in USA after the publication of the book
“Managerial Economics” by Joel Dean in 1951.

Managerial Economics refers to the firm’s decision making process. It could be also interpreted
as “Economics of Management” or “Economics of Management”. Managerial Economics is also
called as “Industrial Economics” or “Business Economics”.

As Joel Dean observes managerial economics shows how economic analysis can be used in
formulating polices.

Meaning & Definition:

In the words of E. F. Brigham and J. L. Pappas Managerial Economics is “the applications of

economics theory and methodology to business administration practice”.

M. H. Spencer and Louis Siegelman explain the “Managerial Economics is the integration of
economic theory with business practice for the purpose of facilitating decision making and
forward planning by management”.

Nature of Managerial Economics

The other features of managerial economics are explained as below:

(a) Close to microeconomics: Managerial economics is concerned with finding the

solutions for different managerial problems of a particular firm. Thus, it is more close to
microeconomics.
(b) Operates against the backdrop of macroeconomics: The macroeconomics conditions of
the economy are also seen as limiting factors for the firm to operate. In other words, the
managerial economist has to be aware of the limits set by the macroeconomics
conditions such as government industrial policy, inflation and so on.
(c) Normative statements: A normative statement usually includes or implies the words
‘ought’ or ‘should’. They reflect people’s moral attitudes and are expressions of what a
team of people ought to do. For instance, it deals with statements such as ‘Government
of India should open up the economy. Such statement are based on value judgments and
express views of what is ‘good’ or ‘bad’, ‘right’ or ‘ wrong’. One problem with
normative statements is that they cannot to verify by looking at the facts, because they
mostly deal with the future. Disagreements about such statements are usually settled by
voting on them.
(d) Prescriptive actions: Prescriptive action is goal oriented. Given a problem and the
objectives of the firm, it suggests the course of action from the available alternatives for
optimal solution. If does not merely mention the concept, it also explains whether the
concept can be applied in a given context on not. For instance, the fact that variable
costs are marginal costs can be used to judge the feasibility of an export order.
(e) Applied in nature: ‘Models’ are built to reflect the real life complex business situations
and these models are of immense help to managers for decision-making. The different
areas where models are extensively used include inventory control, optimization, project
management etc. In managerial economics, we also employ case study methods to
conceptualize the problem, identify that alternative and determine the best course of
action.
(f) Offers scope to evaluate each alternative: Managerial economics provides an
opportunity to evaluate each alternative in terms of its costs and revenue. The
managerial economist can decide which is the better alternative to maximize the profits
for the firm.
(g) Interdisciplinary: The contents, tools and techniques of managerial economics are
drawn from different subjects such as economics, management, mathematics, statistics,
accountancy, psychology, organizational behavior, sociology and etc.
 (h) Assumptions and limitations: Every concept and theory of managerial economics is
based on certain assumption and as such their validity is not universal. Where there is
change in assumptions, the theory may not hold good at all.

Scope of Managerial Economics:

The scope of managerial economics refers to its area of study. Managerial economics refers to its
area of study. Managerial economics, Provides management with a strategic planning tool that
can be used to get a clear perspective of the way the business world works and what can be done
to maintain profitability in an ever-changing environment. Managerial economics is primarily
concerned with the application of economic principles and theories to five types of resource
decisions made by all types of business organizations.

a. The selection of product or service to be produced.

b. The choice of production methods and resource combinations.
c. The determination of the best price and quantity combination
d. Promotional strategy and activities.
e. The selection of the location from which to produce and sell goods or service to
consumer.

The production department, marketing and sales department and the finance department usually
handle these five types of decisions.

The scope of managerial economics covers two areas of decision making

a. Operational or Internal issues

b. Environmental or External issues

a. Operational issues:

Operational issues refer to those, which wise within the business organization and they are under
the control of the management. Those are:

1. Theory of demand and Demand Forecasting

 2. Pricing and Competitive strategy
3. Production cost analysis
4. Resource allocation
5. Profit analysis
6. Capital or Investment analysis
3. Explain the main areas of managerial economics?

1. Demand Analyses and Forecasting:

A firm can survive only if it is able to the demand for its product at the right time, within the
right quantity. Understanding the basic concepts of demand is essential for demand forecasting.
Demand analysis should be a basic activity of the firm because many of the other activities of the
firms depend upon the outcome of the demand fore cost. Demand analysis provides:

1. The basis for analyzing market influences on the firms; products and thus helps in the
adaptation to those influences.
2. Demand analysis also highlights for factors, which influence the demand for a product.
This helps to manipulate demand. Thus demand analysis studies not only the price
elasticity but also income elasticity, cross elasticity as well as the influence of advertising
expenditure with the advent of computers, demand forecasting has become an
increasingly important function of managerial economics.

2. Pricing and competitive strategy:

Pricing decisions have been always within the preview of managerial economics. Pricing policies
are merely a subset of broader class of managerial economic problems. Price theory helps to
explain how prices are determined under different types of market conditions. Competitions
analysis includes the anticipation of the response of competitions the firm’s pricing, advertising
and marketing strategies. Product line pricing and price forecasting occupy an important place
here.

3. Production and cost analysis:

Production analysis is in physical terms. While the cost analysis is in monetary terms cost
concepts and classifications, cost-out-put relationships, economies and diseconomies of scale and
production functions are some of the points constituting cost and production analysis.

4. Resource Allocation:

Managerial Economics is the traditional economic theory that is concerned with the problem of
optimum allocation of scarce resources. Marginal analysis is applied to the problem of
determining the level of output, which maximizes profit. In this respect linear programming
techniques has been used to solve optimization problems. In fact lines programming is one of the
most practical and powerful managerial decision making tools currently available.

5. Profit analysis:

Profit making is the major goal of firms. There are several constraints here an account of
competition from other products, changing input prices and changing business environment
hence in spite of careful planning, there is always certain risk involved. Managerial economics
deals with techniques of averting of minimizing risks. Profit theory guides in the measurement
and management of profit, in calculating the pure return on capital, besides future profit
planning.

6. Capital or investment analyses:

Capital is the foundation of business. Lack of capital may result in small size of operations.
Availability of capital from various sources like equity capital, institutional finance etc. may help
to undertake large-scale operations. Hence efficient allocation and management of capital is one
of the most important tasks of the managers. The major issues related to capital analysis are:

1. The choice of investment project

2. Evaluation of the efficiency of capital
 3. Most efficient allocation of capital

Knowledge of capital theory can help very much in taking investment decisions. This involves,
capital budgeting, feasibility studies, analysis of cost of capital etc.

7. Strategic planning:

Strategic planning provides management with a framework on which long-term decisions can be
made which has an impact on the behavior of the firm. The firm sets certain long-term goals and
objectives and selects the strategies to achieve the same. Strategic planning is now a new
addition to the scope of managerial economics with the emergence of multinational corporations.
The perspective of strategic planning is global.

It is in contrast to project planning which focuses on a specific project or activity. In fact the
integration of managerial economics and strategic planning has given rise to be new area of
study called corporate economics.

B. Environmental or External Issues:

An environmental issue in managerial economics refers to the general business environment in

which the firm operates. They refer to general economic, social and political atmosphere within
which the firm operates. A study of economic environment should include:

a. The type of economic system in the country.

b. The general trends in production, employment, income, prices, saving and investment.
c. Trends in the working of financial institutions like banks, financial corporations,
insurance companies
d. Magnitude and trends in foreign trade;
e. Trends in labour and capital markets;
 f. Government’s economic policies viz. industrial policy monetary policy, fiscal policy,
price policy etc.

The social environment refers to social structure as well as social organization like trade unions,
consumer’s co-operative etc. The Political environment refers to the nature of state activity,
chiefly states’ attitude towards private business, political stability etc.

The environmental issues highlight the social objective of a firm i.e.; the firm owes a
responsibility to the society. Private gains of the firm alone cannot be the goal.

The environmental or external issues relate managerial economics to macro economic theory
while operational issues relate the scope to micro economic theory. The scope of managerial
economics is ever widening with the dynamic role of big firms in a society.

QUESTIONS

1. What is managerial economics? Explain its focus are as

2. Point out the importance of managerial economics in decision making
3. What are the contributions and limitations of economic analysis in business decision
making
4. Managerial Economics is the discipline which deals with the applications of economic
theory to business management discuss.
5. Explain the fundamental concepts of managerial economics

QUIZ

1. Managerial Economics as a subject gained popularity first in______. ( )

(a) India (b) Germany (c) U.S.A (d) England

2. When the subject Managerial Economics gained popularity? ( )

 (a) 1950 (b) 1949 (c) 1951 (d) 1952

3. Which subject studies the behavior of the firm in theory and practice? ( )

(a) Micro Economics (b) Macro Economics

(c) Managerial Economics (d) Welfare Economics

4. Which subject bridges gap between Economic Theory and Management

Practice? ( )

(a) Welfare Economics (b) Micro Economics

(c) Managerial Economics (d) Macro Economics

5. Application of Economics for managerial decision-making is called____. ( )

(a) Macro Economics (b) Welfare Economics

(c) Managerial Economics (d) Micro Economics

6. Which areas covered by the subject “Managerial Economics”. ( )

(a) Operational issues (b) Environmental issues

(c) Operational & Environmental issues (d) None

7. The relationship between Managerial Economics and Economic Theory is

like that of Engineering Science to Physics (or) Medicine to ___________. ( )

(a) Mathematics (b) Economics

(c) Biology (d) Accountancy

8. Making decisions and processing information are the two Primary tasks of
 the Managers . It was explained by the subject _____________________. ( )

(a) Physics (b) Engineering Science

(c) Managerial Economics (d) Chemistry

9. Managerial Economics is close to_________Economics ( )

(a) National (b) Business (c) Micro (d) Industrial

10. The theory of firm also called as_____________. ( )

(a) Welfare Economics (b) Industrial Economics

(c) Micro Economics (d) None

11. “Any activity aimed at earning or spending money is called ____activity”. ( )

(a) Service activity (b) Accounting activity

(c) Economic activity (d) None

Note: Answer is “C” for all the above questions.

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 4.EXPLAIN THE DEMAND ANALYSIS?

Introduction & Meaning:

Demand in common parlance means the desire for an object. But in economics demand is
something more than this. According to Stonier and Hague, “Demand in economics means
demand backed up by enough money to pay for the goods demanded”. This means that the
demand becomes effective only it if is backed by the purchasing power in addition to this there
must be willingness to buy a commodity.

Thus demand in economics means the desire backed by the willingness to buy a commodity and
the purchasing power to pay. In the words of “Benham” “The demand for anything at a given
price is the amount of it which will be bought per unit of time at that Price”. (Thus demand is
always at a price for a definite quantity at a specified time.) Thus demand has three essentials –
price, quantity demanded and time. Without these, demand has to significance in economics.

LAW of Demand:

Law of demand shows the relation between price and quantity demanded of a commodity in the
market. In the words of Marshall, “the amount demand increases with a fall in price and
diminishes with a rise in price”.

A rise in the price of a commodity is followed by a reduction in demand and a fall in price is
followed by an increase in demand, if a condition of demand remains constant.

The law of demand may be explained with the help of the following demand schedule.

Demand Schedule.
 Price of Appel (In. Rs.) Quantity Demanded

10 1

8 2

6 3

4 4

2 5

When the price falls from Rs. 10 to 8 quantity demand increases from 1 to 2. In the same way as
price falls, quantity demand increases on the basis of the demand schedule we can draw the
demand curve.

Price

The demand curve DD shows the inverse relation between price and quantity demand of apple. It
is downward sloping.
Assumptions:

Law is demand is based on certain assumptions:

1. This is no change in consumers taste and preferences.

2. Income should remain constant.
3. Prices of other goods should not change.
4. There should be no substitute for the commodity
5. The commodity should not confer at any distinction
6. The demand for the commodity should be continuous
7. People should not expect any change in the price of the commodity

Exceptional demand curve:

Some times the demand curve slopes upwards from left to right. In this case the demand curve
has a positive slope.

Price
When price increases from OP to Op1 quantity demanded also increases from to OQ1 and vice
versa. The reasons for exceptional demand curve are as follows.

1. Giffen paradox:

The Giffen good or inferior good is an exception to the law of demand. When the price of an
inferior good falls, the poor will buy less and vice versa. For example, when the price of maize
falls, the poor are willing to spend more on superior goods than on maize if the price of maize
increases, he has to increase the quantity of money spent on it. Otherwise he will have to face
starvation. Thus a fall in price is followed by reduction in quantity demanded and vice versa.
“Giffen” first explained this and therefore it is called as Giffen’s paradox.

2. Veblen or Demonstration effect:

‘Veblan’ has explained the exceptional demand curve through his doctrine of conspicuous
consumption. Rich people buy certain good because it gives social distinction or prestige for
example diamonds are bought by the richer class for the prestige it possess. It the price of
diamonds falls poor also will buy is hence they will not give prestige. Therefore, rich people may
stop buying this commodity.

3. Ignorance:

Sometimes, the quality of the commodity is Judge by its price. Consumers think that the product
is superior if the price is high. As such they buy more at a higher price.

4. Speculative effect:
If the price of the commodity is increasing the consumers will buy more of it because of the fear
that it increase still further, Thus, an increase in price may not be accomplished by a decrease in
demand.

5. Fear of shortage:

During the times of emergency of war People may expect shortage of a commodity. At that time,
they may buy more at a higher price to keep stocks for the future.

5. Necessaries:

In the case of necessaries like rice, vegetables etc. people buy more even at a higher price.

Factors Affecting Demand:

There are factors on which the demand for a commodity depends. These factors are economic,
social as well as political factors. The effect of all the factors on the amount demanded for the
commodity is called Demand Function.

These factors are as follows:

1. Price of the Commodity:

The most important factor-affecting amount demanded is the price of the commodity. The
amount of a commodity demanded at a particular price is more properly called price demand.
The relation between price and demand is called the Law of Demand. It is not only the existing
price but also the expected changes in price, which affect demand.

2. Income of the Consumer:

The second most important factor influencing demand is consumer income. In fact, we can
establish a relation between the consumer income and the demand at different levels of income,
price and other things remaining the same. The demand for a normal commodity goes up when
income rises and falls down when income falls. But in case of Giffen goods the relationship is
the opposite.

3. Prices of related goods:

The demand for a commodity is also affected by the changes in prices of the related goods also.
Related goods can be of two types:

(i). Substitutes which can replace each other in use; for example, tea and coffee are
substitutes. The change in price of a substitute has effect on a commodity’s demand
in the same direction in which price changes. The rise in price of coffee shall raise
the demand for tea;

(ii). Complementary foods are those which are jointly demanded, such as pen and ink. In
such cases complementary goods have opposite relationship between price of one
commodity and the amount demanded for the other. If the price of pens goes up,
their demand is less as a result of which the demand for ink is also less. The price
and demand go in opposite direction. The effect of changes in price of a commodity on
amounts demanded of related commodities is called Cross Demand.

4. Tastes of the Consumers:

The amount demanded also depends on consumer’s taste. Tastes include fashion, habit, customs,
etc. A consumer’s taste is also affected by advertisement. If the taste for a commodity goes up,
its amount demanded is more even at the same price. This is called increase in demand. The
opposite is called decrease in demand.

5. Wealth:

The amount demanded of commodity is also affected by the amount of wealth as well as its
distribution. The wealthier are the people; higher is the demand for normal commodities. If
wealth is more equally distributed, the demand for necessaries and comforts is more. On the
other hand, if some people are rich, while the majorities are poor, the demand for luxuries is
generally higher.

6. Population:

Increase in population increases demand for necessaries of life. The composition of population
also affects demand. Composition of population means the proportion of young and old and
children as well as the ratio of men to women. A change in composition of population has an
effect on the nature of demand for different commodities.

7. Government Policy:

Government policy affects the demands for commodities through taxation. Taxing a commodity
increases its price and the demand goes down. Similarly, financial help from the government
increases the demand for a commodity while lowering its price.

8. Expectations regarding the future:

If consumers expect changes in price of commodity in future, they will change the demand at
present even when the present price remains the same. Similarly, if consumers expect their
incomes to rise in the near future they may increase the demand for a commodity just now.
9. Climate and weather:

The climate of an area and the weather prevailing there has a decisive effect on consumer’s
demand. In cold areas woolen cloth is demanded. During hot summer days, ice is very much in
demand. On a rainy day, ice cream is not so much demanded.

10. State of business:

The level of demand for different commodities also depends upon the business conditions in the
country. If the country is passing through boom conditions, there will be a marked increase in
demand. On the other hand, the level of demand goes down during depression.

ELASTICITY OF DEMAND

Elasticity of demand explains the relationship between a change in price and consequent change
in amount demanded. “Marshall” introduced the concept of elasticity of demand. Elasticity of
demand shows the extent of change in quantity demanded to a change in price.

