Week 12 Answers: Revision

Week 3 revision:
Question 1
Peter started his business on 1st February 2018, and completed the following transactions during the month of
February.
£
01- Feb Peter deposited cash into the business bank account 70,000
02- Feb Bought a Delivery Van paid by cash 10,000
07- Feb Bought goods for cash 7,500
09- Feb Bought shop fittings paid by cash 3,500
12- Feb Sold goods for cash 5,500
25- Feb Paid wages to a shop assistant 850
28- Feb Peter withdrew from business bank account for personal use 2,500

Required to:
i. Prepare journal entries to record these transactions
ii. Prepare the relevant ledger (T) accounts and balance off the accounts,
iii. Prepare the trial balance at the end of February 2018.

i. Prepare journal entries to record these transactions

Date Accounts Debit (£) Credit (£)

01-Feb Cash and Bank 70,000

Capital 70,000
02-Feb Motor Vehicle 10,000
Cash and Bank 10,000
07-Feb Purchases 7,500
Cash and Bank 7,500
09-Feb Shop Fittings 3,500
Cash and Bank 3,500
12-Feb Cash and Bank 5,500
Sales Revenue 5,500
25-Feb Wages 850
Cash and Bank 850
28-Feb Drawings 2,500
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 Cash and Bank 2,500
99,850 99,850

ii. Prepare the relevant ledger (T) accounts and balance off the accounts,

Cash in Bank A/C

Date Account £ Date Account £
01-Feb Capital 70,000 02-Jan Motor Vehicle 10,000
12-Feb Sales 5,500 07-Feb Purchases 7,500
09-Feb Shop Fittings 3,500
25-Feb Wages 850
28-Feb Drawings 2,500
28-Feb Bal. c/d 51,150
75,500 75,500
01-Mar Bal. b/d 51,150

Capital A/C
Date Account £ Date Account £
28-Feb Bal. c/d 70,000 01-Feb Cash and Bank 70,000
70,000 70,000
01-Mar Bal. b/d 70,000

Motor Vehicle A/C

Date Account £ Date Account £
02-Feb Cash and Bank 10,000 28-Feb Bal. c/d 10,000
10,000 10,000
01-Mar Bal. b/d 10,000

Purchases A/C
Date Account £ Date Account £
07-Feb Cash and Bank 7,500 28-Feb Bal. c/d 7,500
7,500 7,500
01-Mar Bal. b/d 7,500

Shop Fittings A/C

Date Account £ Date Account £
09-Feb Cash and Bank 3,500 28-Feb Bal. c/d 3,500
3,500 3,500

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 01-Mar Bal. b/d 3,500

Sales A/C
Date Account £ Date Account £
28-Feb Bal. c/d 5,500 12-Feb Cash and Bank 5,500

5,500 5,500
01-Mar Bal. b/d 5,500

Wages A/C
Date Account £ Date Account £
25-Feb Cash and Bank 850 28-Feb Bal. c/d 850
850 850
01-Mar Bal. b/d 850

Drawings A/C
Date Account £ Date Account £
28-Feb Cash in Bank 2,500 28-Feb Bal. c/d 2,500
2,500 2,500
01-Mar Bal. b/d 2,500

iii. Prepare the trial balance at the end of February 2018.

Accounts
Debit (£) Credit (£)

Cash in Bank / Bank 51,150

Capital 70,000

Motor Vehicle 10,000

Purchases 7,500

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Shop Fittings 3,500

Sales 5,500

Wages 850

Drawings 2,500

75,500 75,500

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Week 5 revision:
Question 1
The equity section of the statement of financial position of Mandy plc at 1 January 2020 is shown below:
Equity ￡

Ordinary shares of ￡1 each, fully paid 250,000

Retained earnings 146,000

Total equity 396,000

On 1 November 2020, a rights issue of shares was completed. The shares were issued on the basis of one new
share for every two shares held at a price of ￡1.20 per share. The issue was fully subscribed.
During the year ended 31 December 2020, dividends paid totaled ￡62,000
The profit for the year ended 31 December 2020 was ￡121,000
The property is valued at ￡450,000 at 1 January 2020, and to be revalued at ￡500,000 at 31 December 2020

