DUE DATE : 3:00 p.m. 19 MARCH 2013

ASSIGNMENT 1

SEMESTER :

FINANCIAL ACCOUNTING (FA)

STUDY UNITS COVERED :

STUDY UNITS 1-4

:

CHAPTERS 1-6

DUE DATE

:

3:00 p.m. 19 MARCH 2013

TOTAL MARKS

:

100

INSTRUCTIONS TO CANDIDATES FOR COMPLETING AND SUBMITTING ASSIGNMENTS

The complete ‘Instructions to Students for Completing and Submitting Assignments’ must be collected from any IMM GSM office, the relevant Student Support Centre or can be downloaded from the IMM GSM website. It is essential that the complete instructions be studied prior to commencing your assignment. The following points highlight only a few important notes.

1. You are required to submit ONE assignment per subject.

2. The assignment will contribute 20% towards the final examination mark, and the other 80% will be made up from the examination, however the examination papers will count out of 100%.

3. Although your assignment will contribute towards your final examination mark, you do not have to earn credits for admission to the examinations; you are automatically accepted on registering for the exam.

4. Number all the pages of your assignment (page 1 of 4) and write your name and surname, student number and subject at the top of each page.

5. The IMM GSM requires assignments to be presented on plain A4 paper. You must show all working calculations, including and where appropriate multiple choice working calculations.

6. A separate assignment cover, which is provided by the IMM GSM, must be attached to the front cover of each assignment.

7. Retain a copy of each assignment before submitting, in case the original does not reach the IMM GSM.

8. The assignment due date refers to the day up to which assignments will be accepted for marking purposes. The deadline is 3:00 p.m. on 19 March 2013. Late assignments will be accepted, but 25 marks will be deducted from the maximum mark, if received after 3:00 p.m. on 19 March 2013 and up to 5:00 p.m. the following day after which no assignments will be accepted.

9. If you fail to follow these instructions carefully, the IMM Graduate School of Marketing cannot accept responsibility for the return of the assignment. It may even result in your assignment not being marked.

QUESTION 1 – Theoretical concepts [20] Brave Brands Marketing is a well-renowned marketing organisation with a strong workforce of dedicated employees. However, the CEO has recently identified that many of his staff members have a poor understanding of financial statements and difficulty in interpreting financial data as their tertiary education has not exposed them to such information. As an IMM GSM graduate and flourishing marketing manager, you have been asked to do research which will enable you to answer the following questions in preparation for the training course that you will perform internally for the company.

1.1 In a brief but comprehensive response, define the role of accounting. (You are required, amongst others, to address accounting information, users of financial information, the accounting process and the role of financial

accounting vs. management accounting.) (½ x 12)(6)

1.2 You have identified, as a marketer, that whilst you are not directly responsible for preparing financial statements you are certainly required to perform financial analysis. Discuss the purpose of and need for financial analysis.

(½ x 8)(4)

1.3 In general, explain what the statement of comprehensive income (income statement) and statement of financial position (balance sheet) portray about a business entity and briefly discuss what is contained in each statement. (4) 1.4 The statement of comprehensive income is said to be prepared (as per IAS 1 of the International Financial Reporting Standards) using the accrual basis whereas the statement of cash flows is prepared using the cash basis. Briefly discuss the difference between the cash basis and accrual basis of accounting using the example of rent of R24 000 being paid in advance by Company A for 12 months from 1 September 2012. Company A has a

December year end. (4)

1.5 The CEO has described an item in the financial statements of Brave Brands Marketing as “…a present obligation, arising from a past event, the settlement of which is expected to result in an outflow from the enterprise of

resources embodying economic benefits.” State what element of the

accounting equation the CEO is referring to and give any example of the said

QUESTION 2 – Current and non-current assets [15] Sunshine Sail Cruises (SSC) is a company which owns a fleet of cruise ships and offices and specialises in providing exotic cruises across various locations.