In the words of “Marshall”, “The elasticity of demand in a market is great or small according as
the amount demanded increases much or little for a given fall in the price and diminishes much
or little for a given rise in Price”

Elastic demand: A small change in price may lead to a great change in quantity demanded. In
this case, demand is elastic.
In-elastic demand: If a big change in price is followed by a small change in demanded then the
demand in “inelastic”.

1.Explain theTypes of Elasticity of Demand?

There are three types of elasticity of demand:

1. Price elasticity of demand

2. Income elasticity of demand
3. Cross elasticity of demand

1. Price elasticity of demand:

Marshall was the first economist to define price elasticity of demand. Price elasticity of demand
measures changes in quantity demand to a change in Price. It is the ratio of percentage change in
quantity demanded to a percentage change in price.

Proportionate change in the quantity demand of commodity

Price elasticity = ------------------------------------------------------------------

Proportionate change in the price of commodity

There are five cases of price elasticity of demand

A. Perfectly elastic demand:

When small change in price leads to an infinitely large change is quantity demand, it is called
perfectly or infinitely elastic demand. In this case E=∞
The demand curve DD1 is horizontal straight line. It shows the at “OP” price any amount is
demand and if price increases, the consumer will not purchase the commodity.

B. Perfectly Inelastic Demand

In this case, even a large change in price fails to bring about a change in quantity demanded.
When price increases from ‘OP’ to ‘OP’, the quantity demanded remains the same. In other
words the response of demand to a change in Price is nil. In this case ‘E’=0.

C. Relatively elastic demand:

Demand changes more than proportionately to a change in price. i.e. a small change in price
loads to a very big change in the quantity demanded. In this case

E > 1. This demand curve will be flatter.

When price falls from ‘OP’ to ‘OP’, amount demanded in crease from “OQ’ to “OQ1’ which is
larger than the change in price.

D. Relatively in-elastic demand.

Quantity demanded changes less than proportional to a change in price. A large change in price
leads to small change in amount demanded. Here E < 1. Demanded carve will be steeper.

When price falls from “OP’ to ‘OP1 amount demanded increases from OQ to OQ1, which is
smaller than the change in price.
E. Unit elasticity of demand:

The change in demand is exactly equal to the change in price. When both are equal E=1 and
elasticity if said to be unitary.

When price falls from ‘OP’ to ‘OP1’ quantity demanded increases from ‘OP’ to ‘OP1’, quantity
demanded increases from ‘OQ’ to ‘OQ1’. Thus a change in price has resulted in an equal change
in quantity demanded so price elasticity of demand is equal to unity.

2. Income elasticity of demand:

Income elasticity of demand shows the change in quantity demanded as a result of a change in
income. Income elasticity of demand may be slated in the form of a formula.

Proportionate change in the quantity demand of commodity

Income Elasticity = ------------------------------------------------------------------

Proportionate change in the income of the people

Income elasticity of demand can be classified in to five types.

A. Zero income elasticity:

Quantity demanded remains the same, even though money income increases. Symbolically, it
can be expressed as Ey=0. It can be depicted in the following way:

As income increases from OY to OY1, quantity demanded never changes.

B. Negative Income elasticity:

When income increases, quantity demanded falls. In this case, income elasticity of demand is
negative. i.e., Ey < 0.

When income increases from OY to OY1, demand falls from OQ to OQ1.

c. Unit income elasticity:

When an increase in income brings about a proportionate increase in quantity demanded, and
then income elasticity of demand is equal to one. Ey = 1
When income increases from OY to OY1, Quantity demanded also increases from OQ to OQ1.

d. Income elasticity greater than unity:

In this case, an increase in come brings about a more than proportionate increase in quantity
demanded. Symbolically it can be written as Ey > 1.
It shows high-income elasticity of demand. When income increases from OY

to OY1, Quantity demanded increases from OQ to OQ1.

E. Income elasticity leas than unity:

When income increases quantity demanded also increases but less than proportionately. In this
case E < 1.
An increase in income from OY to OY, brings what an increase in quantity demanded from OQ
to OQ1, But the increase in quantity demanded is smaller than the increase in income. Hence,
income elasticity of demand is less than one.

3. Cross elasticity of Demand:

A change in the price of one commodity leads to a change in the quantity demanded of another
commodity. This is called a cross elasticity of demand. The formula for cross elasticity of
demand is:

Proportionate change in the quantity demand of commodity “X”

Cross elasticity = -----------------------------------------------------------------------

Proportionate change in the price of commodity “Y”

a.In case of substitutes, cross elasticity of demand is positive. Eg: Coffee and Tea

When the price of coffee increases, Quantity demanded of tea increases. Both are substitutes.

Price of Coffee
b.Incase of compliments, cross elasticity is negative. If increase in the price of one commodity
leads to a decrease in the quantity demanded of another and vice versa.

When price of car goes up from OP to OP!, the quantity demanded of petrol decreases from OQ
to OQ!. The cross-demanded curve has negative slope.

c.In case of unrelated commodities, cross elasticity of demanded is zero. A change in the price
of one commodity will not affect the quantity demanded of another.
Quantity demanded of commodity “b” remains unchanged due to a change in the price of ‘A’, as
both are unrelated goods.

2.Explain about the Factors influencing the elasticity of demand?

Elasticity of demand depends on many factors.

1. Nature of commodity:

Elasticity or in-elasticity of demand depends on the nature of the commodity i.e. whether a
commodity is a necessity, comfort or luxury, normally; the demand for Necessaries like salt, rice
etc is inelastic. On the other band, the demand for comforts and luxuries is elastic.

2. Availability of substitutes:
Elasticity of demand depends on availability or non-availability of substitutes. In case of
commodities, which have substitutes, demand is elastic, but in case of commodities, which have
no substitutes, demand is in elastic.

3. Variety of uses:

If a commodity can be used for several purposes, than it will have elastic demand. i.e. electricity.
On the other hand, demanded is inelastic for commodities, which can be put to only one use.

4. Postponement of demand:

If the consumption of a commodity can be postponed, than it will have elastic demand. On the
contrary, if the demand for a commodity cannot be postpones, than demand is in elastic. The
demand for rice or medicine cannot be postponed, while the demand for Cycle or umbrella can
be postponed.

5. Amount of money spent:

Elasticity of demand depends on the amount of money spent on the commodity. If the consumer
spends a smaller for example a consumer spends a little amount on salt and matchboxes. Even
when price of salt or matchbox goes up, demanded will not fall. Therefore, demand is in case of
clothing a consumer spends a large proportion of his income and an increase in price will reduce
his demand for clothing. So the demand is elastic.
6. Time:

Elasticity of demand varies with time. Generally, demand is inelastic during short period and
elastic during the long period. Demand is inelastic during short period because the consumers do
not have enough time to know about the change is price. Even if they are aware of the price
change, they may not immediately switch over to a new commodity, as they are accustomed to
the old commodity.

7. Range of Prices:

Range of prices exerts an important influence on elasticity of demand. At a very high price,
demand is inelastic because a slight fall in price will not induce the people buy more. Similarly at
a low price also demand is inelastic. This is because at a low price all those who want to buy the
commodity would have bought it and a further fall in price will not increase the demand.
Therefore, elasticity is low at very him and very low prices.

3.what is the Importance of Elasticity of Demand?

The concept of elasticity of demand is of much practical importance.

1. Price fixation:

Each seller under monopoly and imperfect competition has to take into account elasticity of
demand while fixing the price for his product. If the demand for the product is inelastic, he can
fix a higher price.
2. Production:

Producers generally decide their production level on the basis of demand for the product. Hence
elasticity of demand helps the producers to take correct decision regarding the level of cut put to
be produced.

3. Distribution:

Elasticity of demand also helps in the determination of rewards for factors of production. For
example, if the demand for labour is inelastic, trade unions will be successful in raising wages. It
is applicable to other factors of production.

4. International Trade:

Elasticity of demand helps in finding out the terms of trade between two countries. Terms of
trade refers to the rate at which domestic commodity is exchanged for foreign commodities.
Terms of trade depends upon the elasticity of demand of the two countries for each other goods.

5. Public Finance:

Elasticity of demand helps the government in formulating tax policies. For example, for
imposing tax on a commodity, the Finance Minister has to take into account the elasticity of
demand.

6. Nationalization:
The concept of elasticity of demand enables the government to decide about nationalization of
industries.

4.Explain about the Demand Forecasting?

Introduction:

The information about the future is essential for both new firms and those planning to expand the
scale of their production. Demand forecasting refers to an estimate of future demand for the
product.

It is an ‘objective assessment of the future course of demand”. In recent times, forecasting plays
an important role in business decision-making. Demand forecasting has an important influence
on production planning. It is essential for a firm to produce the required quantities at the right
time.

It is essential to distinguish between forecasts of demand and forecasts of sales. Sales forecast is
important for estimating revenue cash requirements and expenses. Demand forecasts relate to
production, inventory control, timing, reliability of forecast etc. However, there is not much
difference between these two terms.

Types of demand Forecasting:

Based on the time span and planning requirements of business firms, demand forecasting can be
classified in to 1. Short-term demand forecasting and

2. Long – term demand forecasting.

1. Short-term demand forecasting:

Short-term demand forecasting is limited to short periods, usually for one year. It relates to
policies regarding sales, purchase, price and finances. It refers to existing production capacity of
the firm. Short-term forecasting is essential for formulating is essential for formulating a suitable
price policy. If the business people expect of rise in the prices of raw materials of shortages, they
may buy early. This price forecasting helps in sale policy formulation. Production may be
undertaken based on expected sales and not on actual sales. Further, demand forecasting assists
in financial forecasting also. Prior information about production and sales is essential to provide
additional funds on reasonable terms.

2. Long – term forecasting:

In long-term forecasting, the businessmen should now about the long-term demand for the
product. Planning of a new plant or expansion of an existing unit depends on long-term demand.
Similarly a multi product firm must take into account the demand for different items. When
forecast are mode covering long periods, the probability of error is high. It is vary difficult to
forecast the production, the trend of prices and the nature of competition. Hence quality and
competent forecasts are essential.

Prof. C. I. Savage and T.R. Small classify demand forecasting into time types. They are 1.
Economic forecasting, 2. Industry forecasting, 3. Firm level forecasting. Economics forecasting
is concerned with the economics, while industrial level forecasting is used for inter-industry
comparisons and is being supplied by trade association or chamber of commerce. Firm level
forecasting relates to individual firm.

5.What are the Methods of Demand forecasting and explain?

Several methods are employed for forecasting demand. All these methods can be grouped under
survey method and statistical method. Survey methods and statistical methods are further
subdivided in to different categories.
1. Survey Method:

Under this method, information about the desires of the consumer and opinion of exports are
collected by interviewing them. Survey method can be divided into four type’s viz., Option
survey method; expert opinion; Delphi method and consumers interview methods.

a. Opinion survey method:

This method is also known as sales-force composite method (or) collective opinion method.
Under this method, the company asks its salesman to submit estimate of future sales in their
respective territories. Since the forecasts of the salesmen are biased due to their optimistic or
pessimistic attitude ignorance about economic developments etc. these estimates are
consolidated, reviewed and adjusted by the top executives. In case of wide differences, an
average is struck to make the forecasts realistic.

This method is more useful and appropriate because the salesmen are more knowledge. They can
be important source of information. They are cooperative. The implementation within unbiased
or their basic can be corrected.

B. Expert opinion method:

Apart from salesmen and consumers, distributors or outside experts may also e used for
forecasting. In the United States of America, the automobile companies get sales estimates
directly from their dealers. Firms in advanced countries make use of outside experts for
estimating future demand. Various public and private agencies all periodic forecasts of short or
long term business conditions.
C. Delphi Method:

A variant of the survey method is Delphi method. It is a sophisticated method to arrive at a

consensus. Under this method, a panel is selected to give suggestions to solve the problems in
hand. Both internal and external experts can be the members of the panel. Panel members one
kept apart from each other and express their views in an anonymous manner. There is also a
coordinator who acts as an intermediary among the panelists. He prepares the questionnaire and
sends it to the panelist. At the end of each round, he prepares a summary report. On the basis of
the summary report the panel members have to give suggestions. This method has been used in
the area of technological forecasting. It has proved more popular in forecasting. It has provided
more popular in forecasting non-economic rather than economic variables.

D. Consumers interview method:

In this method the consumers are contacted personally to know about their plans and preference
regarding the consumption of the product. A list of all potential buyers would be drawn and each
buyer will be approached and asked how much he plans to buy the listed product in future. He
would be asked the proportion in which he intends to buy. This method seems to be the most
ideal method for forecasting demand.

2. Statistical Methods:

Statistical method is used for long run forecasting. In this method, statistical and mathematical
techniques are used to forecast demand. This method relies on post data.

a. Time series analysis or trend projection methods:

A well-established firm would have accumulated data. These data are analyzed to determine the
nature of existing trend. Then, this trend is projected in to the future and the results are used as
the basis for forecast. This is called as time series analysis. This data can be presented either in a
tabular form or a graph. In the time series post data of sales are used to forecast future.
b. Barometric Technique:

Simple trend projections are not capable of forecasting turning paints. Under Barometric method,
present events are used to predict the directions of change in future. This is done with the help of
economics and statistical indicators. Those are (1) Construction Contracts awarded for building
materials (2) Personal income (3) Agricultural Income. (4) Employment (5) Gross national
income (6) Industrial Production (7) Bank Deposits etc.

c. Regression and correlation method:

Regression and correlation are used for forecasting demand. Based on post data the future data
trend is forecasted. If the functional relationship is analyzed with the independent variable it is
simple correction. When there are several independent variables it is multiple correlation. In
correlation we analyze the nature of relation between the variables while in regression; the extent
of relation between the variables is analyzed. The results are expressed in mathematical form.
Therefore, it is called as econometric model building. The main advantage of this method is that
it provides the values of the independent variables from within the model itself.

5.Explain about the ECONOMIES OF SCALE?

Production may be carried on a small scale or o a large scale by a firm. When a firm expands its
size of production by increasing all the factors, it secures certain advantages known as
economies of production. Marshall has classified these economies of large-scale production into
internal economies and external economies.

Internal economies are those, which are opened to a single factory or a single firm independently
of the action of other firms. They result from an increase in the scale of output of a firm and
cannot be achieved unless output increases. Hence internal economies depend solely upon the
size of the firm and are different for different firms.
External economies are those benefits, which are shared in by a number of firms or industries
when the scale of production in an industry or groups of industries increases. Hence external
economies benefit all firms within the industry as the size of the industry expands.

Causes of internal economies:

Internal economies are generally caused by two factors

1. Indivisibilities 2. Specialization.

1. Indivisibilities
Many fixed factors of production are indivisible in the sense that they must be used in a fixed
minimum size. For instance, if a worker works half the time, he may be paid half the salary. But
he cannot be chopped into half and asked to produce half the current output. Thus as output
increases the indivisible factors which were being used below capacity can be utilized to their
full capacity thereby reducing costs. Such indivisibilities arise in the case of labour, machines,
marketing, finance and research.

2. Specialization.

Division of labour, which leads to specialization, is another cause of internal economies.

Specialization refers to the limitation of activities within a particular field of production.
Specialization may be in labour, capital, machinery and place. For example, the production
process may be split into four departments relation to manufacturing, assembling, packing and
marketing under the charge of separate managers who may work under the overall charge of the
general manger and coordinate the activities of the for departments. Thus specialization will lead
to greater productive efficiency and to reduction in costs.

Internal Economies:

Internal economies may be of the following types.

A). Technical Economies.

Technical economies arise to a firm from the use of better machines and superior techniques of
production. As a result, production increases and per unit cost of production falls. A large firm,
which employs costly and superior plant and equipment, enjoys a technical superiority over a
small firm. Another technical economy lies in the mechanical advantage of using large machines.
The cost of operating large machines is less than that of operating mall machine. More over a
larger firm is able to reduce it’s per unit cost of production by linking the various processes of
production. Technical economies may also be associated when the large firm is able to utilize all
its waste materials for the development of by-products industry. Scope for specialization is also
available in a large firm. This increases the productive capacity of the firm and reduces the unit
cost of production.

B). Managerial Economies:

These economies arise due to better and more elaborate management, which only the large size
firms can afford. There may be a separate head for manufacturing, assembling, packing,
marketing, general administration etc. Each department is under the charge of an expert. Hence
the appointment of experts, division of administration into several departments, functional
specialization and scientific co-ordination of various works make the management of the firm
most efficient.

C). Marketing Economies:

The large firm reaps marketing or commercial economies in buying its requirements and in
selling its final products. The large firm generally has a separate marketing department. It can
buy and sell on behalf of the firm, when the market trends are more favorable. In the matter of
buying they could enjoy advantages like preferential treatment, transport concessions, cheap
credit, prompt delivery and fine relation with dealers. Similarly it sells its products more
effectively for a higher margin of profit.

