COMPANIES

1. Briefly explain why a company has to have ‘Limited’ or ‘Ltd’ in its name.

● The owners’ (shareholders’) liability is limited to the amount they invested

● The shareholders are not responsible for the debts of the company / the company is liable for its
liabilities
● Limited liability
● A company is a legal person in its own right
● The Companies Act requires ‘Ltd’ in the name
● The company is a public company

2. Why does the Companies Act make it a requirement for public companies to be audited?

● To protect the shareholders / separation of ownership from control

● OR Public funds are used
● OR To ensure that it is a fair reflection of financial statements
● OR To ensure that directors are not misrepresenting the figures
● OR To be accountable to stakeholders e.g. shareholders, SARS
● OR To discourage fraud

3. Name ONE person who would be interested in the financial statements of the business, and
give a reason for his/her interest.

● Prospective investors (Financial Institutions) – To make investments

● Lenders – To see whether the company is solvent and security for their loans
● Suppliers – To see if amounts owed can be paid
● SARS – To calculated the tax accurately
● Competitors – To compare results
● Trade unions – For wage negotiations / job security
● Board of directors / CFO – To assess performance

4. SAICA is one of the main professional bodies governing accountants in this country.
Explain TWO of the main roles performed by the SAICA.

● Disciplinary procedure against member who is negligent

● Compliance with Code of Ethics / credibility
● Compliance with GAAP and IFRS
● Professional development / training / updated circulars
● Ensure high competence levels
● Control qualifications
● Market the profession
● Investigate complaints against members

5. Explain why it is important for the independent auditor to be a member of a professional

body .

● So that readers of financial statements can have confidence in his/her opinion.

● Assurance to the public that he/she is well trained on an on going basis.
● Disciplinary action if negligent in performing duties.
● Aware of latest trends e.g IFRS , Companies Act , King Code.
● Act in an ethical manner ( integrity , observe code of conduct )
● To benchmark quality work.

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 6. What is an external (independent) auditors' report?

● An opinion expressed by the independent auditor (appointed by the shareholders) on whether the
financial statements fairly present the results and state of affairs of the company.
● An opinion expressed by the independent auditor on his sample test of transactions of the
company.

7. When will an auditors report be an unqualified report?

● When the auditors have stated that they are satisfied with ALL aspects of the financial reportingby the
directors / company.
● The report is a standard /positive report – cannot expect better ( fairly represented )
● No negative comments reported.
● Compliance to IFRS and Companies Act.
● The auditors have not stated that the report is qualified or withheld.

8. Why is it important for an external auditor to be 'independent'?

● Because of the separation of ownership of a company (by shareholders) from the control of a
company (by directors)
● It is essential that the external auditor be free to express an unbiased opinion that is not
influenced by others.
● Because the Companies Act requires the auditor to be independent.
● Because independence gives credibility to his report (it enables others to rely on the report).

9. Why is it important for an external auditor of a public company to be a member of a

professional body, such as SAICA?

• Assurance of his knowledge of accounting and auditing principles and procedures (all technical
aspects & legislation)
• Disciplinary procedures should he be negligent in his duties (code of conduct / code of professional
practice)
• Continuous professional training development
• Ensures standardisation of treatment of financial statements (IFRS etc)

10. You have been appointed as the external auditor of Modjaji Limited. The managing director,Tom
Burke, has asked you to reflect his directors' fees of R3,6m under Salaries and Wages in the
Income Statement. Would you agree with his request? Give a reason.

No
● This is a material amount which is of interest to the shareholders who have appointed the
directors and it should therefore be shown separately in the financial statements (concept of materiality)
● It is a disclosable item (according to Companies Act) – not ethical to hide the amount
● Transparency is an important characteristic in corporate governance.

11. Briefly explain the role of an independent auditor.

● The independent auditor expresses an opinion on the fair presentation of the financial statements
● Watchdog role – look after the interests of the shareholders / public

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 12. State TWO possible consequences for an auditor if he/she agrees to commit fraud?

● They could be disciplined / fined / suspended

● He could be arrested (for fraud)
● They could be deregistered / struck off the roll
● They could be sued by the shareholders (held liable), if they are found to be negligent in
performing their duties
● He could lose clients because his integrity is questioned

13. List some significant decisions directors of a company can make.

● Issue new shares or buy back shares.