PART A

SSC has realised that the value of its tangible assets (property, plant and equipment) is a material item in its financial statements and thus takes great care in faithfully representing the figures. The CEO knows that accounting for the consumption of economic benefits inherent in the items or use thereof through depreciation is very important. He has learnt that the definition of depreciation is “the systematic allocation of an asset’s depreciable amount over its economic useful life.” He is struggling to account for a new cruise ship that was purchased for R196 000 000 on 12th May 2012. R122 000 000 was spent on finalising the cabins, painting the ship in the company colours and getting professional fitters to get the ship in a condition as was intended for its use. After approximately 17 days the ship was ready to be used for its first cruise from the 1st June 2012. On the 16th June 2012 the ship’s hull was damaged by a passing tug boat and R52 000 was spent on repairing the damage. The ship was expected to be used (from the 1st June 2012) for 16 years after which it could be sold for R118 000 000. The accountant has suggested that a diminishing balance rate of 6% per annum could also be applied. SSC has a February year end. 2.1 TWO methods of depreciation are available to SSC. Identify these two

methods and briefly explain the differences between the two methods. (2) 2.2 Identify which ONE of the methods identified above would be most

applicable for the SSC cruise ship and briefly explain why you have chosen

that method. (2)

2.3 Using the information provided, calculate the initial/capitalised cost of the asset that would be recognised and depreciated from the 1st June 2012. (2) 2.4 Using the information provided, calculate the depreciation for the year ended 28th February 2013 if the straight line method is selected for depreciation. (2) 2.5 Show the effect of the amount, calculated in 2.4, on the elements of the accounting equation. (You are required to show the amount and a + OR – to

indicate an increase or decrease.) Use the following headings as a guide: (1)

ASSETS OWNERS’ EQUITY LIABILITIES

2.6 Using the information provided, calculate the depreciation for the year ended 28th February 2013 if the reducing balance method is selected for

PART B

One of the ‘duty-free’ fragrance stores ‘Smell-IT’ on board one of the cruise ships is having some issues relating to the control of its stock. Declining sales of one of the brands ‘Higo Loss’ has been as a result of customers seeing it as outdated and too common as a result of poor marketing efforts. There are 20 bottles of Higo Loss on the shelves currently selling for R360 each (cost price of R 150 each). It is estimated that each bottle could be sold for one third of its original selling price. The owner of Smell-IT is unsure of how to measure her inventory and has asked for your assistance.

2.7 Calculate the net realisable value of the 20 bottles of Higo Loss. (2) 2.8 Calculate the total cost price of the 20 bottles of Higo Loss and indicate what amount the Higo Loss stock should be held at, explaining your reasons for

stating the amount calculated. (2)

QUESTION 3 – Accounting statements and adjustments [40]

Linda Mphosi, being a driven entrepreneur, opened her own Laundromat at the beginning of March 2012, trading as ‘Linda’s Laundry’. Her specialty lies in repairing and servicing broken coats and shoes along with the mandatory cleaning of laundry. She also stocks some cleaning and other useful products, mostly from one supplier ‘Laund-Right’. As Linda is quite inexperienced in bookkeeping and with the accounting requirements as per the International Financial Reporting Standards, she has asked for your assistance in accounting for all the transactions.

The following is a list of transactions which have occurred during her first year of trading, ended 28th February 2013.

1. On the 3 March 2012 Linda contributed R150 000 cash to the business as her capital contribution. In addition to the cash she also transferred her old Renault Scenic into the business’s name to be used as a delivery car. The fair value of the car at that date was R96 000.

2. During April Linda repaired 5 pairs of shoes and charged the customer R25 per pair. The customer settled the amount owing up front in cash.

3. Linda purchased, on credit, more Laund-Right products for resale from her supplier. The goods cost R2 250 and related to 30 items.

4. Linda started to find running the business and being the sole employee to be very stressful. As a result, at the end of April she hired a friend to help her serve customers. She agreed to pay her friend R82 200 per year. Linda correctly accounted for the salary to her friend each month. However, on the 28 February she got caught up in month-end processes and forgot to process the payroll accounts and payments. As a result she will only be able to pay her friend in March 2013.