D). Financial Economies:

The large firm is able to secure the necessary finances either for block capital purposes or for
working capital needs more easily and cheaply. It can barrow from the public, banks and other
financial institutions at relatively cheaper rates. It is in this way that a large firm reaps financial
economies.

E). Risk bearing Economies:

The large firm produces many commodities and serves wider areas. It is, therefore, able to
absorb any shock for its existence. For example, during business depression, the prices fall for
every firm. There is also a possibility for market fluctuations in a particular product of the firm.
Under such circumstances the risk-bearing economies or survival economies help the bigger firm
to survive business crisis.

F). Economies of Research:

A large firm possesses larger resources and can establish it’s own research laboratory and
employ trained research workers. The firm may even invent new production techniques for
increasing its output and reducing cost.

G). Economies of welfare:

A large firm can provide better working conditions in-and out-side the factory. Facilities like
subsidized canteens, crèches for the infants, recreation room, cheap houses, educational and
medical facilities tend to increase the productive efficiency of the workers, which helps in raising
production and reducing costs.

External Economies.
Business firm enjoys a number of external economies, which are discussed below:

A). Economies of Concentration:

When an industry is concentrated in a particular area, all the member firms reap some common
economies like skilled labour, improved means of transport and communications, banking and
financial services, supply of power and benefits from subsidiaries. All these facilities tend to
lower the unit cost of production of all the firms in the industry.

B). Economies of Information

The industry can set up an information centre which may publish a journal and pass on
information regarding the availability of raw materials, modern machines, export potentialities
and provide other information needed by the firms. It will benefit all firms and reduction in their
costs.

C). Economies of Welfare:

An industry is in a better position to provide welfare facilities to the workers. It may get land at
concessional rates and procure special facilities from the local bodies for setting up housing
colonies for the workers. It may also establish public health care units, educational institutions
both general and technical so that a continuous supply of skilled labour is available to the
industry. This will help the efficiency of the workers.

D). Economies of Disintegration:

The firms in an industry may also reap the economies of specialization. When an industry
expands, it becomes possible to spilt up some of the processes which are taken over by specialist
firms. For example, in the cotton textile industry, some firms may specialize in manufacturing
thread, others in printing, still others in dyeing, some in long cloth, some in dhotis, some in
shirting etc. As a result the efficiency of the firms specializing in different fields increases and
the unit cost of production falls.

Thus internal economies depend upon the size of the firm and external economies depend upon
the size of the industry.

UNIT-4

COST CONCEPTS:

A managerial economist must have a clear understanding of the different cost concepts for clear
business thinking and proper application. The several alternative bases of classifying cost and the
relevance of each for different kinds of problems are to be studied. The various relevant concepts
of cost are:

1. Opportunity costs and outlay costs:

Out lay cost also known as actual costs obsolete costs are those expends which are actually
incurred by the firm these are the payments made for labour, material, plant, building, machinery
traveling, transporting etc., These are all those expense item appearing in the books of account,
hence based on accounting cost concept.

On the other hand opportunity cost implies the earnings foregone on the next best alternative, has
the present option is undertaken. This cost is often measured by assessing the alternative, which
has to be scarified if the particular line is followed.

The opportunity cost concept is made use for long-run decisions. This concept is very important
in capital expenditure budgeting. This concept is very important in capital expenditure
budgeting. The concept is also useful for taking short-run decisions opportunity cost is the cost
concept to use when the supply of inputs is strictly limited and when there is an alternative. If
there is no alternative, Opportunity cost is zero. The opportunity cost of any action is therefore
measured by the value of the most favorable alternative course, which had to be foregoing if that
action is taken.

2. Explicit and implicit costs:

Explicit costs are those expenses that involve cash payments. These are the actual or business
costs that appear in the books of accounts. These costs include payment of wages and salaries,
payment for raw-materials, interest on borrowed capital funds, rent on hired land, Taxes paid etc.

Implicit costs are the costs of the factor units that are owned by the employer himself. These
costs are not actually incurred but would have been incurred in the absence of employment of
self – owned factors. The two normal implicit costs are depreciation, interest on capital etc. A
decision maker must consider implicit costs too to find out appropriate profitability of
alternatives.

3. Historical and Replacement costs:

Historical cost is the original cost of an asset. Historical cost valuation shows the cost of an asset
as the original price paid for the asset acquired in the past. Historical valuation is the basis for
financial accounts.

A replacement cost is the price that would have to be paid currently to replace the same asset.
During periods of substantial change in the price level, historical valuation gives a poor
projection of the future cost intended for managerial decision. A replacement cost is a relevant
cost concept when financial statements have to be adjusted for inflation.

4. Short – run and long – run costs:

Short-run is a period during which the physical capacity of the firm remains fixed. Any increase
in output during this period is possible only by using the existing physical capacity more
extensively. So short run cost is that which varies with output when the plant and capital
equipment in constant.

Long run costs are those, which vary with output when all inputs are variable including plant and
capital equipment. Long-run cost analysis helps to take investment decisions.

5. Out-of pocket and books costs:

Out-of pocket costs also known as explicit costs are those costs that involve current cash
payment. Book costs also called implicit costs do not require current cash payments.
Depreciation, unpaid interest, salary of the owner is examples of back costs.

But the book costs are taken into account in determining the level dividend payable during a
period. Both book costs and out-of-pocket costs are considered for all decisions. Book cost is the
cost of self-owned factors of production.

6. Fixed and variable costs:

Fixed cost is that cost which remains constant for a certain level to output. It is not affected by
the changes in the volume of production. But fixed cost per unit decrease, when the production is
increased. Fixed cost includes salaries, Rent, Administrative expenses depreciations etc.

Variable is that which varies directly with the variation is output. An increase in total output
results in an increase in total variable costs and decrease in total output results in a proportionate
decline in the total variables costs. The variable cost per unit will be constant. Ex: Raw materials,
labour, direct expenses, etc.
 7.EXPLAIN ABOUT THE OVERALL BREAKEVEN ANALYSIS?

The study of cost-volume-profit relationship is often referred as BEA. The term BEA is
interpreted in two senses. In its narrow sense, it is concerned with finding out BEP; BEP is the
point at which total revenue is equal to total cost. It is the point of no profit, no loss. In its broad
determine the probable profit at any level of production.

Assumptions:

1. All costs are classified into two – fixed and variable.

2. Fixed costs remain constant at all levels of output.
3. Variable costs vary proportionally with the volume of output.
4. Selling price per unit remains constant in spite of competition or change in the volume of
production.
5. There will be no change in operating efficiency.
6. There will be no change in the general price level.
Merits:

1. Information provided by the Break Even Chart can be understood more easily then those
contained in the profit and Loss Account and the cost statement.
2. Break Even Chart discloses the relationship between cost, volume and profit. It reveals
how changes in profit. So, it helps management in decision-making.
3. It is very useful for forecasting costs and profits long term planning and growth
4. The chart discloses profits at various levels of production.
5. It serves as a useful tool for cost control.
6. It can also be used to study the comparative plant efficiencies of the industry.
7. Analytical Break-even chart present the different elements, in the costs – direct material,
direct labour, fixed and variable overheads.

Demerits:
 1. Break-even chart presents only cost volume profits. It ignores other considerations such
as capital amount, marketing aspects and effect of government policy etc., which are
necessary in decision making.
2. It is assumed that sales, total cost and fixed cost can be represented as straight lines. In
actual practice, this may not be so.
3. It assumes that profit is a function of output. This is not always true. The firm may
increase the profit without increasing its output.
4. A major draw back of BEC is its inability to handle production and sale of multiple
products.
5. It is difficult to handle selling costs such as advertisement and sale promotion in BEC.
6. It ignores economics of scale in production.
7. The assumption of static nature of business and economic activities is a well-known
defect of BEC.

FOR PROBLEMS

1. Fixed cost
2. Variable cost
3. Contribution
4. Margin of safety
5. Angle of incidence
6. Profit volume ratio
7. Break-Even-Point

1. Fixed cost: Expenses that do not vary with the volume of production are known as fixed
expenses. Eg. Manager’s salary, rent and taxes, insurance etc. It should be noted that fixed
changes are fixed only within a certain range of plant capacity. The concept of fixed
overhead is most useful in formulating a price fixing policy. Fixed cost per unit is not fixed.
2. Variable Cost: Expenses that vary almost in direct proportion to the volume of production of
sales are called variable expenses. Eg. Electric power and fuel, packing materials consumable
stores. It should be noted that variable cost per unit is fixed.
3. Contribution: Contribution is the difference between sales and variable costs and it
contributed towards fixed costs and profit. It helps in sales and pricing policies and
measuring the profitability of different proposals. Contribution is a sure test to decide
whether a product is worthwhile to be continued among different products.

Contribution = Sales – Variable cost

Contribution = Fixed Cost + Profit.

4. Margin of safety: Margin of safety is the excess of sales over the break even sales. It can be
expressed in absolute sales amount or in percentage. It indicates the extent to which the sales
can be reduced without resulting in loss. A large margin of safety indicates the soundness of
the business. The formula for the margin of safety is:
Profit
Present sales – Break even sales or P . V. ratio

Margin of safety can be improved by taking the following steps.

1. Increasing production
2. Increasing selling price
3. Reducing the fixed or the variable costs or both
4. Substituting unprofitable product with profitable one.

5. Angle of incidence: This is the angle between sales line and total cost line at the Break-even
point. It indicates the profit earning capacity of the concern. Large angle of incidence
indicates a high rate of profit; a small angle indicates a low rate of earnings. To improve this
angle, contribution should be increased either by raising the selling price and/or by reducing
variable cost. It also indicates as to what extent the output and sales price can be changed to
attain a desired amount of profit.

6. Profit Volume Ratio is usually called P. V. ratio. It is one of the most useful ratios for
studying the profitability of business. The ratio of contribution to sales is the P/V ratio. It
may be expressed in percentage. Therefore, every organization tries to improve the P. V.
ratio of each product by reducing the variable cost per unit or by increasing the selling price
per unit. The concept of P. V. ratio helps in determining break even-point, a desired amount
of profit etc.

Contribution
The formula is, Sales X 100

Break Even Point refers to the point where total cost is equal to total revenue. It is a point
of no profit, no loss. This is also a minimum point of no profit, no loss. This is also a
minimum point of production where total costs are recovered. If sales go up beyond the
Break Even Point, organization makes a profit. If they come down, a loss is incurred.
 Fixed Expenses
1. Break Even point (Units) = Contribution per unit
Fixed expenses
2. Break Even point (In Rupees) = Contribution X sales

QUESTIONS

1. What cost concepts are mainly used for management decision making? Illustrate.

2. The PV ratio of matrix books Ltd Rs. 40% and the margin of safety Rs. 30. You are
required to work out the BEP and Net Profit. If the sales volume is Rs. 14000/-

3. A Company reported the following results for two period

Period Sales Profit

I Rs. 20,00,000 Rs. 2,00,000

II Rs. 25,00,000 Rs. 3,00,000

Ascertain the BEP, PV ratio, fixes cost and Margin of Safety.

4. Write short notes on the following

a) Profit – Volume ratio
b) Margin of Safety

5. Write short notes on: (i) Suck costs (ii) Abandonment costs

6. The information about Raj & Co are given below:

PV ratio : 20%

Fixed Cost : Rs. 36,000/-

Selling Price Per Unit: Rs. 150/-

Calculate (i) BEP in rupees (ii) BEP in Units

 (iii) Variable cost per unit

(iv) Contribution per unit

7. Define opportunity cost. List out its assumptions & Limitation.

8. (a) Explain the utility of BEA in managerial decision making

(b) How do you explain break even chart? Explain.

9. Write short motes on:

(i) Fixed cost & variable cost

(ii) Out of pocket costs & imputed costs

(iii) Explicit & implicit Costs

(iv) Short rum cost

10. Write short note on the following:

(a) PV ratio
(b) Margin of Safety
(c) Angle of incidence
(d)
2. Explain Cost/Output relationship in the short run.

3. Appraise the usefulness of BEA for a multi product organization

4. Describe the BEP with the help of a diagram and its uses in business decision making.

5. If sales in 10000 units and selling price Rs. 20/- per unit. Variable cost is Rs. 10/- per unit
and fixed cost is Rs. 80000. Find out BEP in Units and sales revenue what is profit
earned? What should be the sales for earning a profit of Rs. 60000/-
 6. How do you determine BEP in terms of physical units and sales value? Explain the
concepts of margin of safety & angle of incidence.

7. Sales are 1,10,000 producing a profit of Rs. 4000/- in period I, sales are 150000
producing a profit of Rs. 12000/- in period II. Determine BEP & fixed expenses.

8. When a Mc change does Ac changed (a) at the same rate (b) at a higher rate or (c) at a
lower rate? Illustrate your answer with a diagram.

9. Explain the relationship between MC, AC and TC assuming a short run non-linear cost
function.

10. Sale of a product amounts to 20 units per months at Rs. 10/- per unit. Fixed overheads is
Rs. 400/- per month and variable cost is Rs. 6/- per unit. There is a proposal to reduce
prices by 107. Calculate present and future P-V ratio. How many units must be sold to
earn a target profit of present level?

QUIZ

7. Break – Even- Point: If we divide the term into three words, then it does not require further
explanation.
Break-divide

Even-equal

Point-place or position

1. The cost of best alternative forgone is_______________ ( )

(a) Outlay cost (b) Past cost

(c) Opportunity cost (d) Future cost

2. If we add up total fixed cost (TFC) and total variable cost (TVC),

we get__ ( )
 (a) Average cost (b) Marginal cost

(c) Total cost (d) Future cost

3. ________ costs are theoretical costs, which are not recognized by the

Accounting system. ( )

(a) Past (b) Explicit

(c) Implicit (d) Historical

4. _____cost is the additional cost to produce an additional unit of output. ( )

(a) Incremental (b) Sunk

(c) Marginal (d) Total

5. _______ costs are the costs, which are varies with the level of output. ( )

(a) Fixed (b) Past

(c) Variable (d) Historical

6. _________________ costs are those business costs, which do not

Involve any cash payment. ( )

(a) Past (b) Historical

(c) Implicit (d) Explicit

7. The opposite of Past cost is ________________________. ( )

(a) Historical (b) Fixed cost

(c) Future cost (d) Variable cost

8. _____ is a period during which the existing physical capacity of the

Firm can be changed. ( )

(a) Market period (b) Short period

(c) Long period (d) Medium period

9. What is the formula for Profit-Volume Ratio? ( )

Sales Variable cost

(a) --------------- X 100 (b) ----------------- X 100

Contribution Sales

Contribution Fixed cost

(c) --------------- X 100 (b) ----------------- X 100

Sales Sales

10. _______ is a point of sales at which there is neither profit nor loss. ( )

(a) Maximum sales (b) Minimum sales

(c) Break-Even sales (d) Average sales

11. What is the formula for Margin of Safety? ( )

(a) Break Even sales – Actual sales (b) Maximum sales – Actual sales

(c) Actual sales – Break Even sales (d) Actual sales – Minimum sales

12. What is the formula for Break-Even Point in Units? ( )

(a) __Contribution_____ (b) __Variable cost____

Selling Price per unit Contribution per unit

(c) _ _Fixed cost _____ (d) __Variable cost____

 Contribution per unit Selling Price per unit

13. What is the Other Name of Profit Volume Ratio? ( )

(a) Cost-Volume-Profit Ratio (b) Margin of safety Ratio

(c) Marginal Ratio (d) None

14. What is the break-even sales amount, when selling price per unit

is 10/- , Variable cost per unit is 6/- and fixed cost is 40,000/-. ( )

(a) Rs. 4, 00,000/- (b) Rs. 3, 00,000/-

(c) Rs. 1, 00,000/- (d) Rs. 2, 00,000/-

INTRODUCTION TO MARKET AND

PRICING STRATEGIES

Pricing
1.EXPLAIN ABOUT THE INTRODUCTION OF PRICING?

Introduction

Pricing is an important, if not the most important function of all enterprises. Since every
enterprise is engaged in the production of some goods or/and service. Incurring some
expenditure, it must set a price for the same to sell it in the market. It is only in extreme cases
that the firm has no say in pricing its product; because there is severe or rather perfect
competition in the market of the good happens to be of such public significance that its price is
decided by the government. In an overwhelmingly large number of cases, the individual
producer plays the role in pricing its product.

It is said that if a firm were good in setting its product price it would certainly flourish in the
market. This is because the price is such a parameter that it exerts a direct influence on the
products demand as well as on its supply, leading to firm’s turnover (sales) and profit. Every
manager endeavors to find the price, which would best meet with his firm’s objective. If the
price is set too high the seller may not find enough customers to buy his product. On the other
hand, if the price is set too low the seller may not be able to recover his costs. There is a need for
the right price further, since demand and supply conditions are variable over time what is a right
price today may not be so tomorrow hence, pricing decision must be reviewed and reformulated
from time to time.