Prepare the statement of changes in equity of Mandy plc for the year ended 31 December 2020, Use the
table provided

Solution

Mandy plc
Statement of changes in equity for the year ended 31 December 2020
Share Share Revaluation Retained Total
capital premium reserve earnings
￡000 ￡000 ￡000 ￡000 ￡000
Balances at 1 January 250 146 396
2020
Issue of share capital 125 25 150
Profit for the year 121 121
Revaluation surplus 50 50
Dividends paid (62) (62)
Balances at 31 375 25 50 205 655
December 2020

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Week 6 revision:
Question 1
Below are the last 3 years Financial Statements for East One PLC.
Income Statement

2017 2018 2019

£ (000) £(000) £(000)
Sales revenue 77,000 83,000 92,000
Less: Cost of goods sold -46,200 -46,650 -55,200
Gross profit 30,800 37,350 36,800
Less: Operating expenses
Rent & rates 300 350 500
Insurance 120 135 275
Lighting & Heating 200 245 270
Marketing expenses 510 530 600
Wages & alaries 7,500 7,750 9,000
Sundry expenses 90 110 150
Total operating expenses -8,720 -9,120 -10,725
Profit before Interest and tax (PBIT) 22,080 28,230 26,075
Interest at 10% -6,000 -7,500 -8,000
Profit before tax 16,080 20,730 18,075
Taxation at 20% -3,216 -4,146 -3,615
Profit after tax 12,864 16,584 14,460

Dividends 2,573 3,317 2,892

Retained Profit 10,291 13,267 11,568

Market price of shares at the end of the year 1.375 2.304 2.027

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 Balance Sheet
2017 2018 2019
£ (000) £(000) £(000)
Assets
Non-current assets
Land and Buildings 75,000 90,000 90,000
Plant and Machinery 12,000 18,000 20,000
Computer equipment 15,000 24,000 25,000
Current Assets
Inventories 18,000 16,000 17,600
Trade receivables 20,500 17,300 18,600
Cash and bank 26,007 23,613 19,983
Total Assets 166,507 188,913 191,183

Liabilities
Non-current liabilities
Long-term loan 60,000 75,000 80,000
Current liabilities
Trade payables 18,000 21,500 21,000
Taxation (not paid) 3,216 4,146 3,615
Total liabilities 81,216 100,646 104,615
Equity
Ordinary shares of £1 each 75,000 75,000 75,000
Profit for the year 12,864 16,584 14,460
Less - dividends -2,573 -3,317 -2,892
Total equity and liabilities 166,507 188,913 191,183

Peter, the accountant of East One PLC, needs information on financial ratios for 2018 and 2019 to submit a
report to the Finance manger of the company.

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Required to

a) calculate the following ratios for East One PLC for the year 2018 and 2019

i. Profitablity ratios:
2018
2019

37,350 36,800
1. Gross profit margin (GPM) = × 100% × 100%
83,000 92,000
x100
45.00%
40.00%

16,584 14,460
2. Net profit margin (NPM) = × 100% × 100%
83,000 92,000
x100
19.98%
15.72%

3. Return on Capital Employed (ROCE) = 28,230

× 100% 26,075
163,267 × 100%
x100 166,568

17.29%
15.65%

ii. Liquidity ratios:

2018
2019

56,913 56,183
1. Current ratio =
25,646 24,615

2.22
2.28

56,183 − 17,600
2. Acid-test / Quick ratio = 56,913 − 16,000
24,615
25,646

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 1.60 1.57

iii. Efficiency ratios:

2018
2019

17,000 16,800
1. Inventory holding period (IHP) = x × 365 × 365
46,650 55,200
365
134 days
112 days

17,300 18,600
2. Receivable collection period (RCP) = x × 365 × 365
83,000 92,000
365
77 days
74 days

21,500 21,000
3. Payable payment period (PPP) = x × 365 × 365
46,650 55,200
365
169 days
139 days

iv. Capital structure ratios:

2018
2019

75,000 80,000
1. Leverage ratio = x100 × 100 × 100
163,267 166,568

45.94%
48.03%

26,075
2. Interest coverage ratio = 28,230
8,000
7,500

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 3.76 times 3.26 times

b. Comment on the results above and assess the profitability and liquidity of the business in 2019
in comparison to the previous year 2018 performance