● Repay a loan or take out a loan.
● Purchase a fixed asset or sell a fixed asset.
● Paid of the overdraft.
● Paid out dividends.

Decision taken Effect on the company in future

Land and buildings / fixed decreases capital growth or income earning potential / losing out on
assets sold, appreciation of fixed assets in future / less maintenance on buildings /
higher rent expense / lower rent income / replace at
higher cost in future / cash more useful than an unused building
The bank overdraft at the resulted in a positive bank balance at the end of the year of R1 155
beginning of the year was 000 / significant improvement in liquidity / improvement in interest
repaid expense
Loans were repaid. not taking advantage of positive gearing (compare ROTCE tointerest
rate) / reduces risk / improves debt-equity ratio / less
interest to pay
Equipment was purchased new equipment might be more efficient / more productive
Additional shares were improves cash flow but dilutes earnings / only 150 000 shares to be
issued for shares issued sold according to existing authorised share capital
Dividends paid this should keep shareholders happy – positive effect on share
price and can raise more capital in future

14. Explain the difference between a qualified and an unqualified audit report.

● An unqualified report is a report without any problems – good report

● A qualified report reveals problems in certain areas of the company – all is not well.

15. The independent auditors want to qualify the report. List THREE consequences there could befor
the company or its directors.

● Existing shareholders would lose faith in the company and possibly sell their shares.
● Potential shareholders would not invest in the company
● Could result in a drop in the market price of the shares
● The financial statements would not be fairly presented
● Suppliers will lose faith in the company
● Internal control measures should be improved in order to prevent unethical transactions
● Directors could lose their jobs

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16. REASON FOR BUYING BACK OF SHARES

● e.g. reduction in the number of shareholders could result in bigger returns for the remaining
shareholders;
● directors might wish to adjust the debt/equity ratio through the buy back of shares;
● heirs of a deceased estate might not wish to become shareholders of a company;
● a dissatisfied shareholder might wish to withdraw for personal reasons; family members in a
private company might wish to retain control of the company by reducing the number of issued
shares.

17. When will a shareholder be unhappy with the price of shares sold ?

● If the shares are sold at less than the NAV ( net asset value ) or
● If the shares are sold at less than market value.

18. What is the main purpose of a Cash Flow Statement?

● It provides users of financial statements with information on the inflow and outflow of the cash
resources of the company
● To see how monies were generated or spent and what the cash flow position is.
● To account for the difference in opening and closing bank balances

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 Refer to Gr 12 Revision pack (pg. 83) in
the QR codes on pg 1 for more details
and notes on Audit reports.

 It is prepared by independent / external auditors (not employed by the company)

 Reports form part of the published financial statements of a company.
 The independent auditor issues an opinion to the readers / users of the company's financial statements on the
reliability and credibility of the financial information reflected in it.

Audit opinions
Three external audit opinions can be issued:
o unqualified ('clean' audit): financial statements are reliable; financial controls are in place
o qualified: problem areas/flaws in financial management and internal control were identified
o disclaimer of opinion: auditors not willing to issue any opinion due to flaws in the financial statements

Audit evidence consists of financial data or information that supports how transactions were recorded. It is mostly
documents, e.g. bank statements, receipts and asset registers, etc. but can also be audio/video recordings of officials
explaining financial systems, e.g. explaining the process of taking stock.

Audit samples: Not all transactions can be checked so auditors only take samples (portions) thereof. Sampling can
be statistical (a percentage of the total transactions) and / or non-statistical (value of transactions, items more than a
certain amount, items with specific information, random selection, systemic selection, haphazard selection, block
selection, monetary units).

ASPECTS from the King Code on ETHICAL management behaviour in companies

Key principles of good Discipline (commited to governance)
governance Transparency;
(King Code III) Independence (not being unduely influenced)
Accountability
Responsible management (Fairness in dealings with all stakeholders)
Sensitive to social issues (community, environment, outside world)
Company management Board of Directors, consisting of
- Executive directors (working in the day-to-day management of the Co.)
- Non-executive directors (not full-time employees; independent of the Co.)
The Board of Directors must maintain full control of the company, although it may
delegate responsibility of some tasks to management commitees to assist in making
informed decisions.