Price

Price denotes the exchange value of a unit of good expressed in terms of money. Thus the current
price of a maruti car around Rs. 2,00,000, the price of a hair cut is Rs. 25 the price of a
economics book is Rs. 150 and so on. Nevertheless, if one gives a little, if one gives a little
thought to this subject, one would realize that there is nothing like a unique price for any good.
Instead, there are multiple prices.

Equilibrium Price

The price at which demand and supply of a commodity is equal known as equilibrium price. The
demand and supply schedules of a good are shown in the table below.

Demand supply schedule

Price Demand Supply

50 100 200

40 120 180

30 150 150

20 200 110

10 300 50
Of the five possible prices in the above example, price Rs.30 would be the market-clearing price.
No other price could prevail in the market. If price is Rs. 50 supply would exceed demand and
consequently the producers of this good would not find enough customers for their demand,
thereby they would accumulate unwanted inventories of output, which, in turn, would lead to
competition among the producers, forcing price to Rs.30. Similarly if price were Rs.10, there
would be excess demand, which would give rise to competition among the buyers of good,
forcing price to Rs.30. At price Rs.30, demand equals supply and thus both producers and
consumers are satisfied. The economist calls such a price as equilibrium price.

It was seen in unit 1 that the demand for a good depends on, a number of factors and thus, every
factor, which influences either demand or supply is in fact a determinant of price. Accordingly, a
change in demand or/and supply causes price change.

2. EXPLAIN ABOUT THE MARKET?

MARKET

Market is a place where buyer and seller meet, goods and services are offered for the sale and
transfer of ownership occurs. A market may be also defined as the demand made by a certain
group of potential buyers for a good or service. The former one is a narrow concept and later
one, a broader concept. Economists describe a market as a collection of buyers and sellers who
transact over a particular product or product class (the housing market, the clothing market, the
grain market etc.). For business purpose we define a market as people or organizations with
wants (needs) to satisfy, money to spend, and the willingness to spend it. Broadly, market
represents the structure and nature of buyers and sellers for a commodity/service and the process
by which the price of the commodity or service is established. In this sense, we are referring to
the structure of competition and the process of price determination for a commodity or service.
The determination of price for a commodity or service depends upon the structure of the market
for that commodity or service (i.e., competitive structure of the market). Hence the
understanding on the market structure and the nature of competition are a pre-requisite in price
determination.

Different Market Structures

Market structure describes the competitive environment in the market for any good or service. A
market consists of all firms and individuals who are willing and able to buy or sell a particular
product. This includes firms and individuals currently engaged in buying and selling a particular
product, as well as potential entrants.

The determination of price is affected by the competitive structure of the market. This is because
the firm operates in a market and not in isolation. In marking decisions concerning economic
variables it is affected, as are all institutions in society by its environment.
3.Explain about the Perfect Competition?

Perfect competition refers to a market structure where competition among the sellers and buyers
prevails in its most perfect form. In a perfectly competitive market, a single market price prevails
for the commodity, which is determined by the forces of total demand and total supply in the
market.

Characteristics of Perfect Competition

The following features characterize a perfectly competitive market:

1. A large number of buyers and sellers: The number of buyers and sellers is large and
the share of each one of them in the market is so small that none has any influence on the
market price.
2. Homogeneous product: The product of each seller is totally undifferentiated from those
of the others.
3. Free entry and exit: Any buyer and seller is free to enter or leave the market of the
commodity.
 4. Perfect knowledge: All buyers and sellers have perfect knowledge about the market for
the commodity.
5. Indifference: No buyer has a preference to buy from a particular seller and no seller to
sell to a particular buyer.
6. Non-existence of transport costs: Perfectly competitive market also assumes the non-
existence of transport costs.
7. Perfect mobility of factors of production: Factors of production must be in a position to
move freely into or out of industry and from one firm to the other.

Under such a market no single buyer or seller plays a significant role in price determination. One
the other hand all of them jointly determine the price. The price is determined in the industry,
which is composed of all the buyers and seller for the commodity. The demand curve facing the
industry is the sum of all consumers’ demands at various prices. The industry supply curve is the
sum of all sellers’ supplies at various prices.

Pure competition and perfect competition

The term perfect competition is used in a wider sense. Pure competition has only limited
assumptions. When the assumptions, that large number of buyers and sellers, homogeneous
products, free entry and exit are satisfied, there exists pure competition. Competition becomes
perfect only when all the assumptions (features) are satisfied. Generally pure competition can be
seen in agricultural products.

Equilibrium of a firm and industry under perfect competition

Equilibrium is a position where the firm has no incentive either to expand or contrast its output.
The firm is said to be in equilibrium when it earn maximum profit. There are two conditions for
attaining equilibrium by a firm. They are:

Marginal cost is an additional cost incurred by a firm for producing and additional unit of output.
Marginal revenue is the additional revenue accrued to a firm when it sells one additional unit of
output. A firm increases its output so long as its marginal cost becomes equal to marginal
revenue. When marginal cost is more than marginal revenue, the firm reduces output as its costs
exceed the revenue. It is only at the point where marginal cost is equal to marginal revenue, and
then the firm attains equilibrium. Secondly, the marginal cost curve must cut the marginal
revenue curve from below. If marginal cost curve cuts the marginal revenue curve from above,
the firm is having the scope to increase its output as the marginal cost curve slopes downwards.
It is only with the upward sloping marginal cost curve, there the firm attains equilibrium. The
reason is that the marginal cost curve when rising cuts the marginal revenue curve from below.

The equilibrium of a perfectly competitive firm may be explained with the help of the fig. 6.2.

4.Explain about the Monopoly?

The word monopoly is made up of two syllables, Mono and poly. Mono means single while poly
implies selling. Thus monopoly is a form of market organization in which there is only one seller
of the commodity. There are no close substitutes for the commodity sold by the seller. Pure
monopoly is a market situation in which a single firm sells a product for which there is no good
substitute.

Features of monopoly

The following are the features of monopoly.

1. Single person or a firm: A single person or a firm controls the total supply of the
commodity. There will be no competition for monopoly firm. The monopolist firm is the
only firm in the whole industry.
2. No close substitute:The goods sold by the monopolist shall not have closely competition
substitutes. Even if price of monopoly product increase people will not go in far
substitute. For example: If the price of electric bulb increase slightly, consumer will not
go in for kerosene lamp.
3. Large number of Buyers: Under monopoly, there may be a large number of buyers in
the market who compete among themselves.
4. Price Maker: Since the monopolist controls the whole supply of a commodity, he is a
price-maker, and then he can alter the price.
5. Supply and Price: The monopolist can fix either the supply or the price. He cannot fix
both. If he charges a very high price, he can sell a small amount. If he wants to sell more,
he has to charge a low price. He cannot sell as much as he wishes for any price he
pleases.
6. Downward Sloping Demand Curve: The demand curve (average revenue curve) of
monopolist slopes downward from left to right. It means that he can sell more only by
lowering price.

Types of Monopoly

Monopoly may be classified into various types. The different types of monopolies are explained
below:

1. Legal Monopoly: If monopoly arises on account of legal support or as a matter of legal

privilege, it is called Legal Monopoly. Ex. Patent rights, special brands, trade means,
copyright etc.
 2. Voluntary Monopoly: To get the advantages of monopoly some private firms come
together voluntarily to control the supply of a commodity. These are called voluntary
monopolies. Generally, these monopolies arise with industrial combinations. These
voluntary monopolies are of three kinds (a) cartel (b) trust (c) holding company. It may
be called artificial monopoly.
3. Government Monopoly: Sometimes the government will take the responsibility of
supplying a commodity and avoid private interference. Ex. Water, electricity. These
monopolies, created to satisfy social wants, are formed on social considerations. These
are also called Social Monopolies.
4. Private Monopoly: If the total supply of a good is produced by a single private person or
firm, it is called private monopoly. Hindustan Lever Ltd. Is having the monopoly power
to produce Lux Soap.
5. Limited Monopoly: if the monopolist is having limited power in fixing the price of his
product, it is called as ‘Limited Monopoly’. It may be due to the fear of distant substitutes
or government intervention or the entry of rivals firms.
6. Unlimited Monopoly: If the monopolist is having unlimited power in fixing the price of
his good or service, it is called unlimited monopoly. Ex. A doctor in a village.
7. Single Price Monopoly: When the monopolist charges same price for all units of his
product, it is called single price monopoly. Ex. Tata Company charges the same price to
all the Tata Indiaca Cars of the same model.
8. Discriminating Monopoly: When a Monopolist charges different prices to different
consumers for the same product, it is called discriminating monopoly. A doctor may take
Rs.20 from a rich man and only Rs.2 from a poor man for the same treatment.
9. Natural Monopoly: Sometimes monopoly may arise due to scarcity of natural resources.
Nature provides raw materials only in some places. The owner of the place will become
monopolist. For Ex. Diamond mine in South Africa.

Pricing under Monopoly

Monopoly refers to a market situation where there is only one seller. He has complete control
over the supply of a commodity. He is therefore in a position to fix any price. Under monopoly
there is no distinction between a firm and an industry. This is because the entire industry consists
of a single firm.
Price output determination (Equilibrium Point)

The monopolistic firm attains equilibrium when its marginal cost becomes equal to the marginal
revenue. The monopolist always desires to make maximum profits. He makes maximum profits
when MC=MR. He does not increasing his output if his revenue exceeds his costs. But when the
costs exceed the revenue, the monopolist firm incur loses. Hence the monopolist curtails his
production. He produces up to that point where additional cost is equal to the additional revenue
(MR=MC). Thus point is called equilibrium point. The price output determination under
monopoly may be explained with the help of a diagram.

In the diagram 6.12 the quantity supplied or demanded is shown along X-axis. The cost or
revenue is shown along Y-axis. AC and MC are the average cost and marginal cost curves
respectively. AR and MR curves slope downwards from left to right. AC and MC and U shaped
curves. The monopolistic firm attains equilibrium when its marginal cost is equal to marginal
revenue (MC=MR). Under monopoly, the MC curve may cut the MR curve from below or from
a side. In the diagram, the above condition is satisfied at point E. At point E, MC=MR. The firm
is in equilibrium. The equilibrium output is OM.
The above diagram (Average revenue) = MQ or OP

Average cost = MR

Profit per unit = Average Revenue-Average cost=MQ-MR=QR

Total Profit = QRXSR=PQRS

The area PQRS resents the maximum profit earned by the monopoly firm.

But it is not always possible for a monopolist to earn super-normal profits. If the demand and
cost situations are not favorable, the monopolist may realize short run losses.

Through the monopolist is a price marker, due to weak demand and high costs; he suffers a loss
equal to PABC.

If AR > AC -> Abnormal or super normal profits.

If AR = AC -> Normal Profit

If AR < AC -> Loss

In the long run the firm has time to adjust his plant size or to use existing plant so as to maximize
profits.

5.Explain about the Monopolistic competition?

Perfect competition and pure monopoly are rate phenomena in the real world. Instead, almost
every market seems to exhibit characteristics of both perfect competition and monopoly. Hence
in the real world it is the state of imperfect competition lying between these two extreme limits
that work. Edward. H. Chamberlain developed the theory of monopolistic competition, which
presents a more realistic picture of the actual market structure and the nature of competition.

Characteristics of Monopolistic Competition

The important characteristics of monopolistic competition are:

1. Existence of Many firms: Industry consists of a large number of sellers, each one of
whom does not feel dependent upon others. Every firm acts independently without
bothering about the reactions of its rivals. The size is so large that an individual firm has
only a relatively small part in the total market, so that each firm has very limited control
over the price of the product. As the number is relatively large it is difficult for these
firms to determine its price- output policies without considering the possible reactions of
the rival forms. A monopolistically competitive firm follows an independent price policy.
 2. Product Differentiation: Product differentiation means that products are different in
some ways, but not altogether so. The products are not identical but the same time they
will not be entirely different from each other. IT really means that there are various
monopolist firms competing with each other. An example of monopolistic competition
and product differentiation is the toothpaste produced by various firms. The product of
each firm is different from that of its rivals in one or more respects. Different toothpastes
like Colgate, Close-up, Forehans, Cibaca, etc., provide an example of monopolistic
competition. These products are relatively close substitute for each other but not perfect
substitutes. Consumers have definite preferences for the particular verities or brands of
products offered for sale by various sellers. Advertisement, packing, trademarks, brand
names etc. help differentiation of products even if they are physically identical.
3. Large Number of Buyers: There are large number buyers in the market. But the buyers
have their own brand preferences. So the sellers are able to exercise a certain degree of
monopoly over them. Each seller has to plan various incentive schemes to retain the
customers who patronize his products.
4. Free Entry and Exist of Firms: As in the perfect competition, in the monopolistic
competition too, there is freedom of entry and exit. That is, there is no barrier as found
under monopoly.
5. Selling costs: Since the products are close substitute much effort is needed to retain the
existing consumers and to create new demand. So each firm has to spend a lot on selling
cost, which includes cost on advertising and other sale promotion activities.

Price – Output Determination under Monopolistic Competition

Since under monopolistic competition different firms produce different varieties of products,
different prices for them will be determined in the market depending upon the demand and cost
conditions. Each firm will set the price and output of its own product. Here also the profit will be
maximized when marginal revenue is equal to marginal cost.

Short-run equilibrium of the firm:

In the short-run the firm is in equilibrium when marginal Revenue = Marginal Cost. In Fig 6.15
AR is the average revenue curve. NMR marginal revenue curve, SMC short-run marginal cost
curve, SAC short-run average cost curve, MR and SMC interest at point E where output in OM
and price MQ (i.e. OP). Thus the equilibrium output or the maximum profit output is OM and the
price MQ or OP. When the price (average revenue) is above average cost a firm will be making
supernormal profit. From the figure it can be seen that AR is above AC in the equilibrium point.
As AR is above AC, this firm is making abnormal profits in the short-run. The abnormal profit
per unit is QR, i.e., the difference between AR and AC at equilibrium point and the total
supernormal profit is OR X OM. This total abnormal profits is represented by the rectangle
PQRS. As the demand curve here is highly elastic, the excess price over marginal cost is rather
low. But in monopoly the demand curve is inelastic. So the gap between price and marginal cost
will be rather large.

If the demand and cost conditions are less favorable the monopolistically competitive firm may
incur loss in the short-run fig 6.16 Illustrates this. A firm incurs loss when the price is less than
the average cost of production. MQ is the average cost and OS (i.e. MR) is the price per unit at
equilibrium output OM. QR is the loss per unit. The total loss at an output OM is OR X OM. The
rectangle PQRS represents the total loses in the short run.
Long – Run Equilibrium of the Firm:

A monopolistically competitive firm will be long – run equilibrium at the output level where
marginal cost equal to marginal revenue. Monopolistically competitive firm in the long run
attains equilibrium where MC=MR and AC=AR Fig 6.17 shows this trend.
6.Explain about the Oligopoly?

The term oligopoly is derived from two Greek words, oligos meaning a few, and pollen meaning
to sell. Oligopoly is the form of imperfect competition where there are a few firms in the market,
producing either a homogeneous product or producing products, which are close but not perfect
substitute of each other.

Characteristics of Oligopoly

The main features of oligopoly are:

1. Few Firms: There are only a few firms in the industry. Each firm contributes a sizeable
share of the total market. Any decision taken by one firm influence the actions of other
firms in the industry. The various firms in the industry compete with each other.
2. Interdependence: As there are only very few firms, any steps taken by one firm to
increase sales, by reducing price or by changing product design or by increasing
advertisement expenditure will naturally affect the sales of other firms in the industry. An
 immediate retaliatory action can be anticipated from the other firms in the industry every
time when one firm takes such a decision. He has to take this into account when he takes
decisions. So the decisions of all the firms in the industry are interdependent.
3. Indeterminate Demand Curve: The interdependence of the firms makes their demand
curve indeterminate. When one firm reduces price other firms also will make a cut in
their prices. So he firm cannot be certain about the demand for its product. Thus the
demand curve facing an oligopolistic firm loses its definiteness and thus is indeterminate
as it constantly changes due to the reactions of the rival firms.
4. Advertising and selling costs: Advertising plays a greater role in the oligopoly market
when compared to other market systems. According to Prof. William J. Banumol “it is
only oligopoly that advertising comes fully into its own”. A huge expenditure on
advertising and sales promotion techniques is needed both to retain the present market
share and to increase it. So Banumol concludes “under oligopoly, advertising can become
a life-and-death matter where a firm which fails to keep up with the advertising budget of
its competitors may find its customers drifting off to rival products.”
5. Price Rigidity: In the oligopoly market price remain rigid. If one firm reduced price it is
with the intention of attracting the customers of other firms in the industry. In order to
retain their consumers they will also reduce price. Thus the pricing decision of one firm
results in a loss to all the firms in the industry. If one firm increases price. Other firms
will remain silent there by allowing that firm to lost its customers. Hence, no firm will be
ready to change the prevailing price. It causes price rigidity in the oligopoly market.