2018 2019
% change

Profitablity ratios:
GPM 45.00% 40.00% -11.11%
NPM 19.98% 15.72% -14.72%
ROCE 17.29% 15.65% -9.46%

Liquidity ratios:
Current ratio 2.22 2.28 2.85%
Acid-test / Quick ratio 1.60 1.57 -1.75%

 Profitability ratios: - Any 3 comments including ROCE, GPM and NPM

 GPM, NPM, and ROCE all have declined in 2019 in comparison to 2018, indicating a fall
profitability over the period.
 GPM and NPM are indicators of how well a firm is converting sales to profits. GPM has declined
by 11% and indicates firm’s control over its cost of sales.
 In 2019, 40% of sales represents its gross profit which means only 60% of revenue goes to cover
cost of sales / production.
 NPM registers a substantial decline of nearly 15% and indicates that firm has lost control over its
operating expenses. NPM in 2019 stands around 16% which implies 84% of sales revenue goes to
cover cost of sales and operating expenses.
 In 2019, the cost of sales is 60% of sales revenues, operating expenses are around 25% of sales
revenues which is significant proportion and requires appropriate action to control over.
 While revenue has increased only by 11%, Cost of revenue / COGS has increased by over 21% and
operating expenses by almost 18%, contributing to a significant fall in profitability.
 ROCE measure effectiveness in using resources to generate profits. Can observe the effectiveness
in using resources to generate profit has declined in 2019 compared to 2018

 Liquity ratios:

 Liquity ratios are indicator of a firm’s ability to meet short term obligations / pay for current
liabilities using its current assets. They show the firm short term solvency
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 East One PLC overall liquidity position has remained stable. CR has increased slightly in 2019 but
QR has declined marginally by 1.75% in 2019.
 Both CR and QR are above the ideal rate of 2:1 and 1:1 respectively.
 Ratios implies firms becoming more liquid with sufficient resources (current assets) to cover short
term obiligations (current liabilities)
 With reference to benchmark CR and QR, it implies that firm might be too liquid (holding too much
current assets) which will suggest inefficiencies in managing working capital.
 Extra liquidity can be invested at higher rate of return, helping to improve the firm’s profititability.

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Week 7 revision:
Question 1
A director of Danny plc, a medium-sized manufacturing company, is concerned about the liquidity of the
company. The company’s accountant has provided the following information.

31 July 2019 31 July 2020 Industry average

Current ratio 1.62:1 1.54:1 1.5:1
Quick ratio 0.71:1 0.64:1 0.75:1

The statement of cash flows for the year ended 31 July 2020 shows a net decrease in cash and cash equivalents
of ￡68,000.

You are required to access the liquidity of Danny plc and the extent to which you agree with the director’s
concerns.

Solution:

 The company’s current ratio is below the ideal ratio (2:1), and it has decreased slightly (by 5%) over the
year, while it is still slightly higher than the industry average. It could indicate liquidity problems as the
company might not have sufficient cash in hand to invest in more business activities after it pays its short-
term obligations.
 The quick ratio is below the ideal ratio (1:1) and industry average, it has decreased by 10% over the year.
The company might have liquidity problems as it does not have sufficient cash in hand to pay its short-term
obligations.
 Compare with the industry average, the company has higher current ratio and lower quick ratio, it indicates
that the company might holding too much inventory, or higher inventory turnover. It could create liquidity
problems as the company might not have sufficient cash in hand to operate business.
 The cash flows for the current year shows a net decrease in cash and cash equivalents of ￡68,000, which
further prove the liquidity risk of the company.
 Therefore, I would agree with the director’s concerns on liquidity of the company.
 The company should improve its inventory management to get higher quick ratio.

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Week 8 revision:
Question 1
What are the causes of agency problem? and what are the assumptions and impact of Agency Theory?

Solution:

Causes of agency problem

• Separation of ownership and management
For the limited companies, especially with larger companies, the owners (shareholders) are usually divorced
from the day-to-day control of the business
The employed directors are expected to manage the company in seeking the best interests of shareholders
• Conflict of interests in practice
In practice, directors are usually have more concerns with their own interests (e.g. remunerations, perks, job
security and status)
Where directors pursue their own interests at the expense of the shareholders, there is clearly a problem for the
shareholders.