5. In May Linda wanted to buy new cleaning equipment in order to make her operations more efficient. In order to do so she applied for a loan from Grant Bank and was granted a facility of R250 000. The money was deposited into the business’s current account on the 3rd

of May. The loan will be repaid in full in 2016 and earns simple interest of 15% per annum. The interest had been accounted for correctly and was paid on a monthly basis at month end.

6. Linda bought the cleaning equipment on the 5th May and paid R250 000 cash for it.

7. Linda took out business insurance in the company’s name on the 28th May that will cover the business from 1st June 2012. The monthly premiums (at R1 200 per month), that are deducted via a debit order, were all correctly accounted for except for that of February 2013. It was discovered that a bank error caused the debit order to lapse. Linda will pay the premium manually to the insurance company on the 12th March 2013.

8. In order to gain exposure, Linda approached a marketing organisation. She was motivated by their ideas and on the 5th June 2012 she paid them R12 000 cash for an advertising campaign that would run for 12 months from that date.

9. During July Linda’s Laundry sold 12 Laund-Right products to customers. All items were sold for cash at R160 per item. (Cost price R75 per item.)

10. In August, Linda took two Laund-Right products to give to her sister to sample. 11. On the 1st of September 2012 Linda’s Laundry received commission income in cash from Laund-Right suppliers because she stocks its product exclusively. This is a once off payment of R150 000 by them to cover a contract period for a year from the 1st of September where Linda is required to continue selling its product.

12. Other operating expenses incurred by Linda’s Laundry for the period ended 28th February 2013 included:

Telephone R 1 300

Rent R12 500

Machine repairs R 3 200

13. Various services performed on credit for customers over the period amounted to R88 000. And miscellaneous cash and credit sales of products amounted to R6 500 over the period. (Cost of sales R3 200.)

14. Depreciation on the equipment was correctly calculated at R20 800 for the period.

15. Further cash purchases of Laund-Right products amounted to R5 400.

16. Mrs Jones, a credit customer, was declared insolvent during the period and as a result her account of R800 should be written off as irrecoverable.

17. Ignore VAT. Assume that Linda’s Laundry uses a perpetual inventory system.

Required:

3.1 Using a table such as the one below, show the effect (either + / -) as well as the accounts affected by transactions 1, 3 and 6 only. (A random example

is given below for your reference as to how to lay out your answers.) (4)

ASSETS OWNERS’ EQUITY LIABILITIES

E.G.: + 2 000

Bank

+ 2 000 Rent income

0

3.2 Refer to transaction 8:

a) Process the journal entry that would have been processed on the 5th June 2012. (Assume that Linda accounts for the whole amount as an

expense when paid.) (2)

b) Process the internal/adjusting journal entry that would be required on the 28th February 2013 relating to the prepayment in the transaction.

(2)

3.3 Refer to transaction 5:

a) Process the journal entry to account for the cash proceeds received from the loan. (2) b) Process the journal entry that would have taken place each month to

account for the interest incurred and paid for. (Show all workings.) (3) 3.4 Prepare a complete and correctly accounted for statement of

comprehensive income (income statement) for the period ended 28

February 2013. (19)

3.5 Show an extract of the statement of financial position (balance sheet) as at 28th February 2013, showing the equity and liabilities section only. (8) NOTE: IT IS RECOMMENDED THAT YOU USE THE SUGGESTED FORMATS PROVIDED FOR THIS QUESTION IN ANNEXURE A AT THE END OF THE QUESTION PAPER.

QUESTION 4 – Financial analysis [25] This question consists of TWO unrelated parts.

PART A

The following information relating to XXY Ltd is to be used in answering questions 4.1 - 4.3.

R ASSETS

Property and plant 592 000

Inventory ?

Trade receivables ?

Bank 50 000

TOTAL ASSETS 864 000

EQUITY AND LIABILITIES

Share capital 600 000

Reserves ?

Non-current liabilities 120 000

Current liabilities ?

XXY Ltd has a current ratio of 4:1 and an inventory turnover ratio of 10.5 times. Assume the average inventory equals the ending inventory and the cost of sales expense for the year amounts to R1 470 000.

