CIMA CO2 Official Learning System - Fundamentals of Financial Accounting
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THE INTERPRETATION OF FINANCIAL STATEMENTS
SOLUTIONS TO REVISION QUESTIONS C2
540
1.3 The answer can be found as follows:
$
Cost of goods purchased 10,000
Cost of half the goods that have been sold 5,000
Gross profi t mark-up on these goods 5,000 120% 6,000
Therefore, selling price 11,000
Cash discount given 5% of $11,000 550
Therefore, operating profi t gross profi t less discount 5,450
1.4 Answer: (C)
The rate of inventories turnover is found by dividing cost of goods sold by average
inventories at cost. Only (C) gives the correct answer of 6 times.
1.5 Answer: (D)
You need only know the correct formula here.
1.6 Reconstruction of income statement:
$
Sales 2,400 (100%)
Cost of sales (1,600) (66%)
Gross profi t 800 (33%)
Expenses (680)
Operating profi t 120 (i.e. 5%)
1.7 Inventories days is:
Average inventories
Cost of goods sold
/
×=
+
365
4000 6000 2
2
[( ) ]
44 500
365 74
,
×= days
1.8 Answer: (A)
The gearing ratio is the proportion of long-term loans to shareholders ’ funds, thus it
follows that if long-term loans decrease less than equity, the gearing ratio will rise.
1.9 Answer: (C)
The current ratio is current assets: current liabilities, that is 2,900:1,100 2.6:1.
The quick ratio is current assets minus inventories: current liabilities, that is
1,000:1,100 0.9:1. The current ratio is high compared with the industry stand-
ard of 1.8:1, while the quick ratio is within acceptable limits of the ‘ norm ’ of 1:1.
Without any evidence of the reason for the high inventories levels, its current ratio
would appear to be higher than is required, and hence liquidity is poorly controlled.
THE INTERPRETATION OF FINANCIAL STATEMENTS
541
FUNDAMENTALS OF FINANCIAL ACCOUNTING
1.10 Answer: (C)
$
Sales were 100,800
Cost of sales was (72,000)
Gross profi t 28,800
Gross profi t mark-up
Gross profi t/Cost of sales 100 28,800 / 72,000 100 40%
1.11 Answer: (D)
Transfers between revenue reserves, as mentioned in (A) and (B), have no effect
on the overall total of revenue reserves; issuing shares at a premium increases capi-
tal reserves; the paying of dividends must be from revenue reserves, so these will
decrease.
1.12 Answer: (A)
Current ratio 1,390:420 3.3:1 (i.e. high)
Acid test ratio 420:420 1:1 (i.e. ideal)
1.13 ROCE Profi t before interest and tax/Average capital employed 100
Average capital employed Opening capital closing capital/2
Closing capital employed Opening capital plus profi t for the year
11,200 600 $11,800
Average capital employed 11,200 11,800 / 2 $11,500
Thus ROCE 1,200 / 11,500 100 10.43%
1.14 Operating profi t/Capital employed $15,000 $120,000 100 12.5%
1.15 Receivables including sales tax/Credit sales including sales tax $23,500 /
$117,500 365 days 73 days
1.16 Gearing Debt/Debt equity
75 / 75 500 13% (alternative answer debt/
equity 75/500 15%)
THE INTERPRETATION OF FINANCIAL STATEMENTS
SOLUTIONS TO REVISION QUESTIONS C2
542
Solution 2
Workings
Cost of sales Sales 120% of cost of sales
Cost of sales =×=$, $,240 000 200 000
100
120
Closing inventories $200,000 4 0 / 365 $21,918
Receivables $240,000 30/365 $19,726
Purchases Opening inventories purchases closing inventories cost of sales, therefore
Purchases cost of sales opening inventories closing inventories
$200,000 $55,000 $21,918 $166,918
Payables $166,918 5 0 / 365 $22,865
Non-current assets Sales/4 $240,000 / 4 $60,000
Gross profi t Sales cost of sales $240,000 $200,000 $40,000
P r o fi t for the period Gross profi t administration expenses
$40,000 $32,000 $8,000
Capital employed Return on capital employed 10%, therefore average capital employed
$8,000 1 0 $80,000. If a profi t of $8,000 has been made, then opening capital
employed must be $4,000 lower than the average ($76,000), and closing capital
employed must be $4,000 higher than the average ($84,000)