Assumptions of agency theory

Agency Theory is used to understand the relationships between agent and principals.
• Main assumption of agency theory: the goals of the principal and agent are conflict
The basic assumption in finance theory is that the primary objective for company is shareholder wealth
maximization
In practice, company managers prefer to pursue their own personal objectives
• Managers are likely to display a tendency towards ‘egoism’ (e.g. behavior that leads them to maximize
their own perceived self-interest).
• The ‘short-termism’
Managers are tend to focus on projects and company investments that provide high short-run profits (where
managers’ pay is closely related), rather than the maximization of long-term shareholder wealth through
investment in projects that are long term in nature.
• Managers are tempted to supplement their salaries with as many perquisites as possible, leading to
reduction in shareholder value.
• It is expensive and difficult for the principals to verify what the agent is doing

Impact of Agency Theory

• How shareholders can control agents
Voting at annual general meetings
Take-over mechanism
Passing of shareholder resolutions
Divesting (selling their shares)
Engagement and dialogue
Regulation or formal guidance
‘Voluntary’ codes of practice and policy documents
• Frameworks or rules are developed to monitor and control the behavior of directors:
The UK Corporate Governance Code
 Leadership
 Effectiveness
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  Accountability
 Remuneration
 Relations with shareholders
• Lead to the development of stakeholder theory
focuses on the effect of corporate activity on all stakeholders of the corporation, as opposed to focusing on the
corporate effect on the shareholders

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Week 9 revision:
Question 1
Break-even analysis
Bookmark Limited makes high quality wooden bookmark. The selling price is ￡26 per unit and the total
variable cost is ￡16 per unit. The company estimates that the fixed costs per month associated with this
product are ￡8,000.
You are required to:
a) Calculate the break-even point, in units per month
b) Calculate the break-even sales revenue per month
c) Calculate the estimated profit per month if Bookmark Limited makes and sells 3,500 units of product
d) If Bookmark Limited increases the selling prices by ￡1, what will be the impact on the break-even point,
assuming non change in the number of units sold?

Solution
a) BEP = Fixed cost / contribution = ￡8,000 / (￡26 - ￡16) = 800 units
b) BEP Sales = 800 units * ￡26 = ￡20,800
c) Estimated profit = Revenue – Costs = (3,500 units * ￡26) – (3,500 units * ￡16 + ￡8,000) = ￡91,000 -
￡64,000 = ￡27,000
d) New break-even point = ￡8,000 / (￡27 - ￡16) = 727.27 units
The BEP will decrease

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 Question 2
Optimum use of scare resources
Squash Ltd produce three different products, the details are shown below:
Product Orange Apple Kiwi
Selling price per unit (￡) 25 20 23
Variable cost per unit (￡) 10 8 12
Weekly demand (units) 25 20 30
Machine time per unit (hours) 4 3 4
Fixed cost is not affected by the choice of product because all three products use the same machine. Machine
time is limited to 148 hours a week.
You are required to provide recommendations about Which combination of products should be manufactured if
the business is to produce the highest profit?

Solution
Product Orange Apple Kiwi
Selling price per unit (￡) 25 20 23
Variable cost per unit (￡) (10) (8) (12)
Contribution per unit (￡) 15 12 11
Machine time per unit (hours) 4 3 4
Contribution per machine hour ￡3.75 ￡4 ￡2.75
Order of priority 2nd 1st 3rd

To produce: 20 * 3 = 60 hours
Product Units Hours
Apple 20 60
Orange 22 88
148 hours

Squash Ltd should produce 20 units of Apple product and 22 units of Orange product to produce the highest
profit.
However, by taking this action, insufficient Orange product and Kiwi product will be produced to meet
demand. This may make it difficult to re-establish these two products in the market when full production can be
resumed.