7.Explain about the pricing methods?

Cost Based Pricing

There are three versions of the cost – based pricing. Full – cost or break even pricing, cost plus
pricing and the marginal cost pricing. Under the first version, price just equals the average (total)
cost. In the second version, some mark-up is added to the average cost in arriving at the price. In
the last version, price is set equal to the marginal cost. While all these methods appear to be easy
and straight forward, they are in fact associated with a number of difficulties. Even through
difficulties are there, the cost- oriented pricing is quite popular today.

The cost – based pricing has several strengths as well as limitations. The advantages are its
simplicity, acceptability and consistency with the target rate of return on investment and the
price stability in general. The limitations are difficulties in getting accurate estimates of cost
(particularly of the future cost rather than the historic cost) Volatile nature of the variable cost
and its ignoring of the demand side of the market etc.

Competition based pricing

Some commodities are priced according to the competition in their markets. Thus we have the
going rate method of price and the sealed bid pricing technique. Under the former a firm prices
its new product according to the prevailing prices of comparable products in the market. If the
product is new in the country, then its import cost – inclusive of the costs of certificates,
insurance, and freight and customs duty, is used as the basis for pricing, Incidentally, the price is
not necessarily equal to the import cost, but to the firm is either new in the country, or is a close
substitute or complimentary to some other products, the prices of hitherto existing bands or / and
of the related goods are taken in to a account while deciding its price. Thus, when television was
first manufactures in India, its import cost must have been a guiding force in its price
determination. Similarly, when

maruti car was first manufactured in India, it must have taken into account the prices of existing
cars, price of petrol, price of car accessories, etc. Needless to say, the going rate price could be
below or above the average cost and it could even be an economic price.
The sealed bid pricing method is quite popular in the case of construction activities and in the
disposition of used produces. In this method the prospective seller (buyers) are asked to quote
their prices through a sealed cover, all the offers are opened at a preannounce time in the
presence of all the competitors, and the one who quoted the least is awarded the contract
(purchase / sale deed). As it sound, this method is totally competition based and if the
competitors unit by any change, the buyers (seller) may have to pay (receive) an exorbitantly
high (too low) price, thus there is a great degree of risk attached to this method of pricing.

Demand Based Pricing

The demand – based pricing and strategy – based pricing are quite related. The seller knows
rather well that the demand for its product is a decreasing function of the price its sets for
product. Thus if seller wishes to sell more he must reduce the price of his product, and if he
wants a good price for his product, he could sell only a limited quantity of his good. Demand
oriented pricing rules imply establishment of prices in accordance with consumer preference and
perceptions and the intensity of demand.

Two general types demand oriented pricing rules can be identified.

i. Perceived value pricing and

ii. Differential pricing

Perceived value pricing considers the buyer’s perception of the value of the product ad the basis
of pricing. Here the pricing rule is that the firm must develop procedures for measuring the
relative value of the product as perceived by consumers. Differential pricing is nothing but price
discrimination. In involves selling a product or service for different prices in different market
segments. Price differentiation depends on geographical location of the consumers, type of
consumer, purchasing quantity, season, time of the service etc. E.g. Telephone charges, APSRTC
charges.
Strategy based pricing (new product pricing)

A firm which products a new product, if it is also new to industry, can earn very good profits it if
handles marketing carefully, because of the uniqueness of the product. The price fixed for the
new product must keep the competitors away. Earn good profits for the firm over the life of the
product and must help to get the product accepted. The company can select either skimming
pricing or penetration pricing.

While there are some firms, which follow the strategy of price penetration, there are some others
who opt for price – skimming. Under the former, firms sell their new product at a low price in
the beginning in order to catch the attention of consumers, once the product image and credibility
is established, the seller slowly starts jacking up the price to reap good profits in future. Under
this strategy, a firm might well sell its product below the cost of production and thus runs into
losses to start with but eventually it recovers all its losses and even makes good overall profits.
The Rin washing soap perhaps falls into this category. This soap was sold at a rather low price in
the beginning and the firm even distributed free samples. Today, it is quite an expensive brand
and yet it is selling very well. Under the price – skimming strategy, the new product is priced
high in the beginning, and its price is reduced gradually as it faces a dearth of buyers such a
strategy may be beneficial for products, which are fancy, but of poor quality and / or of
insignificant use over a period of time.

A prudent producer follows a good mix of the various pricing methods rather than adapting any
once of them. This is because no method is perfect and every method has certain good features
further a firm might adopt one method at one time and another method at some other accession.
QUESTIONS

1. Explain how a firm attains equilibrium in the short run and in the long run under
conditions of perfect competition.
2. Explain the following with the help of the table and diagram under perfect competition
and monopoly
(a) Total Revenue
(b) Marginal Revenue
(c) Average Revenue
3. Define monopoly. How is price under monopoly determined?
4. Explain the role of time factor in the determination of price. Also explain price-O/P
determination in case of perfect competition.
5. (a) Distinguish between perfect & imperfect markets (b) What are the different market
situations in imperfect competition.
6. “Perfect competition results in larger O/P with lower price than a monopoly” Discuss.
7. Compare between monopoly and perfect competition.
8. What is price discrimination? Explain essential conditions for price discrimination.
9. Explain the following (a) Monopoly (B) Duopoly (c) Oligopoly (d) imperfect
competition.
10. What is a market? Explain, in brief, the different market structures.
11. Monopoly is disappearing from markets. Do you agree with this statement? Do you
advocate for monopoly to continue in market situations.

UNIT - V

BUSINESS AND NEW ECONOMIC ENVIRONMENT

1. Explain about the business?

Imagine you want to do business. Which are you interested in? For example, you want to get into
InfoTech industry. What can you do in this industry? Which one do you choose? The following
are the alternatives you have on hand:

 You can bye and sell

 You can set up a small/medium/large industry to manufacture
 You can set up a workshop to repair
  You can develop software
 You can design hardware
 You can be a consultant/trouble-shooter

If you choose any one or more of the above, you have chosen the line of activity. The next step
for you is to decide whether.

 You want to be only owner (It means you what to be sole trader) or
 You want to take some more professionals as co-owners along with you (If means you
what to from partnership with others as partners) or
 You want to be a global player by mobilizing large resources across the country/world
 You want to bring all like-minded people to share the benefits of the common enterprise
(You want to promote a joint stock company) or
 You want to involve government in the IT business (here you want to suggest
government to promote a public enterprise!)

To decide this, it is necessary to know how to evaluate each of these alternatives.

Factors affecting the choice of form of business organization

Before we choose a particular form of business organization, let us study what factors affect such
a choice? The following are the factors affecting the choice of a business organization:

1. Easy to start and easy to close: The form of business organization should be such that it
should be easy to close. There should not be hassles or long procedures in the process of
setting up business or closing the same.
2. Division of labour: There should be possibility to divide the work among the available
owners.
3. Large amount of resources: Large volume of business requires large volume of
resources. Some forms of business organization do not permit to raise larger resources.
Select the one which permits to mobilize the large resources.
4. Liability:The liability of the owners should be limited to the extent of money invested in
business. It is better if their personal properties are not brought into business to make up
the losses of the business.
 5. Secrecy:The form of business organization you select should be such that it should
permit to take care of the business secrets. We know that century old business units are
still surviving only because they could successfully guard their business secrets.
6. Transfer of ownership:There should be simple procedures to transfer the ownership to
the next legal heir.
7. Ownership, Management and control:If ownership, management and control are in the
hands of one or a small group of persons, communication will be effective and
coordination will be easier. Where ownership, management and control are widely
distributed, it calls for a high degree of professional’s skills to monitor the performance
of the business.
8. Continuity: The business should continue forever and ever irrespective of the
uncertainties in future.
9. Quick decision-making:Select such a form of business organization, which permits you
to take decisions quickly and promptly. Delay in decisions may invalidate the relevance
of the decisions.
10. Personal contact with customer:Most of the times, customers give us clues to improve
business. So choose such a form, which keeps you close to the customers.
11. Flexibility: In times of rough weather, there should be enough flexibility to shift from
one business to the other. Thelesser the funds committed in a particular business, the
better it is.
12. Taxation: More profit means more tax. Choose such a form, which permits to pay low
tax.

These are the parameters against which we can evaluate each of the available forms of business
organizations.

2. Explain about the sole trader?

SOLE TRADER

The sole trader is the simplest, oldest and natural form of business organization. It is also called
sole proprietorship. ‘Sole’ means one. ‘Sole trader’ implies that there is only one trader who is
the owner of the business.

It is a one-man form of organization wherein the trader assumes all the risk of ownership
carrying out the business with his own capital, skill and intelligence. He is the boss for himself.
He has total operational freedom. He is the owner, Manager and controller. He has total freedom
and flexibility. Full control lies with him. He can take his own decisions. He can choose or drop
a particular product or business based on its merits. He need not discuss this with anybody. He is
responsible for himself. This form of organization is popular all over the world. Restaurants,
Supermarkets, pan shops, medical shops, hosiery shops etc.

Features

 It is easy to start a business under this form and also easy to close.
 He introduces his own capital. Sometimes, he may borrow, if necessary
 He enjoys all the profits and in case of loss, he lone suffers.
 He has unlimited liability which implies that his liability extends to his personal
properties in case of loss.
 He has a high degree of flexibility to shift from one business to the other.
 Business secretes can be guarded well
 There is no continuity. The business comes to a close with the death, illness or insanity of
the sole trader. Unless, the legal heirs show interest to continue the business, the business
cannot be restored.
 He has total operational freedom. He is the owner, manager and controller.
 He can be directly in touch with the customers.
 He can take decisions very fast and implement them promptly.
 Rates of tax, for example, income tax and so on are comparatively very low.

Advantages

The following are the advantages of the sole trader from of business organization:

1. Easy to start and easy to close : Formation of a sole trader from of organization is
relatively easy even closing the business is easy.
2. Personal contact with customers directly: Based on the tastes and preferences of the
customers the stocks can be maintained.
3. Prompt decision-making: To improve the quality of services to the customers, he can
take any decision and implement the same promptly. He is the boss and he is responsible
for his business Decisions relating to growth or expansion can be made promptly.
4. High degree of flexibility: Based on the profitability, the trader can decide to continue or
change the business, if need be.
5. Secrecy: Business secrets can well be maintained because there is only one trader.
 6. Low rate of taxation: The rate of income tax for sole traders is relatively very low.
7. Direct motivation: If there are profits, all the profits belong to the trader himself. In
other words. If he works more hard, he will get more profits. This is the direct motivating
factor. At the same time, if he does not take active interest, he may stand to lose badly
also.
8. Total Control: The ownership, management and control are in the hands of the sole
trader and hence it is easy to maintain the hold on business.
9. Minimum interference from government: Except in matters relating to public interest,
government does not interfere in the business matters of the sole trader. The sole trader is
free to fix price for his products/services if he enjoys monopoly market.
10. Transferability: The legal heirs of the sole trader may take the possession of the
business.

Disadvantages

The following are the disadvantages of sole trader form:

1. Unlimited liability: The liability of the sole trader is unlimited. It means that the sole
trader has to bring his personal property to clear off the loans of his business. From the
legal point of view, he is not different from his business.
2. Limited amounts of capital: The resources a sole trader can mobilize cannot be very
large and hence this naturally sets a limit for the scale of operations.
3. No division of labour: All the work related to different functions such as marketing,
production, finance, labour and so on has to be taken care of by the sole trader himself.
There is nobody else to take his burden. Family members and relatives cannot show as
much interest as the trader takes.
4. Uncertainty: There is no continuity in the duration of the business. On the death,
insanity of insolvency the business may be come to an end.
5. Inadequate for growth and expansion: This from is suitable for only small size, one-
man-show type of organizations. This may not really work out for growing and
expanding organizations.
6. Lack of specialization: The services of specialists such as accountants, market
researchers, consultants and so on, are not within the reach of most of the sole traders.
7. More competition: Because it is easy to set up a small business, there is a high degree of
competition among the small businessmen and a few who are good in taking care of
customer requirements along can service.
 8. Low bargaining power: The sole trader is the in the receiving end in terms of loans or
supply of raw materials. He may have to compromise many times regarding the terms
and conditions of purchase of materials or borrowing loans from the finance houses or
banks.

3. Explain about the partnership?

PARTNERSHIP

Partnership is an improved from of sole trader in certain respects. Where there are like-minded
persons with resources, they can come together to do the business and share the profits/losses of
the business in an agreed ratio. Persons who have entered into such an agreement are
individually called ‘partners’ and collectively called ‘firm’. The relationship among partners is
called a partnership.

Indian Partnership Act, 1932 defines partnership as the relationship between two or more persons
who agree to share the profits of the business carried on by all or any one of them acting for all.

Features

1. Relationship: Partnership is a relationship among persons. It is relationship resulting out

of an agreement.
2. Two or more persons: There should be two or more number of persons.
3. There should be a business: Business should be conducted.
4. Agreement: Persons should agree to share the profits/losses of the business
5. Carried on by all or any one of them acting for all: The business can be carried on by
all or any one of the persons acting for all. This means that the business can be carried on
by one person who is the agent for all other persons. Every partner is both an agent and a
principal. Agent for other partners and principal for himself. All the partners are agents
and the ‘partnership’ is their principal.

The following are the other features:

 (a) Unlimited liability: The liability of the partners is unlimited. The partnership and
partners, in the eye of law, and not different but one and the same. Hence, the partners
have to bring their personal assets to clear the losses of the firm, if any.
(b) Number of partners: According to the Indian Partnership Act, the minimum number of
partners should be two and the maximum number if restricted, as given below:
 10 partners is case of banking business
 20 in case of non-banking business
(c) Division of labour: Because there are more than two persons, the work can be divided
among the partners based on their aptitude.
(d) Personal contact with customers: The partners can continuously be in touch with the
customers to monitor their requirements.
(e) Flexibility: All the partners are likeminded persons and hence they can take any decision
relating to business.

Partnership Deed

The written agreement among the partners is called ‘the partnership deed’. It contains the terms
and conditions governing the working of partnership. The following are contents of the
partnership deed.

1. Names and addresses of the firm and partners

2. Nature of the business proposed
3. Duration
4. Amount of capital of the partnership and the ratio for contribution by each of the partners.
5. Their profit sharing ration (this is used for sharing losses also)
6. Rate of interest charged on capital contributed, loans taken from the partnership and the
amounts drawn, if any, by the partners from their respective capital balances.
7. The amount of salary or commission payable to any partner
8. Procedure to value good will of the firm at the time of admission of a new partner,
retirement of death of a partner
9. Allocation of responsibilities of the partners in the firm
10. Procedure for dissolution of the firm
11. Name of the arbitrator to whom the disputes, if any, can be referred to for settlement.
12. Special rights, obligations and liabilities of partners(s), if any.

KIND OF PARTNERS
The following are the different kinds of partners:

1. Active Partner: Active partner takes active part in the affairs of the partnership. He is
also called working partner.
2. Sleeping Partner: Sleeping partner contributes to capital but does not take part in the
affairs of the partnership.
3. Nominal Partner: Nominal partner is partner just for namesake. He neither contributes
to capital nor takes part in the affairs of business. Normally, the nominal partners are
those who have good business connections, and are well places in the society.
4. Partner by Estoppels: Estoppels means behavior or conduct. Partner by estoppels gives
an impression to outsiders that he is the partner in the firm. In fact be neither contributes
to capital, nor takes any role in the affairs of the partnership.
5. Partner by holding out: If partners declare a particular person (having social status) as
partner and this person does not contradict even after he comes to know such declaration,
he is called a partner by holding out and he is liable for the claims of third parties.
However, the third parties should prove they entered into contract with the firm in the
belief that he is the partner of the firm. Such a person is called partner by holding out.
6. Minor Partner: Minor has a special status in the partnership. A minor can be admitted
for the benefits of the firm. A minor is entitled to his share of profits of the firm. The
liability of a minor partner is limited to the extent of his contribution of the capital of the
firm.

Right of partners

Every partner has right

(a) To take part in the management of business

(b) To express his opinion
(c) Of access to and inspect and copy and book of accounts of the firm
(d) To share equally the profits of the firm in the absence of any specific agreement to the
contrary
(e) To receive interest on capital at an agreed rate of interest from the profits of the firm
(f) To receive interest on loans, if any, extended to the firm.
(g) To be indemnified for any loss incurred by him in the conduct of the business
 (h) To receive any money spent by him in the ordinary and proper conduct of the business of
the firm.