Required:

4.1 Calculate XXY’s closing inventory balance, represented by a ‘?’ in the

information provided. (2)

4.2 Calculate XXY’s current liabilities, represented by a ‘?’ in the information

provided. (2)

4.3 Calculate the quick ratio for XXY Ltd from the information provided/calculated. (Round your answer to 2 decimal places.) (2) 4.4 When analysing financial information, state one relevant benchmark against

which you could compare the above results. (1)

NOTE: FOR THE PURPOSES OF THIS QUESTION, ASSUME THE FOLLOWING:

Inventory turnover = Cost of sales

PART B

The following are extracts from the statement of comprehensive income and the statement of financial position of Hits and Hammers Limited in respect of the June 2012 and 2013 financial years. You are required to use the information to answer the questions on the next page.

Hits and Hammers Limited

Extract from the statement of comprehensive income

R’000 R’000

2013 2012

Sales 1 290 000 980 000

Cost of sales 853 500 588 000

Finance cost 20 000 25 000

Profit after tax 204 750 135 100

Hits and Hammers Limited

Extract from the statement of financial position

R’000 R’000

2013 2012

Share capital 292 000 150 000

Retained income / Accumulated profit (opening balance) 425 000 275 000

Long-term loan (10% p.a.) 200 000 250 000

Inventory 200 000 160 000

Trade receivables (debtors) 193 800 167 200

Bank 44 000 38 000

Trade payables 214 750 120 000

Non-current assets (at carrying value) 1 131 750 795 000

Industry averages for the year ended June 2013

Current ratio 1.75:1

Quick ratio 1.25:1

Debt to equity ratio 52%

Average days inventory on hand 65 days

Average debtors collection period 80 days

Gross margin 32%

Additional information 2013 2012

Market price of shares R15.75 R12.80

Dividends per share 38 cents 40 cents

Required: (You are NOT required to use averages. You are required to round your answers to 2 decimal places and to the nearest whole day where applicable.)

4.5 Calculate the percentage change in sales between 2012 and 2013. (1) 4.6 4.6.1 Calculate the gross profit percentage on sales for 2012 and 2013. (2) 4.6.2 Provide ONE possible reason for the change calculated between the

two years in 4.6.1. (1)

4.7 Calculate the following for the 2013 year:

4.7.1 Average days inventory on hand. (1)

4.7.2 Average debtors collection period. (1)

4.7.3 Briefly comment on the ratios calculated above. You are required to briefly describe what you understand about the ratios as well as compare them to any relevant figures provided. (4 x ½)(2) 4.8 Calculate the total asset turnover ratio for 2013 and briefly explain what this

ratio represents. (3)

4.9 4.9.1 Calculate the earnings per share for 2013. (1) 4.9.2 Calculate the price earnings ratio for 2013. (1) 4.9.3 Briefly explain what the PE ratio indicates about the perception the

market has of the business. (1)

4.10 The following ratios have been correctly calculated for Hits and Hammers:

2013 2012

Current ratio 2.04 : 1 3.04 : 1

Quick ratio 1.11 : 1 1.71 : 1

Debt to equity 28% 59%

Times interest earned/interest cover 15.63 times 8.72 times

4.10.1 Taking the above into account, as well as any additional information, comment briefly on the short-term liquidity of Hits and Hammers. (2) 4.10.2Comment on the gearing and long-term solvency in terms of Hits and

Hammers. (2)

ANNEXURE A – Suggested format for answers to Question 3 3.1

3.2 and 3.3

(a) Details/Account Debit Credit

(b)

3.4Statement of comprehensive income for the year ended 28 February 2013 R

Sales Cost of sales

Gross profit

Laundry service income

Other income

Operating expenses

Finance cost

Trans. ASSETS OWNERS’ EQUITY LIABILITIES

1

3 6

3.5Extract from the statement of financial position as at 28th February 2013 R

EQUITY AND LIABILITIES Equity

Liabilities

Non-current liabilities

Current liabilities