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 Question 3
Marginal cost
The following information is available about product Smart 10:
Number of units 20,000
Selling price per unit ￡12
Direct material per unit ￡2.25
Direct labour per unit ￡1.5
Total fixed production overhead ￡50,000
The marginal cost of producing one unit of product Smart 10 is:

A. ￡5.75
B. ￡8.25
C. ￡3.75
D. ￡6.25

Answer: C
Explanation: ￡2.25 + ￡1.50 = ￡3.75 per unit

Question 4
Targeted profit
The following information is available about product Pad 11:
Selling price per unit ￡100
Variable cost per unit ￡45
Total fixed costs ￡88,000
Budgeted production 2,400
units
How many units of product Pad 11 must be sold to produce a profit of ￡22,000 ?:

A. 1,100 units
B. 880 units
C. 2,000 units
D. 1,600 units

Answer: C
Explanation: (￡22,000 + ￡88,000) / (￡100 - ￡45) = 2,000 units

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Week 10 revision:
Question 1
Absorption costing
The following information is available about product Alpha:
￡
Total direct material cost 450
Total direct labour cost 510
Overheads 480
150 units of product Alpha are produced.
The absorption cost of producing one unit of product Alpha is:

A. ￡3.2
B. ￡9.6
C. ￡6.4
D. ￡6.2

Answer: B
Explanation: (￡450 + ￡510 + ￡480) / 150 = ￡9.6 per unit

Question 2
Cost plus pricing
Beta Ltd uses cost-plus pricing to calculate the selling price of its product P30, based on a 25% mark-up on
absorption cost. The following information is available about product P30:
￡
Direct material cost per unit 120
Direct labour cost per unit 240
Fixed overhead per unit 40
The selling price per unit of product P30 should be set at:

A. ￡480
B. ￡450
C. ￡534
D. ￡500

Answer: D
Explanation: (￡120 + ￡240 + ￡40) * 1.25 = ￡500

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 Question 3
Activity-based costing
Cook Well Ltd produce two type of cooking oil in bucket: Vegetable and Olive.
The information on each product:
Vegetable Olive
Direct materials per unit ￡7.4 ￡8.5
Direct labour per unit ￡1.8 ￡3.6
Sale price ￡18 ￡22.5
Monthly production units 4,000 units 6,000 units

The company’s total factory overheads are ￡80,000 per month.

The company uses activity-based costing with the following cost pools and cost drivers:
Cost pool Cost driver Overhead cost Product
per month
Machinery Number of times ￡66,000 Vegetable: 3
adjustments the machinery is adjustments per
adjusted during unit
production Olive: 8
adjustments per
unit
Quality Number of times ￡14,000 Vegetable: 1
inspections products are inspection per unit
inspected during Olive: 4
production inspections per
unit

You are required to:

a) Calculate the cost of making each unit of Vegetable and each unit of Olive.
b) Calculate the profit or loss per unit for each product

Solution:
a)
Machinery adjustment:
Vegetable Olive
Monthly production 4,000 units 6,000 units
units
Processing adjustments 3 adjustments per unit 8 adjustments per unit
Total adjustments 12,000 adjustments 48,000 adjustments
60,000 adjustments
Cost per unit of ￡1.1 per adjustment
adjustment (￡66,000 /
60,000)
Total cost of processing ￡13,200 ￡52,800
adjustment of product

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Quality inspections:
Vegetable Olive
Monthly production 4,000 units 6,000 units
units
Quality inspections 1 inspection per unit 4 inspections per unit
Total inspections 4,000 inspections 24,000 inspections
28,000 inspections
Cost per unit of ￡0.5 per inspections
inspection (￡14,000 /
28,000)
Total cost of quality ￡2,000 ￡12,000
inspections of product

Total cost of product:

Vegetable @ 4,000 units Olive @ 6,000 units
￡ ￡
Direct materials 29,600 51,000
Direct labour 7,200 21,600
36,800 72,600
Processing adjustments 13,200 52,800
Quality inspections 2,000 12,000
15,200 64,800
Total cost 52,000 137,400

Total cost of Vegetable per unit = ￡52,000 / 4,000 units = ￡13 per unit
Total cost Olive per unit = ￡137,400 / 6,000 units = ￡22.9 per unit

b)
Vegetable Olive
￡ ￡
Total cost per unit 13 22.9
Selling price per unit 18 22.5
Profit or loss per unit 5 (0.4)
Vegetable is making ￡5 profit per unit, while Olive is making ￡0.4 loss per unit

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Week 11 revision:
Question 1
Incremental budgeting and zero-based budgeting
Which of the following statements apply better to either incremental budgeting or zero-based budgeting?