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Legislation governing Companies: Companies Act, Act 71 of 2008
Five Board committees - Risk management: they should identify physical, operational, human resources,
credit, market risks, etc. to ensure the existance of the company
- Audit committee: appointed by shareholders; members are non-executive
directors. They oversee:
 Internal audit (ensure that financial information is reliable)
 Independent auditing (the committee nominates the auditor, but shareholders
have final say in aproving them)
- Remuneration committee: make recommendations on directors' fees and other
types of 'payment', e.g. gifts, etc. They also evaluate directors' performances
- Nomination committee: ensure that the nomination and appointment of directors
are transparent and fair
- Social & ethical committee: ensure that the co. will act socially ethical and
responsible.
Diretors' performance Directors' performance are mainly 'judged' by the company's financial results.
evaluation
Negligent, inefficient directors may be removed from the board by shareholders' votes at
the AGM.
The Board of Directors may also remove a director by resuolution (a formal board
decision)
Responsibilities of King Code lists a few (not included in the Companies Act):
Board of Directors - Give strategic (long term) direction to the company
- Ensure that management implement board plans, strategies and policies
- Retain full and effective control of the company
- Directors may not misuse their position (to avoid in-trading)
- Approve the Financial Statements at a board meeting
- Financial statements must include a Directors' report
Remuneration policy - Directors may claim various forms of remuneration for their services
- These 'fees' must be fair and market related
- Extremely high directors' fees can be cause of disagreement with labour unions if
gap between highest and lowest paid employees are very big.
- Remunerations committee implements a fair and transparent process to determine
fair directors' and audit fees and acceptable forms of remuneration
Role of Independent - No connection with company
Auditors - Expresses opinion on fair presentation of financial statements
- May not audit statements for more than 5 years.
- Auditors are not on the internal payroll of the company
Why should an - Be well-qualified - investors rely on their opinion.
independent auditor - Prove that they are well qualified.
have a CA qualification? - Ensure that members have a good name
- Violate code of conduct - can be tried and removed from the profession
Role of Internal auditors - Monitor internal controls / code of conduct
- Oversees the preparation of the financial statements, is responsible for internal
control and is in the service of the company.
Business rescue - It is in the best interest of all stakeholders (shareholders, employees, suppliers,
customers) if the company is a viable and sustainable going concern.
- A company may experience tough times, making losses and experience liqudity
problems
- Board of Directors may start a 'business rescue' process IF there is reasonable
chances that the company can be rescued. (SAA is currently in 'business rescue)

Conflict of interest - A director MUST disclose any possible personal interest in company matters and
should NOT take part in the decision making process of these matters.
- A personal interest in company matters can be seen as a 'conflict' of interest, e.g. a
non-executive director may not vote on a large contract if his own company is
involved and stand to gain from it.

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Dispute resolution - Alternative methods of resolving disputes concerning the MOI and other matters
relating to a company, may be applied.
- If disputes cannot be resolved in the company, it may be referred to CIPC
(Companies and Intellectual Properties Commission)

Typical exam questions

 Explain the types of Audit Reports
 Explain the role and difference between internal and external auditor
 The consequences for an auditor if she/he agrees to an unethical request.
 Why the independent Auditor belongs to the professional body?
 List other interested parties / users of the financial statements.
 Why is a remunarations committee important to shareholders?

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FINANCIAL INDICATORS in ANALYSIS & INTERPRETATION
 Analysis and interpretation is NOT a topic in isolation; it filters into almost all topics of the syllabus.
 It will be assessed in Paper 1 and Paper 2 in Gr 12.
 Basic interpretation includes:
o applying financial Indicators to analyse and make meaningful comments
o comparisons, suggestions and problem-solving based on other factors, e.g. dividend payout policy, majority
shareholding, etc.