Advantages

The following are the advantages of the partnership from:

1. Easy to form: Once there is a group of like-minded persons and good business proposal,
it is easy to start and register a partnership.
2. Availability of larger amount of capital: More amount of capital can be raised from
more number of partners.
3. Division of labour: The different partners come with varied backgrounds and skills. This
facilities division of labour.
4. Flexibility: The partners are free to change their decisions, add or drop a particular
product or start a new business or close the present one and so on.
5. Personal contact with customers: There is scope to keep close monitoring with
customers requirements by keeping one of the partners in charge of sales and marketing.
Necessary changes can be initiated based on the merits of the proposals from the
customers.
6. Quick decisions and prompt action: If there is consensus among partners, it is enough
to implement any decision and initiate prompt action. Sometimes, it may more time for
the partners on strategic issues to reach consensus.
7. The positive impact of unlimited liability: Every partner is always alert about his
impending danger of unlimited liability. Hence he tries to do his best to bring profits for
the partnership firm by making good use of all his contacts.

Disadvantages:

The following are the disadvantages of partnership:

 1. Formation of partnership is difficult: Only like-minded persons can start a partnership.
It is sarcastically said,’ it is easy to find a life partner, but not a business partner’.
2. Liability: The partners have joint and several liabilities beside unlimited liability. Joint
and several liability puts additional burden on the partners, which means that even the
personal properties of the partner or partners can be attached. Even when all but one
partner become insolvent, the solvent partner has to bear the entire burden of business
loss.
3. Lack of harmony or cohesiveness: It is likely that partners may not, most often work as
a group with cohesiveness. This result in mutual conflicts, an attitude of suspicion and
crisis of confidence. Lack of harmony results in delay in decisions and paralyses the
entire operations.
4. Limited growth: The resources when compared to sole trader, a partnership may raise
little more. But when compare to the other forms such as a company, resources raised in
this form of organization are limited. Added to this, there is a restriction on the maximum
number of partners.
5. Instability: The partnership form is known for its instability. The firm may be dissolved
on death, insolvency or insanity of any of the partners.
6. Lack of Public confidence: Public and even the financial institutions look at the
unregistered firm with a suspicious eye. Though registration of the firm under the Indian
Partnership Act is a solution of such problem, this cannot revive public confidence into
this form of organization overnight. The partnership can create confidence in other only
with their performance.
4. Explain about the joint stock company

JOINT STOCK COMPANY

The joint stock company emerges from the limitations of partnership such as joint and several
liability, unlimited liability, limited resources and uncertain duration and so on. Normally, to
take part in a business, it may need large money and we cannot foretell the fate of business. It is
not literally possible to get into business with little money. Against this background, it is
interesting to study the functioning of a joint stock company. The main principle of the joint
stock company from is to provide opportunity to take part in business with a low investment as
possible say Rs.1000. Joint Stock Company has been a boon for investors with moderate funds to
invest.
The word ‘ company’ has a Latin origin, com means ‘ come together’, pany means ‘ bread’, joint
stock company means, people come together to earn their livelihood by investing in the stock of
company jointly.

Company Defined

Lord justice Lindley explained the concept of the joint stock company from of organization as
‘an association of many persons who contribute money or money’s worth to a common stock and
employ it for a common purpose.

Features

This definition brings out the following features of the company:

1. Artificial person: The Company has no form or shape. It is an artificial person created
by law. It is intangible, invisible and existing only, in the eyes of law.
2. Separate legal existence: it has an independence existence, it separate from its members.
It can acquire the assets. It can borrow for the company. It can sue other if they are in
default in payment of dues, breach of contract with it, if any. Similarly, outsiders for any
claim can sue it. A shareholder is not liable for the acts of the company. Similarly, the
shareholders cannot bind the company by their acts.
3. Voluntary association of persons: The Company is an association of voluntary
association of persons who want to carry on business for profit. To carry on business,
they need capital. So they invest in the share capital of the company.
4. Limited Liability: The shareholders have limited liability i.e., liability limited to the face
value of the shares held by him. In other words, the liability of a shareholder is restricted
to the extent of his contribution to the share capital of the company. The shareholder need
not pay anything, even in times of loss for the company, other than his contribution to the
share capital.
5. Capital is divided into shares: The total capital is divided into a certain number of units.
Each unit is called a share. The price of each share is priced so low that every investor
would like to invest in the company. The companies promoted by promoters of good
standing (i.e., known for their reputation in terms of reliability character and dynamism)
are likely to attract huge resources.
 6. Transferability of shares: In the company form of organization, the shares can be
transferred from one person to the other. A shareholder of a public company can cell sell
his holding of shares at his will. However, the shares of a private company cannot be
transferred. A private company restricts the transferability of the shares.
7. Common Seal: As the company is an artificial person created by law has no physical
form, it cannot sign its name on a paper; so, it has a common seal on which its name is
engraved. The common seal should affix every document or contract; otherwise the
company is not bound by such a document or contract.
8. Perpetual succession: ‘Members may comes and members may go, but the company
continues for ever and ever’ A. company has uninterrupted existence because of the right
given to the shareholders to transfer the shares.
9. Ownership and Management separated: The shareholders are spread over the length
and breadth of the country, and sometimes, they are from different parts of the world. To
facilitate administration, the shareholders elect some among themselves or the promoters
of the company as directors to a Board, which looks after the management of the
business. The Board recruits the managers and employees at different levels in the
management. Thus the management is separated from the owners.
10. Winding up: Winding up refers to the putting an end to the company. Because law
creates it, only law can put an end to it in special circumstances such as representation
from creditors of financial institutions, or shareholders against the company that their
interests are not safeguarded. The company is not affected by the death or insolvency of
any of its members.
11. The name of the company ends with ‘limited’ : it is necessary that the name of the
company ends with limited (Ltd.) to give an indication to the outsiders that they are
dealing with the company with limited liability and they should be careful about the
liability aspect of their transactions with the company.

Formation of Joint Stock company

There are two stages in the formation of a joint stock company. They are:

(a) To obtain Certificates of Incorporation

(b) To obtain certificate of commencement of Business

Certificate of Incorporation: The certificate of Incorporation is just like a ‘date of birth’

certificate. It certifies that a company with such and such a name is born on a particular day.
Certificate of commencement of Business: A private company need not obtain the certificate of
commencement of business. It can start its commercial operations immediately after obtaining
the certificate of Incorporation.

The persons who conceive the idea of starting a company and who organize the necessary initial
resources are called promoters. The vision of the promoters forms the backbone for the company
in the future to reckon with.

The promoters have to file the following documents, along with necessary fee, with a registrar of
joint stock companies to obtain certificate of incorporation:

(a) Memorandum of Association: The Memorandum of Association is also called the

charter of the company. It outlines the relations of the company with the outsiders. If
furnishes all its details in six clause such as (ii) Name clause (II) situation clause (iii)
objects clause (iv) Capital clause and (vi) subscription clause duly executed by its
subscribers.
(b) Articles of association: Articles of Association furnishes the byelaws or internal rules
government the internal conduct of the company.
(c) The list of names and address of the proposed directors and their willingness, in writing
to act as such, in case of registration of a public company.
(d) A statutory declaration that all the legal requirements have been fulfilled. The
declaration has to be duly signed by any one of the following: Company secretary in
whole practice, the proposed director, legal solicitor, chartered accountant in whole time
practice or advocate of High court.

The registrar of joint stock companies peruses and verifies whether all these documents are in
order or not. If he is satisfied with the information furnished, he will register the documents and
then issue a certificate of incorporation, if it is private company, it can start its business operation
immediately after obtaining certificate of incorporation.

Advantages
The following are the advantages of a joint Stock Company

1. Mobilization of larger resources: A joint stock company provides opportunity for the
investors to invest, even small sums, in the capital of large companies. The facilities
rising of larger resources.
2. Separate legal entity: The Company has separate legal entity. It is registered under
Indian Companies Act, 1956.
3. Limited liability: The shareholder has limited liability in respect of the shares held by
him. In no case, does his liability exceed more than the face value of the shares allotted to
him.
4. Transferability of shares: The shares can be transferred to others. However, the private
company shares cannot be transferred.
5. Liquidity of investments: By providing the transferability of shares, shares can be
converted into cash.
6. Inculcates the habit of savings and investments: Because the share face value is very
low, this promotes the habit of saving among the common man and mobilizes the same
towards investments in the company.
7. Democracy in management: the shareholders elect the directors in a democratic way in
the general body meetings. The shareholders are free to make any proposals, question the
practice of the management, suggest the possible remedial measures, as they perceive,
The directors respond to the issue raised by the shareholders and have to justify their
actions.
8. Economics of large scale production: Since the production is in the scale with large
funds at
9. Continued existence: The Company has perpetual succession. It has no natural end. It
continues forever and ever unless law put an end to it.
10. Institutional confidence: Financial Institutions prefer to deal with companies in view of
their professionalism and financial strengths.
11. Professional management: With the larger funds at its disposal, the Board of Directors
recruits competent and professional managers to handle the affairs of the company in a
professional manner.
12. Growth and Expansion: With large resources and professional management, the
company can earn good returns on its operations, build good amount of reserves and
further consider the proposals for growth and expansion.

All that shines is not gold. The company from of organization is not without any disadvantages.

The following are the disadvantages of joint stock companies.

Disadvantages

1. Formation of company is a long drawn procedure: Promoting a joint stock company

involves a long drawn procedure. It is expensive and involves large number of legal
formalities.
2. High degree of government interference : The government brings out a number of rules
and regulations governing the internal conduct of the operations of a company such as
meetings, voting, audit and so on, and any violation of these rules results into statutory
lapses, punishable under the companies act.
3. Inordinate delays in decision-making: As the size of the organization grows, the
number of levels in organization also increases in the name of specialization. The more
the number of levels, the more is the delay in decision-making. Sometimes, so-called
professionals do not respond to the urgencies as required. It promotes delay in
administration, which is referred to ‘red tape and bureaucracy’.
4. Lack or initiative: In most of the cases, the employees of the company at different levels
show slack in their personal initiative with the result, the opportunities once missed do
not recur and the company loses the revenue.
5. Lack of responsibility and commitment: In some cases, the managers at different levels
are afraid to take risk and more worried about their jobs rather than the huge funds
invested in the capital of the company lose the revenue.
6. Lack of responsibility and commitment: In some cases, the managers at different levels
are afraid to take risk and more worried about their jobs rather than the huge funds
invested in the capital of the company. Where managers do not show up willingness to
take responsibility, they cannot be considered as committed. They will not be able to
handle the business risks.

5. Explain about the public enterprises?

PUBLIC ENTERPRISES

Public enterprises occupy an important position in the Indian economy. Today, public enterprises
provide the substance and heart of the economy. Its investment of over Rs.10,000 crore is in
heavy and basic industry, and infrastructure like power, transport and communications. The
concept of public enterprise in Indian dates back to the era of pre-independence.

Genesis of Public Enterprises

In consequence to declaration of its goal as socialistic pattern of society in 1954, the Government
of India realized that it is through progressive extension of public enterprises only, the following
aims of our five years plans can be fulfilled.

 Higher production
 Greater employment
 Economic equality, and
 Dispersal of economic power

The government found it necessary to revise its industrial policy in 1956 to give it a socialistic
bent.

Need for Public Enterprises

The Industrial Policy Resolution 1956 states the need for promoting public enterprises as
follows:

 To accelerate the rate of economic growth by planned development

 To speed up industrialization, particularly development of heavy industries and to expand
public sector and to build up a large and growing cooperative sector.
 To increase infrastructure facilities
 To disperse the industries over different geographical areas for balanced regional
development
 To increase the opportunities of gainful employment
 To help in raising the standards of living
 To reducing disparities in income and wealth (By preventing private monopolies and
curbing concentration of economic power and vast industries in the hands of a small
number of individuals)
Achievements of public Enterprises

The achievements of public enterprise are vast and varied. They are:

1. Setting up a number of public enterprises in basic and key industries

2. Generating considerably large employment opportunities in skilled, unskilled,
supervisory and managerial cadres.
3. Creating internal resources and contributing towards national exchequer for funds for
development and welfare.
4. Bringing about development activities in backward regions, through locations in different
areas of the country.
5. Assisting in the field of export promotion and conservation of foreign exchange.
6. Creating viable infrastructure and bringing about rapid industrialization (ancillary
industries developed around the public sector as its nucleus).
7. Restricting the growth of private monopolies
8. Stimulating diversified growth in private sector
9. Taking over sick industrial units and putting them, in most of the vases, in order,
10. Creating financial systems, through a powerful networking of financial institutions,
development and promotional institutions, which has resulted in social control and social
orientation of investment, credit and capital management systems.
11. Benefiting the rural areas, priority sectors, small business in the fields of industry,
finance, credit, services, trade, transport, consultancy and so on.

Let us see the different forms of public enterprise and their features now.

Forms of public enterprises

Public enterprises can be classified into three forms:

(a) Departmental undertaking

(b) Public corporation
 (c) Government company

These are explained below

Departmental Undertaking

This is the earliest from of public enterprise. Under this form, the affairs of the public enterprise
are carried out under the overall control of one of the departments of the government. The
government department appoints a managing director (normally a civil servant) for the
departmental undertaking. He will be given the executive authority to take necessary decisions.
The departmental undertaking does not have a budget of its own. As and when it wants, it draws
money from the government exchequer and when it has surplus money, it deposits it in the
government exchequer. However, it is subject to budget, accounting and audit controls.

Examples for departmental undertakings are Railways, Department of Posts, All India Radio,
Doordarshan, Defence undertakings like DRDL, DLRL, ordinance factories, and such.

Features

1. Under the control of a government department: The departmental undertaking is not

an independent organization. It has no separate existence. It is designed to work under
close control of a government department. It is subject to direct ministerial control.
2. More financial freedom: The departmental undertaking can draw funds from
government account as per the needs and deposit back when convenient.
3. Like any other government department: The departmental undertaking is almost
similar to any other government department
4. Budget, accounting and audit controls : The departmental undertaking has to follow
guidelines (as applicable to the other government departments) underlying the budget
preparation, maintenance of accounts, and getting the accounts audited internally and by
external auditors.
5. More a government organization, less a business organization . The set up of a
departmental undertaking is more rigid, less flexible, slow in responding to market needs.
Advantages

1. Effective control: Control is likely to be effective because it is directly under the

Ministry.
2. Responsible Executives: Normally the administration is entrusted to a senior civil
servant. The administration will be organized and effective.
3. Less scope for mystification of funds: Departmental undertaking does not draw any
money more than is needed, that too subject to ministerial sanction and other controls. So
chances for mis-utilisation are low.
4. Adds to Government revenue: The revenue of the government is on the rise when the
revenue of the departmental undertaking is deposited in the government account.

Disadvantages

1. Decisions delayed: Control is centralized. This results in lower degree of flexibility.

Officials in the lower levels cannot take initiative. Decisions cannot be fast and actions
cannot be prompt.
2. No incentive to maximize earnings: The departmental undertaking does not retain any
surplus with it. So there is no inventive for maximizing the efficiency or earnings.
3. Slow response to market conditions : Since there is no competition, there is no profit
motive; there is no incentive to move swiftly to market needs.
4. Redtapism and bureaucracy: The departmental undertakings are in the control of a civil
servant and under the immediate supervision of a government department.
Administration gets delayed substantially.
5. Incidence of more taxes: At times, in case of losses, these are made up by the
government funds only. To make up these, there may be a need for fresh taxes, which is
undesirable.

Any business organization to be more successful needs to be more dynamic, flexible, and
responsive to market conditions, fast in decision marking and prompt in actions. None of these
qualities figure in the features of a departmental undertaking. It is true that departmental
undertaking operates as a extension to the government. With the result, the government may miss
certain business opportunities. So as not to miss business opportunities, the government has
thought of another form of public enterprise, that is, Public corporation.

QUESTIONS

1. Define a joint stock company & explain its basic features, advantages & disadvantages
2. Write short notes pm (a) Sole trader (b) Stationery corporation.
3. Explain in basic features of Government Company from of public enterprise.
4. What do you mean by sole proprietorship? Explain its meant and limitations.
5. Define partnership from of business. Explain its salient features.
 INTRODUCTION TO FINANCIAL ACCOUNTING

CONCEPTS

Synopsis:

1. Introduction
2. Book-keeping and Accounting
3. Function of an Accountant
4. Users of Accounting
5. Advantages of Accounting
6. Limitations of Accounting
7. Basic Accounting concepts

1. INTRODUCITON

As you are aware, every trader generally starts business for purpose of earning profit. While
establishing business, he brings own capital, borrows money from relatives, friends, outsiders or
financial institutions. Then he purchases machinery, plant , furniture, raw materials and other
assets. He starts buying and selling of goods, paying for salaries, rent and other expenses,
depositing and withdrawing cash from bank. Like this he undertakes innumerable transactions in
business. Observe the following transactions of small trader for one week during the month of
July, 1998.