Solution:
Statements Incremental Zero-
budgeting based
budgeting
Each item going into the budget has to be justified by 
the budget holder
Inefficiencies and overspending may remain in the 
budget
The budget ‘starts from scratch’ 
An increase is applied to last period’s budget figures 

Question 2
Variance
For each of the following statements calculate the amount of the variance and indicate whether it is favourable
or adverse.

Solution:
Statements Variance Favourable Adverse
￡ variance variance
Actual costs ￡2,000; budgeted costs 500 
￡2,500
Actual costs ￡11,000; budgeted costs 1,000 
￡10,000
Actual revenue ￡34,000; budgeted revenue 1,000 
￡35,000
Actual profit ￡47,000; budgeted profit 1,000 
￡46,000

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 Question 3
Budgeted cash flow
Sport Mart UK Ltd has provided the following information regarding its expected activities from July to
December 2020.

Month / Item July August September October November December

£ £ £ £ £ £

Sales 36,000 34,500 48,000 54,000 45,000 61,000

Purchases 28,000 32,000 33,000 42,000 45,000 38,000

Wages &
5,200 5,200 6,000 6,000 6,000 6,500
salaries
Rent 9,000 - - 12,000 - -

Advertising 700 800 600 900 1,000 900

Overheads 200 300 400 450 500 500

Drawings 2,000 1,500 - 3,000 1,500 2,500

The following additional information are also provided:

 The expected cash balance as of 1 October 2020 is £10,000.

 Sales are 70% on cash and 30% on credit. Payment for credit sales is received one month after
the month of sales .
 Purchases are all on credit. Credit terms of purchases allow payment within two months. The
owner of the company, Mark takes full advantage of these terms.
 Rent is paid quarterly, and wages & salaries, advertising and overheads are paid on the last day
of the month in which they are incurred.
 Mark will receive dividend of £15,000 in November 2020.
 In October, the business will sell an old vehicle for £3,750 cash, and pay cash for a new vehicle
in November 2020, which is estimated to cost £17,000.
 Mark plans to contribute £19,000 cash and £1,500 worth stationery in December 2020.
 New shop fittings valued £3,500 will be purchased in October 2020.

Using the information provided, you are required to:

a. Prepare a Budgeted Cash Flow Statement for Sport Mart UK Ltd for the period October to
December 2020.

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 b. Comment on the results and suggest three actions the management may consider to improve the
cash flow situation of the company.

a) Prepare a Budgeted Cash Flow Statement for Sport Mart UK Ltd for the period October to December
2020.

Budgeted Cash Flow Statement: October to December 2020

October November December
Inflows £ £ £
Opening balance 10,000 8,100 -18,200
Receipts from Cash sales 37,800 31,500 42,700
Receipts from Credit sales 14,400 16,200 13,500
Receipts from vehicle sales 3,750 - -
Owner’s contribution in cash - - 19,000
Total cash inflow 65,950 55,800 57,000
Outflows
Payments for purchases 32,000 33,000 42,000
Rent 12,000 - -
Wages 6,000 6,000 6,500
Advertising 900 1,000 900
Overheads 450 500 500
Dividend - 15,000 -
Purchase of new vehicle - 17,000 -
Drawings 3,000 1,500 2,500
Shop fittings 3,500
Total cash outflow 57,850 74,000 52,400

Net cash flow 8,100 -18,200 4,600

ii. Comment on the results and suggest three actions the owner may consider to improve the cash flow
situation.
 Business lacks sufficient cash in November 2020 and the net cash flow is negative. Net cash
requirement in November is +£18,200

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Recommendations:

 Sport Mart UK Ltd could delay the purchase of the new vehicle or It may consider spending less
on a new vehicle / buying a new vehicle on hire purchase / lease.
 Business may persuade the owner to invest £19,000 in November instead of December 2020.
 Owners could delay dividend (or even inject new funding into the business) to relieve the cash
flow difficulties.
 Payment of dividend could be delayed.
 Encourage credit customers to pay their dues early
 Explore if payments for credit purchases could be delayed / currently its 2 month credit period so
could negotiate for longer period of credit

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