Drafting Financial Statements (Accounting Practice, Industry and Commerce) (DFS) (2003 standards) Suggested Answers SECTION 1 PART A Task 1.1 Loittede plc Consolidated balance sheet as at 30 September, 2003 Fixed assets Intangible assets 2,800 Tangible assets 77,407 Current assets 28,757 Creditors: amounts falling due within one year (13,658) Net current assets 15,099 Creditors: amounts falling due after more than one year Long term loan (40,400) 54,906 Capital and reserves Called up share capital 10,000 Share premium 4,000 Profit and loss account 34,286 48,286 Minority interest 6,620 Workings: 54,906 (i) Loittede plc holding in Chetou Ltd: 3,000,000 = 75% 4,000,000 (ii) Revaluation of assets in Chetou Ltd to fair value at date of acquisition: DR Fixed assets 3,680,000 CR Revaluation reserve 3,680,000
(iii) Calculation of goodwill arising on consolidation and minority interest: {Attributable to Loitedde plc} (all ) Total At Since Minority Equity Acquisition Acquisition Interest 100% 75% 75% 25% Share capital 4,000 3,000 1,000 Share premium 2,000 1,500 500 Revaluation reserve 3,680 2,760 920 P & L: - at acquisition 14,320 10,740 3,580 - since acquisition 2,480 1,860 620 18,000 6,620 Consideration 21,000 Goodwill arising on consolidation 3,000 P & L account Loittede plc 32,626 less Goodwill written off (200) P & L account of Loittede 34,286 (iv) Goodwill arising on consolidation 3,000 Written off during year (200) 2,800 Task 1.2 (a) According to FRS 2 and the Companies Act an undertaking is the parent undertaking of a subsidiary undertaking if any of the following apply: (i) It holds a majority of the voting rights in the undertaking (ii) It is a member of the undertaking and has the right to appoint or remove directors holding a majority of the voting rights at meeting of the board on all, or substantially all, matters (iii) It has the right to exercise a dominant influence over the undertaking (iv) It is a member of the undertaking and controls alone, pursuant to an agreement with other shareholders or members, a majority of the voting rights in the undertaking (v) It has a participating interest in the undertaking and it actually exercises a dominant influence over the undertaking or it and the undertaking are managed on a unified basis (vi) A parent undertaking is also treated as the parent undertaking of the subsidiary undertakings of its subsidiary undertakings (b) According to FRS 10 purchased goodwill should be capitalised and classified as an asset on the balance sheet at its cost. Where goodwill is regarded as having a limited useful economic life it should be amortised on a systematic basis over that life. In consequence, the goodwill was capitalised at cost in Task 1.1 and amortised over its 15-year life. A year s amortisation of 200,000 was deducted from the cost of the goodwill of 3,000,000 to arrive at a goodwill balance of 2,800,000 in the consolidated balance sheet of Loittede plc as at 30 September 2003.
Task 1.3 Kaypiemgee Ltd Reconciliation of operating profit to net cash inflow from operating activities Operating profit Depreciation charges Profit on sale of tangible fixed assets Increase in stock Increase in debtors Increase in creditors Net cash inflow from operating activities Task 1.4 3,107 1,995 (107) (170) (225) 129 4,729 Kaypiemgee Ltd Cash Flow Statement for the year ended 30 September 2003 Net cash inflow from operating activities 4,729 Returns on investments and servicing of finance Interest paid Taxation Capital expenditure Payments to acquire tangible fixed assets Proceeds from sale of fixed asset Equity dividends paid Financing Issue of ordinary share capital Increase in cash (4,846) 711 2,000 (226) (516) (4,135) (1,000) (1,148) 2,000 852 Workings for Task 2.3 (all figures ) (i) Proceeds from sale NBV of asset sold 604 = Profit 107 therefore, Proceeds from sale = NBV of asset sold 604 + Profit 107 = 711 (ii) (iii) Fixed asset additions: Opening balance 15,657 depreciation 1,995 - Net book value of asset sold 604 + additions? = Closing balance 17,904 therefore? = 4,846 Taxation paid: Taxation Cash 516 Bal b/f 635 Bal c/f 840 P & L 721 1,356 1,356
PART C Task 1.5 1. DR Dividend 1,200 CR Dividend payable 1,200 2. DR Stock (balance sheet) 11,402 CR Stock (profit and loss account) 11,402 3. DR Taxation 1,481 CR Taxation payable 1,481 Task 1.6 Turnover Continuing operations Acquisitions Discontinued operations Cost of sales Gross profit Senander plc Profit and loss account for the year ended 30 September 2003 31,438 4,623 36,061 831 36,892 (19,766) 17,126 Distribution costs Administrative expenses Operating profit Continuing operations Acquisitions Discontinued operations Loss on disposal of discontinued operations Profit on ordinary activities before interest Interest payable Profit on ordinary activities before taxation Tax on profit on ordinary activities Profit on ordinary activities after taxation Dividends Retained profit for the financial year 5,842 642 6,484 28 (6,851) (3,763) 6,512 (264) 6,248 (310) 5,938 (1,481) 4,457 (1,200) 3,257