Net current assets Capital employed non-current assets long-term loans $84,000 $60,000
$3,438 $27,438
Current assets Inventories receivables $21,918 $19,726 $41,644
The current ratio is 2.2:1, thus the bank balance cannot be overdrawn. Current
assets must be Current liabilities 2.2 $22,865 2.2 $50,303
Bank balance Total current assets (inventories receivables)
$50,303 $41,644 $8,659
Income statement of PK for the year ended 30 June 20X6
$ $
Sales 2 40,000
Less : cost of sales
Opening inventories 55,000
Purchases 166,918
221,918
Less : closing inventories (21,918)
(200,000)
Gross profi t 40,000
Administration costs (32,000)
P r o fi t for the period 8,000
THE INTERPRETATION OF FINANCIAL STATEMENTS
543
FUNDAMENTALS OF FINANCIAL ACCOUNTING
Statement of fi nancial position of PK as at 30 June 20X6
Assets $ $
Non-current assets 60,000
Current assets
Inventories 21,918
Receivables 19,726
Bank 8,659
50,303
110,303
Capital and liabilities
Opening capital 76,000
P r o fi t for the year 8,000
Closing capital 84,000
Non-current liability
Long-term loan 3,438
Current liabilities
Payables 22,865
110,303
Solution 3
(a)
Department A ($) Department B ($) Department C ($)
Physical inventories at
3 May 20X2 3,700 8,100 21,600
Add : sales at cost 300 200 750
Less : purchases – (1,500) –
Less : returns inwards – – (150)
Add : returns outwards 270 – 800
Theoretical inventories 4,270 6,800 23,000
(b) Calculation of theoretical sales value
Department A ($) Department B ($) Department C ($)
Opening inventories
(1 April 20X2) 4,200 7,800 22,500
Purchases in April 20X2 14,200 8,400 74,000
18,400 16,200 96,500
Closing inventories
(from above) (4,270) (6,800) (23,000)
Cost of sales 14,130 9,400 73,500
Add : mark-up 5,652 2,350 73,500
Sales 19,782 11,750 147,000
Actual takings (18,750) (11,750) (147,000)
Difference 1,032 Nil Nil
The owner’s suspicions justify investigation in respect of Department A.
THE INTERPRETATION OF FINANCIAL STATEMENTS
SOLUTIONS TO REVISION QUESTIONS C2
544
Solution 4
(a) Initial workings:
$
(i) Profi t for year 92,000
Add : loss on disposal 6,000
Profi t before loss on disposal 98,000
(ii) Carrying amount at 1 May 20X4 206,000
Less: disposal ($48,000 $12,000) (36,000)
Add : additions 120,000
290,000
Carrying amount 30 April 20X5 (277,000)
Depreciation charge for year 13,000
Cash fl ow from operating activities
P r o fi t before loss on disposal 98,000
Add : depreciation charge for year 13,000
Increase in inventories (4,000)
Increase in receivables (1,500)
Decrease in payables (7,000)
98,500
Cash-fl ow statement of GH for year ended 30 April 20X5
$ $
Cash fl ow from operating activities 98,500
Cash fl ows from investing activities
Purchases of non-current assets (120,000)
Sale of non-current assets 30,000
(90,000)
Cash fl ows from fi nancing activities
Long-term loan paid off (40,000)
Capital introduced 20,000
Capital withdrawn (30,000)
(50,000)
Net decrease in bank and cash (41,500)
Bank and cash at the start of the period 54,000
Bank and cash at the end of the period 12,500
THE INTERPRETATION OF FINANCIAL STATEMENTS
545
FUNDAMENTALS OF FINANCIAL ACCOUNTING
Solution 5
(a) Income statement of JK Ltd for the year ended 31 March 20X3
$’000 $’000 $’000
Sales 647,400
Opening inventories 15,400
Purchases 321,874
Carriage inwards 13,256
Closing inventories (19,473)
(331,057)
Gross profi t 316,343
Carriage outwards 32,460
Electricity 6,994
Add : accrual 946
7,940
Local business tax 8,940
Wages and salaries 138,292
Add : accrual 2,464
140,756
Postage and stationery 6,984
Rent 14,600
Less : prepaid (2,800)
11,800
Depreciation of vehicles 7,040
(215,920)
Operating profi t 100,423
Interest receivable 7,200
P r o fi t before tax 107,623
Income tax (30,000)
P r o fi t for the period 77,623
THE INTERPRETATION OF FINANCIAL STATEMENTS
SOLUTIONS TO REVISION QUESTIONS C2
546
(b) Statement of fi nancial position of JK Ltd as at 31 March 20X3