1998 Rs.

July 24 Purchase of goods from Sree Ram 12,000

July 25 Goods sold for cash 5,000

July 25 Sold gods to Syam on credit 8,000

 July 26 Advertising expenses 5,200

July 27 Stationary expenses 600

July 27 Withdrawal for personal use 2,500

July 28 Rent paid through cheque 1,000

July 31 Salaries paid 9,000

July 31 Received cash from Syam 5,000

The number of transactions in an organization depends upon the size of the organization.
In small organizations, the transactions generally will be in thousand and in big organizations
they may be in lakhs. As such it is humanly impossible to remember all these transactions.
Further, it may not by possible to find out the final result of the business without recording and
analyzing these transactions.

Accounting came into practice as an aid to human memory by maintaining a systematic

record of business transactions.

1.1 History of Accounting:

Accounting is as old as civilization itself. From the ancient relics of Babylon, it can be
will proved that accounting did exist as long as 2600 B.C. However, in modern form accounting
based on the principles of Double Entry System came into existence in 17 th Century. Fra Luka
Paciolo, a Fransiscan monk and mathematician published a book De computic et scripturies in
1494 at Venice in Italyl. This book was translated into English in 1543. In this book he covered a
brief section on ‘book-keeping’.

1.2 Origin of Accounting in India:

 Accounting was practiced in India thousand years ago and there is a clear evidence for
this. In his famous book Arthashastra Kautilya dealt with not only politics and economics but
also the art of proper keeping of accounts. However, the accounting on modern lines was
introduced in India after 1850 with the formation joint stock companies in India.

Accounting in India is now a fast developing discipline. The two premier Accounting
Institutes in India viz., chartered Accountants of India and the Institute of Cost and Works
Accountants of India are making continuous and substantial contributions. The international
Accounts Standards Committee (IASC) was established as on 29 th June. In India the ‘Accounting
Standards Board (ASB) is formulating ‘Accounting Standards’ on the lines of standards framed
by International Accounting Standards Committee.

2. BOOK-KEEPING AND ACCOUNTING

According to G.A. Lee the accounting system has two stages.

1. The making of routine records in the prescribed from and according to set rules of all
events with affect the financial state of the organization; and
2. The summarization from time to time of the information contained in the records, its
presentation in a significant form to interested parties and its interpretation as an aid to
decision making by these parties.
First stage is called Book-Keeping and the second one is Accounting.

Book – Keeping: Book – Keeping involves the chronological recording of financial transactions
in a set of books in a systematic manner.

Accounting: Accounting is concerned with the maintenance of accounts giving stress to the
design of the system of records, the preparation of reports based on the recorded date and the
interpretation of the reports.
Distinction between Book – Keeping and Accountancy

Thus, the terms, book-keeping and accounting are very closely related, through there is a
subtle difference as mentioned below.

1. Object : The object of book-keeping is to prepare original books of Accounts. It is

restricted to journal, subsidiary book and ledge accounts only. On the other hand, the main object
of accounting is to record analyse and interpret the business transactions.

2. Level of Work: Book-keeping is restricted to level of work. Clerical work is mainly

involved in it. Accountancy on the other hand, is concerned with all level of management.

3. Principles of Accountancy: In Book-keeping Accounting concepts and conventions will be

followed by all without any difference. On the other hand, various firms follow various methods
of reporting and interpretation in accounting.

3. Final Result: In Book-Keeping it is not possible to know the final result of business every
year,

2.1 Meaning of Accounting

Thus, book-keeping is an art of recording the business transactions in the books of

original entry and the ledges. Accountancy begins where Book-keeping ends. Accountancy
means the compiliation of accounts in such a way that one is in a position to know the state of
affairs of the business. The work of an accountant is to analyse, interpret and review the accounts
and draw conclusion with a view to guide the management in chalking out the future policy of
the business.

2.2 Definition of Accounting:

Smith and Ashburne: “Accounting is a means of measuring and reporting the results of
economic activities.”

R.N. Anthony: “Accounting system is a means of collecting summarizing, analyzing and

reporting in monetary terms, the information about the business.

American Institute of Certified Public Accountants (AICPA): “The art of recording,

classifying and summarizing in a significant manner and in terms of money transactions and
events, which are in part at least, of a financial character and interpreting the results thereof.”

Thus, accounting is an art of identifying, recording, summarizing and interpreting

business transactions of financial nature. Hence accounting is the Language of Business.

2.3 Branches of Accounting:

The important branches of accounting are:

1. Financial Accounting: The purpose of Accounting is to ascertain the financial results
i.e. profit or loass in the operations during a specific period. It is also aimed at knowing
the financial position, i.e. assets, liabilities and equity position at the end of the period.
It also provides other relevant information to the management as a basic for decision-
making for planning and controlling the operations of the business.
2. Cost Accounting: The purpose of this branch of accounting is to ascertain the cost of
a product / operation / project and the costs incurred for carrying out various activities.
It also assist the management in controlling the costs. The necessary data and
information are gatherr4ed form financial and other sources.
3. Management Accounting : Its aim to assist the management in taking correct policy
decision and to evaluate the impact of its decisions and actions. The data required for
this purpose are drawn accounting and cost-accounting.
4. Inflation Accounting :It is concerned with the adjustment in the values of assest and of
profit in light of changes in the price level. In a way it is concerned with the
overcoming of limitations that arise in financial statements on account of the cost
 assumption (i.e recording of the assets at their historical or original cost) and the
assumption of stable monetary unit.
5. Human Resource Accounting : It is a branch of accounting which seeks to report and
emphasize the importance of human resources in a company’s earning process and total
assets. It is concerned with the process of identifying and measuring data about human
resources and communicating this information to interested parties. In simple words, it
is accounting for people as organizational resources.

3. FUNCTIONS OF AN ACCOUNTANT

The job of an accountant involves the following types of accounting works :

1. Designing Work : It includes the designing of the accounting system, basis for
identification and classification of financial transactions and events, forms, methods,
procedures, etc.
2. Recording Work : The financial transactions are identified, classified and recorded in
appropriate books of accounts according to principles. This is “Book Keeping”. The
recording of transactions tends to be mechanical and repetitive.
3. Summarizing Work : The recorded transactions are summarized into significant form
according to generally accepted accounting principles. The work includes the preparation
of profit and loss account, balance sheet. This phase is called ‘preparation of final
accounts’
4. Analysis and Interpretation Work: The financial statements are analysed by using
ratio analysis, break-even analysis, funds flow and cash flow analysis.
5. Reporting Work: The summarized statements along with analysis and interpretation
are communicated to the interested parties or whoever has the right to receive them. For
Ex. Share holders. In addition, the accou8nting departments has to prepare and send
regular reports so as to assist the management in decision making. This is ‘Reporting’.
6. Preparation of Budget : The management must be able to reasonably estimate the
future requirements and opportunities. As an aid to this process, the accountant has to
prepare budgets, like cash budget, capital budget, purchase budget, sales budget etc. this
is ‘Budgeting’.
 7. Taxation Work : The accountant has to prepare various statements and returns
pertaining to income-tax, sales-tax, excise or customs duties etc., and file the returns with
the authorities concerned.
8. Auditing : It involves a critical review and verification of the books of accounts
statements and reports with a view to verifying their accuracy. This is ‘Auditing’

This is what the accountant or the accounting department does. A person may be

placed in any part of Accounting Department or MIS (Management Information System)

Department or in small organization, the same person may have to attend to all this work.

KEY WORDS IN BOOK-KEEPING

1. TRANSACTIONS: Any sale or purchase of goods of services is called the transaction.

Transactions are two types.

[a]. cash transaction: cash transaction is one where cash receipt or

payment is involved in the exchange.

[b]. Credit transaction: Credit transaction will not have cash, either
received or paid, for something given or received respectively.

2.GOODS: Fill those things which a firm purchases for resale are called goods.

3.PURCHASES: Purchases means purchase of goods, unless it is stated otherwise it also

represents the

Goods purchased.
 4.SALES: Sales means sale of goods, unless it is stated otherwise it also represents these
goods sold.

5.EXPENSES: Payments for the purchase of goods as services are known as expenses.

6.REVENUE: Revenue is the amount realized or receivable from the sale of goods or
services.

7.ASSETS: The valuable things owned by the business are known as assets. These are the
properties

Owned by the business.

8.LIABILITIES: Liabilities are the obligations or debts payable by the enterprise in future
in the term

Of money or goods.

9. DEBTORS: Debtors means a person who owes money to the trader.

10.CREDITORS: A creditor is a person to whom something is owned by the business.

11.DRAWINGS: cash or goods withdrawn by the proprietor from the Business for his
personal or Household is termed to as “drawing”.

12.RESERVE: An amount set aside out of profits or other surplus and designed to meet
contingencies.

13.ACCOUNT: A summarized statements of transactions relating to a particular person,

thing,

Expense or income.
 14.DISCOUNT: There are two types of discounts..

a. cash discount: An allowable made to encourage frame payment or

before the expiration of the period allowed for credit.
b. Trade discount: A deduction from the gross or catalogue price allowed
to traders who buys them for resale.

CLASSIFICATION OF BUSINESS TRANSACTIONS

All business transactions are classified into three categories:

1.Those relating to persons

2.Those relating to property(Assets)

3.Those relating to income & expenses

Thus, three classes of accounts are maintained for recording all business transactions.
They are:

1.Personal accounts

2.Real accounts

3.Nominal accounts

1.Personal Accounts:Accounts which are transactions with persons are called “Personal
Accounts” .

A separate account is kept on the name of each person for recording the benefits received
from ,or given to the person in the course of dealings with him.

E.g.: Krishna’s A/C, Gopal’s A/C, SBI A/C, Nagarjuna Finanace Ltd.A/C, ObulReddy & Sons
A/C , HMT Ltd. A/C, Capital A/C, Drawings A/C etc.

2.Real Accounts: The accounts relating to properties or assets are known as “Real
Accounts” .Every business needs assets such as machinery , furniture etc, for running its
activities .A separate account is maintained for each asset owned by the business .
E.g.: cash A/C, furniture A/C, building A/C, machinery A/C etc.

3.NominalAccounts:Accounts relating to expenses, losses, incomes and gains are known as

“Nominal Accounts”. A separate account is maintained for each item of expenses, losses,
income or gain.

E.g.: Salaries A/C, stationery A/C, wages A/C, postage A/C, commission A/C, interest A/C,
purchases A/C, rent A/C, discount A/C, commission received A/C, interest received A/C, rent
received A/C, discount received A/C.

Before recording a transaction, it is necessary to find out which of the accounts is to be debited
and which is to be credited. The following three different rules have been laid down for the three
classes of accounts….

1.Personal Accounts: The account of the person receiving benefit (receiver) is to be debited and
the account of the person giving the benefit (given) is to be credited.

Rule: “Debit----The Receiver

Credit---The Giver”

2.Real Accounts: When an asset is coming into the business, account of that asset is to be debited
.When an asset is going out of the business, the account of that asset is to be credited.

Rule: “Debit----What comes in

Credit---What goes out”

3. Nominal Accounts: When an expense is incurred or loss encountered, the account representing
the expense or loss is to be debited . When any income is earned or gain made, the account
representing the income of gain is to be credited.

Rule: “Debit----All expenses and losses

Credit---All incomes and gains”

JOURNAL

The first step in accounting therefore is the record of all the transactions in the books of original
entry viz., Journal and then posting into ledges.

JOURNAL: The word Journal is derived from the Latin word ‘journ’ which means a day.
Therefore, journal means a ‘day Book’ in day-to-day business transactions are recorded in
chronological order.

Journal is treated as the book of original entry or first entry or prime entry. All the business
transactions are recorded in this book before they are posted in the ledges. The journal is a
complete and chronological(in order of dates) record of business transactions. It is recorded in a
systematic manner. The process of recording a transaction in the journal is called
“JOURNALISING”. The entries made in the book are called “Journal Entries”.

The proforma of Journal is given below.

Date Particulars L.F. no Debit Credit

 RS. RS.

1998 Jan 1 Purchases account to cash 10,000/- 10,000/-

account(being goods purchased
for cash)

LEDGER

All the transactions in a journal are recorded in a chronological order. After a certain period, if
we want to know whether a particular account is showing a debit or credit balance it becomes
very difficult. So, the ledger is designed to accommodate the various accounts maintained the
trader. It contains the final or permanent record of all the transactions in duly classified form. “A
ledger is a book which contains various accounts.” The process of transferring entries from
journal to ledger is called “POSTING”.

Posting is the process of entering in the ledger the entries given in the journal. Posting into ledger
is done periodically, may be weekly or fortnightly as per the convenience of the business. The
following are the guidelines for posting transactions in the ledger.

1. After the completion of Journal entries only posting is to be made in the ledger.
2. For each item in the Journal a separate account is to be opened. Further, for each new
item a new account is to be opened.
3. Depending upon the number of transactions space for each account is to be determined
in the ledger.
4. For each account there must be a name. This should be written in the top of the table. At
the end of the name, the word “Account” is to be added.
5. The debit side of the Journal entry is to be posted on the debit side of the account, by
starting with “TO”.
6. The credit side of the Journal entry is to be posted on the debit side of the account, by
starting with “BY”.
Proforma for ledger: LEDGER BOOK

Particulars account

Date Particulars Lfno Amount Date Particulars Lfno amount

sales account

Date Particulars Lfno Amount Date Particulars Lfno amount

cash account

Date Particulars Lfno Amount Date Particulars Lfno amount

TRAIL BALANCE

The first step in the preparation of final accounts is the preparation of trail balance. In the double
entry system of book keeping, there will be credit for every debit and there will not be any debit
without credit. When this principle is followed in writing journal entries, the total amount of all
debits is equal to the total amount all credits.

A trail balance is a statement of debit and credit balances. It is prepared on a particular date with
the object of checking the accuracy of the books of accounts. It indicates that all the transactions
for a particular period have been duly entered in the book, properly posted and balanced. The
trail balance doesn’t include stock in hand at the end of the period. All adjustments required to be
done at the end of the period including closing stock are generally given under the trail balance.

DEFINITIONS: SPICER AND POGLAR :A trail balance is a list of all the balances
standing on the ledger accounts and cash book of a concern at any given date.

J.R.BATLIBOI:

A trail balance is a statement of debit and credit balances extracted from the ledger with a view
to test the arithmetical accuracy of the books.

Thus a trail balance is a list of balances of the ledger accounts’ and cash book of a business
concern at any given date.

PROFORMA FOR TRAIL BALANCE:

Trail balance for MR…………………………………… as on …………

N NAME OF ACCOUNT DEBIT CREDIT

O AMOUNT(RS.) AMOUNT(RS.)
(PARTICULARS)
Trail Balance

Specimen of trial balance

1 Capital Credit Loan

2 Opening stock Debit Asset

3 Purchases Debit Expense

4 Sales Credit Gain

5 Returns inwards Debit Loss

6 Returns outwards Debit Gain

7 Wages Debit Expense

8 Freight Debit Expense

9 Transport expenses Debit Expense

10 Royalities on production Debit Expense

11 Gas, fuel Debit Expense

12 Discount received Credit Revenue

13 Discount allowed Debit Loss

14 Bas debts Debit Loss

15 Dab debts reserve Credit Gain

16 Commission received Credit Revenue

17 Repairs Debit Expense

18 Rent Debit Expense

19 Salaries Debit Expense

20 Loan Taken Credit Loan

21 Interest received Credit Revenue

22 Interest paid Debit Expense

23 Insurance Debit Expense

24 Carriage outwards Debit Expense

25 Advertisements Debit Expense

26 Petty expenses Debit Expense

27 Trade expenses Debit Expense

28 Petty receipts Credit Revenue

29 Income tax Debit Drawings

30 Office expenses Debit Expense

31 Customs duty Debit Expense

32 Sales tax Debit Expense

33 Provision for discount on debtors Debit Liability

34 Provision for discount on creditors Debit Asset

35 Debtors Debit Asset

36 Creditors Credit Liability

37 Goodwill Debit Asset

38 Plant, machinery Debit Asset

39 Land, buildings Debit Asset

40 Furniture, fittings Debit Asset

41 Investments Debit Asset

42 Cash in hand Debit Asset

43 Cash at bank Debit Asset

44 Reserve fund Credit Liability

45 Loan advances Debit Asset

46 Horse, carts Debit Asset

47 Excise duty Debit Expense

48 General reserve Credit Liability

49 Provision for depreciation Credit Liability

50 Bills receivable Debit Asset

51 Bills payable Credit Liability

52 Depreciation Debit Loss

53 Bank overdraft Credit Liability

54 Outstanding salaries Credit Liability

55 Prepaid insurance Debit Asset

56 Bad debt reserve Credit Revenue

57 Patents & Trademarks Debit Asset

58 Motor vehicle Debit Asset

59 Outstanding rent Credit Revenue

FINAL ACCOUNTS

In every business, the business man is interested in knowing whether the business has
resulted in profit or loss and what the financial position of the business is at a given time. In
brief, he wants to know (i)The profitability of the business and (ii) The soundness of the
business.