Workings W1 Turnover Sales per ETB Less acquisitions Less discontinued operations Turnover continuing operations W2 Cost of sales 36,892 (4,623) ( 831) 31,438 Opening stock 9,523 Purchases 21,645 Closing stock (11,402) 19,766 W3 Operating profit continuing operations Gross profit Less Distribution costs Less Administration expenses Operating profit Less operating profit acquisitions Less operating profit discontinued operation Operating profit continuing operations 17,126 (6,851) (3,763) 6,512 (642) (28) 5,842 OR Acquisitions Discontinued operations Continuing Operations Total Turnover Cost of sales 4,623 (1,849) 831 (457) 31,438 (17,460) 36,892 (19,766) Gross profit Distribution costs Administration expenses 2,774 (1,257) (875) 374 (184) (162) 13,978 (5,410) (2,726) 17,126 (6,851) (3,763) Net profit 642 28 5,842 6,512 W4 Dividends Final dividend (6,000,000 shares @ 20p per share =) 1,200
SECTION 2 PART A Task 2.1 Notes for a meeting (a) Formulas used in calculating the ratios: Current ratio = Current Assets Current Liabilities Quick ratio = Current Assets less stock Current Liabilities Debtors turnover = Trade debtors x 365 Sales Creditors turnover = Trade creditors x 365 Cost of sales Stock turnover = Stock x 365 Cost of sales (b) Explanation of the meaning of the ratios Current ratio: this ratio measures the extent to which the company has sufficient current assets to meet its current liabilities it gives an indication of the liquidity of the company, but can also show that too much is invested in current assets such as stock and debtors and cash in relation to current liabilities Quick ratio/acid test: this ratio measures the extent to which the company has sufficient current assets that are quickly convertible into cash to meet its current liabilities it also gives an indication of the liquidity of the company, but can also indicate whether too much is invested in debtors and cash in relation to current liabilities Debtor turnover this ratio shows the average number of days it takes to collect debts Creditor turnover this ratio shows the average number of days it takes for the company to pay its creditors Stock turnover this ratio shows the average number of days that it takes to sell the stock of the company
(c) Comment on change in ratios Current ratio: this ratio has increased during the year suggesting that the company has more current assets to meet its current liabilities than in previous years and hence better liquidity however, this might be because stock or debtor balances have increased rather than cash balances and these may not be readily convertible to cash to pay off creditors and so does not necessarily mean more liquidity and may indicate problems in selling stock or collecting debtors Quick ratio/acid test: this ratio has deteriorated during the year which means that there are less current assets that are quickly convertible into cash to meet its current liabilities which suggests decreased liquidity the fact that this ratio has decreased even though the current ratio has increased suggests that the reason why the current ratio has increased is due to increases in the amount of stock held in relation to current liabilities rather than any genuine improvement in liquidity because the quick assets include debtors, this ratio might conceal further liquidity problems since a failure to collect debtor balances may also result in a higher ratio Debtors turnover the ratio has deteriorated over the two years as it now takes, on average, 16 more days to collect debts than last year the fact that it takes longer this year to collect debts than last year may be due to liquidity problems of customers, an increase in bad debts or a failure to chase up overdue debts which might point to failures of management of working capital Creditors turnover the number of days taken to pay creditors has fallen a little over the two years this does not suggest that the company has had difficulty in finding funds to pay creditors and, therefore, does not appear to have liquidity problems that have forced the business to pay creditors more slowly the decrease may be due to inefficiencies in management and the failure to make full use of credit terms, but it is possible that creditors have tightened up on the period of credit allowed which might indicate suspicions about the liquidity of the company Stock turnover this ratio has deteriorated over the two years as it now takes 17 days longer to sell stock than it did last year this shows that there may be problems with stock control which may point to overstocking or to increasing amounts of old stock being included against which provisions may be required to be made
PART B Task 2.2 (a) The Statement of Principles for Financial Reporting states that management is accountable for the safe-keeping of the entity s resources and for their proper, efficient and profitable use. In other words, they are the stewards of the resources of the entity and are responsible to shareholders for the management of the resources to ensure that they generate adequate profit and cash flows to give them a return and to ensure that lenders to the business are repaid. (b) (c) In the circumstances set out in Part A, a shareholder uses the financial statements to determine how effectively and efficiently management has been using working capital of the business. The ratios were calculated from the financial statements of the business in order to compare the management of these resources from one year to the next and to determine the liquidity position of the business. Ownership interest is defined by the Statement of Principles for Financial Reporting as the residual amount found by deducting all of the entity s liabilities from all of the entity s assets. The ownership interest is related to the other elements in the accounting equation as follows: Assets Liabilities = Ownership interest