Assets
Cost
($’000)
Acc. Depreciation
($’000)
Carrying Amount
($’000)
Non-current assets
Motor vehicles 49,400 (28,280) 21,120
Current assets
Inventories 19,473
Receivables 82,851
Interest receivable 7,200
Prepayment 2,800
Bank deposit account 90,000
Bank current account 77,240
279,564
300,684
Equity and liabilities
Ordinary shares of $1 each 50,000
Retained earnings 154,220
204,220
Current liabilities
Payables 41,936
Accrual for expenses 3,410
Income tax 30,000
Sales tax 16,382
Employees ’ income tax 4,736
96,464
300,684
Workings
Retained earnings: $76,597 $77,623 $154,220
(c) Receivables days:
Closing receivables
Credit Sales
d
×
=
×
=
365 82 851 365
647 400
47
,
,
aays
Payable
days:
Closing payables
Credit purchases
×
=
×
=
365 41936 365
321874
48
,
,
ddays
Inventories days:
Average inventories
Cost of good sold
=
×
=
17 437 365
331 057
19
,
,
ddays
THE INTERPRETATION OF FINANCIAL STATEMENTS
547
FUNDAMENTALS OF FINANCIAL ACCOUNTING
Solution 6
(a) (i) Gearing ratio
Debt
Total capital employed
100
(ii) Gearing ratio for MBC plc
10
48
100 20 8.%
(iii) ROCE
Operating profit
Average total capital employed
100
(iv) R
OCE for MBC plc
££.£
(£ £ . )
.%
4061
48 44 5 2
100 12 1
mmm
mm
N
ote that the interest on the debenture is added back ($10m 6%
$0.6 m), and
that to calculate average capital, an adjustment is made for the retained profi t of
$3.5 m, which is the profi t for the period, after the dividend.
(b) (i)
10
58
100 17 2.%
(ii)
56
53
100 10 6
.
.%
(c) (i)
20
58
10 34 5.%
(ii)
56
53
100 10 6
.
.%
(d)
(i) Pure research is into new scientifi c or technological principles.
(ii) Applied research infers a more practical nature, but not necessarily leading to
a practical application.
(iii) Development expenditure is where there is a clearly defi ned outcome and which
is expected to produce profi ts.
THE INTERPRETATION OF FINANCIAL STATEMENTS
SOLUTIONS TO REVISION QUESTIONS C2
548
Solution 7
(b) Income statement of DWS Ltd for the year ended 30 September 20X4
$ $
Sales 188,000
Less : returns inwards (8,000)
180,000
Opening inventories 31,000
Purchases (115,000 1,200) 116,200
Returns outward (6,000)
Closing inventories (53,000)
Cost of goods sold (88,200)
Gross profi t 91,800
Selling expenses 12,000
Heat and light 8,000
Wages and salaries (14,000 1,500) 15,500
Directors ’ fees (5,000 3,600) 8,600
Printing and stationery 6,000
Telephone and fax (6,000 1,000) 5,000
Rent insurance (4,000 1,000) 3,000
Auditor’s fees 3,500
Bad debts written off 3,000
Change in allowance for receivables
(see workings) (2,400)
Bank charges accrued 4,000
Depreciation of plant and machinery 12,500
Depreciation of offi ce equipment 9,600
(88,300)
Operating profi t 3,500
Income tax (1,000)
P r o fi t for the period 2,500
Statement of changes in equity of DWS Ltd for year ended 30 September 20X4
General Reserve Retained Earnings Total
$ $ $
Balance at the start of the period 7,000 34,000 41,000
P r o fi t for the period 2,500 2,500
Dividends (5,000) (5,000)
Transfer to general reserve 10,000 (10,000)
Balance at the end of the period 17,000 21,500 38,500
THE INTERPRETATION OF FINANCIAL STATEMENTS
549
FUNDAMENTALS OF FINANCIAL ACCOUNTING
(b) Statement of fi nancial position of DWS Ltd at 30 September 20X4
Assets
Cost
($)
Acc. Depreciation
($)
Carrying
Amount ($)
Non-current assets
Plant and machinery 125,000 (40,500) 84,500
O f fi ce equipment 43,800 (24,600) 19,200
168,800 (65,100) 103,700
Current assets
Inventories 53,000
Receivables (32,000 1,600) 30,400
Prepayments (3,000 2,000) 5,000
Petty cash 1,000
89,400
193,100
Equity and liabilities
Ordinary shares of 50c each 100,000
Share premium account 8,000
General reserve account
(7,000 10,000)
17,000
Retained earnings 21,500
146,500
Current liabilities
Payables (33,000 2,600) 30,400
Accruals (1,500 3,600 3,500) 8,600
Overdraft 3,600
Income tax 1,000
Declared fi nal dividend 3,000
46,600
193,100