The trader can ascertain this by preparing the final accounts. The final accounts are
prepared from the trial balance. Hence the trial balance is said to be the link between the ledger
accounts and the final accounts. The final accounts of a firm can be divided into two stages. The
first stage is preparing the trading and profit and loss account and the second stage is preparing
the balance sheet.

TRADING ACCOUNT

The first step in the preparation of final account is the preparation of trading account. The
main purpose of preparing the trading account is to ascertain gross profit or gross loss as a result
of buying and selling the goods.

Trading account of MR……………………. for the year ended ……………………

Particulars Amount Particulars Amount

 To opening stock Xxxx By sales xxxx

To purchases xxxx Less: returns xxx Xxxx

Less: returns xx Xxxx By closing stock Xxxx

To carriage inwards Xxxx

To wages Xxxx

To freight Xxxx

To customs duty, octroi Xxxx

To gas, fuel, coal,

Water Xxxx Xxxx

To factory expenses

To other man. Expenses Xxxx

To productive expenses Xxxx

To gross profit c/d

Xxxx

Xxxx

Xxxx

Finally, a ledger may be defined as a summary statement of all the transactions relating to a
person , asset, expense or income which have taken place during a given period of time. The up-
to-date state of any account can be easily known by referring to the ledger.
PROFIT AND LOSS ACCOUNT

The business man is always interested in knowing his net income or net profit.Net profit
represents the excess of gross profit plus the other revenue incomes over administrative, sales,
Financial and other expenses. The debit side of profit and loss account shows the expenses and
the credit side the incomes. If the total of the credit side is more, it will be the net profit. And if
the debit side is more, it will be net loss.

PROFIT AND LOSS A/C OF MR…………………….FOR THE YEAR ENDED…………

PARTICULARS AMOUNT PARTICULARS AMOUNT

TO office salaries Xxxxxx By gross profit b/d Xxxxx

TO rent,rates,taxes Xxxxx Interest received Xxxxx

TO Printing and stationery Xxxxx Discount received Xxxx

TO Legal charges Commission received Xxxxx

Audit fee Xxxx Income from

investments
TO Insurance Xxxx
Dividend on shares
TO General expenses Xxxx Xxxx
Miscellaneous
TO Advertisements Xxxxx Xxxx
investments
TO Bad debts Xxxx Rent received
TO Carriage outwards Xxxx xxxx

TO Repairs Xxxx

TO Depreciation Xxxxx

TO interest paid Xxxxx

TO Interest on capital Xxxxx

TO Interest on loans Xxxx

 TO Discount allowed Xxxxx

TO Commission Xxxxx

TO Net profit------- Xxxxx

(transferred to capital a/c)

xxxxxx Xxxxxx

BALANCE SHEET

The second point of final accounts is the preparation of balance sheet. It is prepared often in the
trading and profit, loss accounts have been compiled and closed. A balance sheet may be
considered as a statement of the financial position of the concern at a given date.

DEFINITION: A balance sheet is an item wise list of assets, liabilities and proprietorship of a
business at a certain state.

J.R.botliboi: A balance sheet is a statement with a view to measure exact financial position of a
business at a particular date.

Thus, Balance sheet is defined as a statement which sets out the assets and liabilities of a
business firm and which serves to as certain the financial position of the same on any particular
date. On the left-hand side of this statement, the liabilities and the capital are shown. On the
right-hand side all the assets are shown. Therefore, the two sides of the balance sheet should be
equal. Otherwise, there is an error somewhere.

BALANCE SHEET OF ………………………… AS ON

…………………………………….

Liabilities and capital Amount Assets Amount

 Creditors Xxxx Cash in hand Xxxx

Bills payable Xxxx Cash at bank Xxxx

Bank overdraft Xxxx Bills receivable Xxxx

Loans Xxxx Debtors Xxxx

Mortgage Xxxx Closing stock Xxxx

Reserve fund Xxxx Investments Xxxx

Capital xxxxxx Furniture and fittings Xxxx

Add: Plats&machinery

Net Profit xxxx Land & buildings Xxxx

------- Patents, tm ,copyrights Xxxx

xxxxxxx Goodwill Xxxx

-------- Prepaid expenses

Outstanding incomes Xxxx

Less: Xxxx

Drawings xxxx Xxxx Xxxx

--------- XXXX XXXX

Advantages: The following are the advantages of final balance .

1. It helps in checking the arithmetical accuracy of books of accounts.

2. It helps in the preparation of financial statements.
3. It helps in detecting errors.
4. It serves as an instrument for carrying out the job of rectification of entries.
5. It is possible to find out the balances of various accounts at one place.
FINAL ACCOUNTS -- ADJUSTMENTS

We know that business is a going concern. It has to be carried on indefinitely. At the end of
every accounting year. The trader prepares the trading and profit and loss account and balance
sheet. While preparing these financial statements, sometimes the trader may come across certain
problems .The expenses of the current year may be still payable or the expenses of the next year
have been prepaid during the current year. In the same way, the income of the current year still
receivable and the income of the next year have been received during the current year. Without
these adjustments, the profit figures arrived at or the financial position of the concern may not be
correct. As such these adjustments are to be made while preparing the final accounts.

The adjustments to be made to final accounts will be given under the Trial Balance. While
making the adjustment in the final accounts, the student should remember that “every adjustment
is to be made in the final accounts twice i.e. once in trading, profit and loss account and later in
balance sheet generally”. The following are some of the important adjustments to be made at the
time of preparing of final accounts:-

1. CLOSING STOCK:-

(i)If closing stock is given in Trail Balance: It should be shown only in the balance sheet “Assets
Side”.

(ii)If closing stock is given as adjustment:

1. First, it should be posted at the credit side of “Trading Account”.

2. Next, shown at the asset side of the “Balance Sheet”.

2.OUTSTANDING EXPENSES :-

(i)If outstanding expenses given in Trail Balance: It should be only on the liability side of
Balance Sheet.
(ii)If outstanding expenses given as adjustment :

1. First, it should be added to the concerned expense at the

debit side of profit and loss account or Trading Account.
2. Next, it should be added at the liabilities side of the
Balance Sheet.

3.PREAPID EXPENSES :-

(i)If prepaid expenses given in Trial Balance: It should be shown only in assets side of the
Balance Sheet.

(ii)If prepaid expense given as adjustment :

1. First, it should be deducted from the concerned expenses at the debit side of profit and
loss account or Trading Account.
2. Next, it should be shown at the assets side of the Balance Sheet.

4.INCOME EARNED BUT NOT RECEIVED [OR] OUTSTANDING INCOME [OR] ACCURED
INCOME :-

(i)If incomes given in Trial Balance: It should be shown only on the assets side of the Balance
Sheet.

(ii)If incomes outstanding given as adjustment:

1. First, it should be added to the concerned income at the credit side of profit and loss
account.
2. Next, it should be shown at the assets side of the Balance sheet.
5. INCOME RECEIVED IN ADVANCE: UNEARNED INCOME:-

(i)If unearned incomes given in Trail Balance : It should be shown only on the liabilities side of
the Balance Sheet.

(ii)If unearned income given as adjustment :

1. First, it should be deducted from the concerned income in the credit side of the profit and
loss account.
2. Secondly, it should be shown in the liabilities side of the
Balance Sheet.

6.DEPRECIATION:-

(i)If Depreciation given in Trail Balance: It should be shown only on the debit side of the profit
and loss account.

(ii)If Depreciation given as adjustment

1. First, it should be shown on the debit side of the profit and loss account.
2. Secondly, it should be deduced from the concerned asset in the Balance sheet assets side.

7.INTEREST ON LOAN [OR] CAPITAL:-

(i)If interest on loan (or) capital given in Trail balance :It should be shown only on debit side
of the profit and loss account.

(ii)If interest on loan (or)capital given as adjustment :

1. First, it should be shown on debit side of the profit and loss account.
2. Secondly, it should added to the loan or capital in
the liabilities side of the Balance Sheet.
8.BAD DEBTS:-

(i)If bad debts given in Trail balance :It should be shown on the debit side of the profit and loss
account.

(ii)If bad debts given as adjustment:

1. First, it should be shown on the debit side of the profit and loss account.
2. Secondly, it should be deducted from debtors in the assets side of the Balance Sheet.

9.INTEREST ON DRAWINGS :-

(i)If interest on drawings given in Trail balance: It should be shown on the credit side of the
profit and loss account.

(ii)If interest on drawings given as adjustments :

1. First, it should be shown on the credit side of the profit and loss account.
2. Secondly, it should be deducted from capital on liabilities
side of the Balance Sheet.

10.INTEREST ON INVESTMENTS :-

(i)If interest on the investments given in Trail balance :It should be shown on the credit side of
the profit and loss account.

(ii)If interest on investments given as adjustments :

1. First, it should be shown on the credit side of the profit and loss account.
 2. Secondly, it should be added to the investments on assets side of the Balance Sheet.

FINANCIAL ANALYSIS THROUGH RATIOS

1. Explain the introduction about the Ratio Analysis?

Absolute figures are valuable but they standing alone convey no meaning unless compared with
another. Accounting ratio show inter-relationships which exist among various accounting data.
When relationships among various accounting data supplied by financial statements are worked
out, they are known as accounting ratios.

Accounting ratios can be expressed in various ways such as:

 1. a pure ratio says ratio of current assets to current liabilities is 2:1 or
2. a rate say current assets are two times of current liabilities or
3. a percentage say current assets are 200% of current liabilities.

Each method of expression has a distinct advantage over the other the analyst will selected that
mode which will best suit his convenience and purpose.

Uses or Advantages or Importance of Ratio Analysis

Ratio Analysis stands for the process of determining and presenting the relationship of items and
groups of items in the financial statements. It is an important technique of financial analysis. It is
a way by which financial stability and health of a concern can be judged. The following are the
main uses of Ratio analysis:

(i) Useful in financial position analysis: Accounting reveals the financial position of the
concern. This helps banks, insurance companies and other financial institution in lending
and making investment decisions.
(ii) Useful in simplifying accounting figures: Accounting ratios simplify, summaries and
systematic the accounting figures in order to make them more understandable and in lucid
form.

(iii) Useful in assessing the operational efficiency: Accounting ratios helps to have an idea of
the working of a concern. The efficiency of the firm becomes evident when analysis is based
on accounting ratio. This helps the management to assess financial requirements and the
capabilities of various business units.

(iv) Useful in forecasting purposes: If accounting ratios are calculated for number of years,
then a trend is established. This trend helps in setting up future plans and forecasting.

(v) Useful in locating the weak spots of the business: Accounting ratios are of great
assistance in locating the weak spots in the business even through the overall performance
may be efficient.
(vi) Useful in comparison of performance: Managers are usually interested to know which
department performance is good and for that he compare one department with the another
department of the same firm. Ratios also help him to make any change in the organisation
structure.

Limitations of Ratio Analysis: These limitations should be kept in mind while making use
of ratio analyses for interpreting the financial statements. The following are the main
limitations of ratio analysis.

1. False results if based on incorrect accounting data: Accounting ratios can be correct only
if the data (on which they are based) is correct. Sometimes, the information given in the
financial statements is affected by window dressing, i. e. showing position better than
what actually is.
2. No idea of probable happenings in future: Ratios are an attempt to make an analysis of
the past financial statements; so they are historical documents. Now-a-days keeping in
view the complexities of the business, it is important to have an idea of the probable
happenings in future.
3. Variation in accounting methods: The two firms’ results are comparable with the help of
accounting ratios only if they follow the some accounting methods or bases. Comparison
will become difficult if the two concerns follow the different methods of providing
depreciation or valuing stock.
4. Price level change: Change in price levels make comparison for various years difficult.
5. Only one method of analysis: Ratio analysis is only a beginning and gives just a fraction
of information needed for decision-making so, to have a comprehensive analysis of
financial statements, ratios should be used along with other methods of analysis.
6. No common standards: It is very difficult to by down a common standard for comparison
because circumstances differ from concern to concern and the nature of each industry is
different.
7. Different meanings assigned to the some term: Different firms, in order to calculate ratio
may assign different meanings. This may affect the calculation of ratio in different firms
and such ratio when used for comparison may lead to wrong conclusions.
8. Ignores qualitative factors: Accounting ratios are tools of quantitative analysis only. But
sometimes qualitative factors may surmount the quantitative aspects. The calculations
derived from the ratio analysis under such circumstances may get distorted.
 9. No use if ratios are worked out for insignificant and unrelated figure: Accounting ratios
should be calculated on the basis of cause and effect relationship. One should be clear as
to what cause is and what effect is before calculating a ratio between two figures.

Ratio Analysis: Ratio is an expression of one number is relation to another. It is one of the
methods of analyzing financial statement. Ratio analysis facilities the presentation of the
information of the financial statements in simplified and summarized from. Ratio is a measuring
of two numerical positions. It expresses the relation between two numeric figures. It can be
found by dividing one figure by another ratios are expressed in three ways.

1. Jines method
2. Ratio Method
3. Percentage Method
2. Explain the Classification of ratios?

Classification of ratios: All the ratios broadly classified into four types due to the interest of
different parties for different purposes. They are:

1. Profitability ratios
2. Turn over ratios
3. Financial ratios
4. Leverage ratios

1. Profitability ratios: These ratios are calculated to understand the profit positions of the
business. These ratios measure the profit earning capacity of an enterprise. These ratios
can be related its save or capital to a certain margin on sales or profitability of capital
employ. These ratios are of interest to management. Who are responsible for success and
growth of enterprise? Owners as well as financiers are interested in profitability ratios as
these reflect ability of enterprises to generate return on capital employ important
profitability ratios are:

Profitability ratios in relation to sales: Profitability ratios are almost importance of

concern. These ratios are calculated is focus the end results of the business activities
which are the sole eritesiour of overall efficiency of organisation.

gross profit
1. Gross profit ratio: x Nest sales 100
 Note: Higher the ratio the better it is

Net profit after interest & Tax

2. Net profit ratio: X Net sales 100

Note: Higher the ratio the better it is

3. Operating ratio (Operating expenses ratio)

Cost of goods sold + operating exenses

X 100
Net sales

Net: Lower the ratio the better it is

Operating profit
4. Operating profit ratio: Net sales X 100 = 100 operating ratio

Note: Higher the ratio the better it is cost of goods sold= opening stock + purchase + wages +
other direct expenses- closing stock (or) sales – gross profit.

Operating expenses:

= administration expenses + setting, distribution expenses operating profit= gross profit –

operating expense.

concern expense
Expenses ratio = X 100
Net sales

Note: Lower the ratio the better it is

 Profitability ratios in relation to investments:

Net profit after tax & latest depreciation

1. Return on investments: X 100
share holders funds

Share holders funds = equity share capital + preference share capital + receives & surpluses
+undistributed profits.

Note: Higher the ratio the better it is

2. Return on equity capital:

Net Profit after tax & interest - preference divident
X 100
equity share capital

Note: Higher the ratio the better it is

3. Earnings per share=

Net profit after tax - preferecne divident
No . of equity shares

4. Return on capital employed = operating profit

x 100
capital employed

N . P. after tax and interest

5. Return on total assets =
Total Assets

Here, capital employed = equity share capital + preference share capital + reserves &
surpluses + undistributed profits + debentures+ public deposit + securities + long term loan +
other long term liability – factious assets (preliminary expressed & profit & loss
account debt balance)

II. Turn over ratios or activity ratios:

These ratios measure how efficiency the enterprise employees the resources of assets at its
command. They indicate the performance of the business. The performance if an enterprise is
judged with its save. It means ratios are also laced efficiency ratios.

These ratios are used to know the turn over position of various things in the ___________. The
turnover ratios are measured to help the management in taking the decisions regarding the levels
maintained in the assets, and raw materials and in the funds. These ratio s are measured in ratio
method.

cost of goods sold

1. Stock turnover ratio = average stock

Here,
opening stock + closing stock
Average stock= 2

Note: Higher the ratio, the better it is

sales
2. Working capital turnover ratio = working capital

Note: Higher the ratio the better it is working capital = current assets – essential liabilities.

sales
3. Fixed assets turnover ratio = fixed assets

Note: Higher the ratio the better it is.

sales
3 (i) Total assets turnover ratio is : total assets

Note: Higher the ratio the better it is.