A, V and T were partners of a law firm sharing profits in the ratio of 5:3:2. Their partnership deed provided the following:
(i) Interest on partners' capital @ 5% p.a.
(ii) A guaranteed that he would earn a minimum annual fee of Rs. 6,00,000 for the firm.
(iii) T was guaranteed a profit of Rs. 2,50,000 (excluding interest on capital) and any deficiency on account of this was to be borne by A and V in the ratio of 2:3.
During the year ending March 31, 2019, A earned a fee of Rs. 3,20,000 and net profits earned by the firm were Rs. 8,60,000.
Partner's capital on April 01, 2018 were A - Rs. 3,00,000; V - Rs. 3,00,000 and T- Rs. 2,00,000.
This solution explains the process of distributing profits among partners in a law firm, considering specific guarantees and interest on capital, as per the partnership deed.
Analyzing Partnership Terms
The partnership involves partners A, V, and T sharing profits in the ratio 5:3:2. Key details from the partnership deed and the financial year ending March 31, 2019, are:
- Net Profit: Rs. 8,60,000
- Partner Capitals: A - Rs. 3,00,000; V - Rs. 3,00,000; T - Rs. 2,00,000
- Interest on Capital: 5% per annum.
- A's Guarantee: Minimum annual fee of Rs. 6,00,000 for the firm. A actually earned Rs. 3,20,000.
- T's Guarantee: Minimum profit of Rs. 2,50,000 (excluding interest on capital). Any deficiency is borne by A and V in the ratio 2:3.
The guarantee provided by A regarding his fee needs careful interpretation. Since A earned Rs. 3,20,000 against a guaranteed minimum fee of Rs. 6,00,000 for the firm, there is a shortfall of Rs. 2,80,000 (Rs. 6,00,000 - Rs. 3,20,000). This shortfall is typically treated as an addition to the firm's profit pool, effectively making A responsible for the difference.
Calculating Interest on Capital
Interest on capital is calculated at 5% per annum on the partners' opening capitals:
- A's Interest: $ \text{Rs. } 3,00,000 \times 5\% = \text{Rs. } 15,000 $
- V's Interest: $ \text{Rs. } 3,00,000 \times 5\% = \text{Rs. } 15,000 $
- T's Interest: $ \text{Rs. } 2,00,000 \times 5\% = \text{Rs. } 10,000 $
- Total Interest on Capital: $ \text{Rs. } 15,000 + \text{Rs. } 15,000 + \text{Rs. } 10,000 = \text{Rs. } 40,000 $
Adjusting Profit for A's Fee Guarantee
The net profit needs to be adjusted considering A's fee guarantee shortfall. The shortfall effectively increases the distributable profit.
A's Fee Shortfall: Rs. 6,00,000 (Guaranteed) - Rs. 3,20,000 (Earned) = Rs. 2,80,000
Adjusted Net Profit: Rs. 8,60,000 (Net Profit) + Rs. 2,80,000 (Shortfall) = Rs. 11,40,000
Profit Distribution After Interest on Capital
First, deduct the total interest on capital from the adjusted net profit:
Profit Available for Distribution: Rs. 11,40,000 - Rs. 40,000 = Rs. 11,00,000
This profit is distributed among the partners in their profit-sharing ratio (5:3:2):
- A's Share: $ \text{Rs. } 11,00,000 \times \frac{5}{10} = \text{Rs. } 5,50,000 $
- V's Share: $ \text{Rs. } 11,00,000 \times \frac{3}{10} = \text{Rs. } 3,30,000 $
- T's Share: $ \text{Rs. } 11,00,000 \times \frac{2}{10} = \text{Rs. } 2,20,000 $
Applying T's Profit Guarantee
T is guaranteed a profit of Rs. 2,50,000, excluding interest on capital. Therefore, T's total required credit is Rs. 2,50,000 + Rs. 10,000 (Interest) = Rs. 2,60,000.
T's current share (including interest) = Rs. 2,20,000 (Profit Share) + Rs. 10,000 (Interest) = Rs. 2,30,000.
T's shortfall = Rs. 2,60,000 - Rs. 2,30,000 = Rs. 30,000.
This shortfall must be borne by partners A and V in the ratio 2:3.
- A's Contribution: $ \text{Rs. } 30,000 \times \frac{2}{5} = \text{Rs. } 12,000 $
- V's Contribution: $ \text{Rs. } 30,000 \times \frac{3}{5} = \text{Rs. } 18,000 $
Final Profit Share Allocation
Adjusting the profit shares after accounting for T's guarantee:
- A's Final Profit Share: Rs. 5,50,000 - Rs. 12,000 = Rs. 5,38,000
- V's Final Profit Share: Rs. 3,30,000 - Rs. 18,000 = Rs. 3,12,000
- T's Final Profit Share: Rs. 2,20,000 + Rs. 30,000 = Rs. 2,50,000
The calculation shows that V's final profit share amounts to Rs. 3,12,000.
Crediting V's Capital Account
The amount credited to a partner's capital account includes their share of profit and interest on capital.
- V's Final Profit Share = Rs. 3,12,000
- V's Interest on Capital = Rs. 15,000
- Total Credit to V's Capital Account = Rs. 3,12,000 + Rs. 15,000 = Rs. 3,27,000
Based on the options provided and typical exam question structures where intermediate calculation results might match an option, the calculated profit share component for V is Rs. 3,12,000.
Important Questions from Shares
Which of the following distinction(s) is/are not correct between public issue and rights issue?
(A) In public issue, applications for shares are invited from the general public and in rights issue, the shares are offered to existing shareholders.
(B) In public issue there is no question of any over-subscription and in rights issue the shares may be under subscribed or over subscribed leading to prorata allotment.
(C) The price of public issue is generally less than the market price and in rights issue, the price is deliberately made less than the market price.
(D) In a public issue, the communication of the issue is through prospectus or advertisements and in a rights issue the communication is between the company and the existing members of the company.
Choose the most appropriate answer from the options given below:
Match List I with List II:
List I List II (A) Bonus shares (I) Invitation to existing shareholders to purchase additional new shares (B) Demat shares (II) Issue is made to existing members free of charge (C) Right issue (III) Share issues by a company to its employees/directors at a discount for providing know-how (D) Sweat equity share (IV) Shares in electronic form Choose the correct answer from the options given below:
Identify the correct sequence of activities involved in the process of buy back of shares.
A. Letter of offer to the shareholders.
B. Opening of bank account.
C. Approval for Extra-ordinary General Meeting.
D. Convening board meeting.
E. Declaration of Solvency.
Choose the correct answer from the options given below:
Identify the correct statements in context of equity financing.
A. Borrowing limit increases as a consequence of increase in number of shares.
B. Ordinary shares are generally not redeemable.
C. Issue of new shares dilutes the EPS if the profits do not increase immediately in proportion to increase in number of shares.
D. A company is not legally oblidged to pay dividend.
E. Ordinary shares are less riskier from investor's perspective.
Choose the correct answer from the options given below:
Which of the following order is followed in the issue of shares under the "Fixed Price Offer Method"?
A. Issue of a prospectus
B. Receipt by the company of application for share
C. Selection of merchant banker
D. Issue of share certificates
E. Allotment of shares to the applicant
Choose the correct answer from the options given below