Information extracted from Financial statements to calculate financial indicators

Statement Key indicator Information needed
Profitability % on Sales / Cost on sales
Operating efficiency Gross profit
Statement of Net profit after tax
Comprehensive Income
Return Net profit (before/after tax)
Interest expense
Liquidity Current assets
Current liabilities
Solvency Total assets and total liabilities
Net assets (Shareholders Equity)
Risk and Gearing Non-current liabilities
Shareholders’ equity
Statement of Financial
Return Shareholders’ equity
Position
Non-current liabilities
Total capital employed
Dividends per share
Share price Share capital
Number of shares
Shareholders’ equity

%Gross profit on sales

%Gross profit on cost of sales
%Operating profit on sales
ROTCE %Operating expenses on sales
ROSHE %Net profit before tax on sales
Earnings p.s. (EPS) Current ratio
%Net profit after tax on sales
Dividends p.s.(DPS) Acid test ratio
Dividend Payout rate
NAV p.s. compared to Profitability Stock turonver rate
Stock holding period
JSE (market price) Efficient Ave Debtors collection
management of daily period
Return operations Ave Creditors payment
period
Fair earnings on Liquidity
shareholders/owners Efficient use of current
investment Analysis assets

Risk & Gearing:

& Ability to pay short term
obligations
Debt/equity ratio Interpreta-
Gearing:
Fin. risk & tion
ROTCE
compared with: Gearing Solvency
% Interest on loans Solvency ratio
Ability to repay loans Ability to pay all debts
WITH interest Sustainability - exist long into
Extent to which co. is the future
financed by own or
borrowed capital

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Steps for answering interpretative questions (process of analysing and commenting)
STEP 1: Identify the appropriate financial indicators relevant to the questions
The question(s) will not always refer directly to the financial indicators to be used,
e.g.: Comment on the liquidity of the business…
STEP 2: Calculate the appropriate indicator(s) (%, or ratio), e.g. LIQUIDITY indicators (if it was not included
in the information in the question). KNOW the five 'key' indictors illustrated on p.2 and which indicators apply
to each.
STEP 3: Compare the current year to the previous year to show the 'trend' (increase/decrease OR
improvement/decline)
STEP 4: Quote figures to support the trend. EITHER use the answer(s) of your calculations in step 2 or use the
figures given in the question.
STEP 5: Comment on the 'findings' in Steps 1 - 4 steps completed above. Comments may include/refer to:
 Information of the business in the question [the 'trend' (Step 3) with supporting figures (Step 4)]
 Remarks about other businesses in the same industry (competitors)
 Targets set (e.g. mark-up percentage)
 Alternative or corrective measures (e.g. call up the fixed deposit to pay off the bank overdraft)
NOTE:
 Comments should ONLY include information GIVEN in the question, unless your own opinion are
specifically required.
 Show insight and understanding (is it 'good' or 'bad' for this business)
 Keep comments SHORT and to the point (be guided by MARK allocation)

INTERPRETATION BEYOND FINANCIAL INDICATORS

1. Dividend pay-out policy:
 Compare the % Earnings (per share) paid out as Dividends (per share) (DPS/EPS x 100) to the %
paid out the previous year.
 It indicates the portion of the earnings ('profit') that the directors want to retain
 More dividends paid out = Reason: Directors may want to keep shareholders satisfied with their
return on investment
Consequence: Shareholders may sell shares to seek better return
elsewhere. Share value (JSE price) may drop.
 More dividends retained = Reason: Directors want to increase the shareholders' equity to obtain
financing for future growth or expansion.
Consequence: Some shareholders may keep their shares as they see
future potential for improvement in their return (dividends)

2. Majority shareholding
 It refers to a shareholder owning more than 50% of the issued shares in a company.
 More than 50% can be: 50% + 1 share OR 50% + 100 shares (batches of 100 shares)
OR 50% + 1% (51%) of the issued shares
 The number of ISSUED shares is used in the calculation as shares are issued at different prices over time.
 A change in the number of issued shares (increase/decrease) will affect this percentage (the 'change'
refers to the shareholder buying more or selling some shares OR when shares were bought back)
 NOTE: A group of shareholders may decide to vote 'together', so the 'group' may hold the majority of the
issued shares (the number of shares they hold are added to determine 'majority' holding)
Possible questions may include:
= Calculate shareholder A’s % shareholding before / after any changes in the share capital (use the number
of issued shares) to determine the EFFECT of the change in issued shares on Shareholder A' %
shareholding
= How many EXTRA shares should Shareholder B buy to become a majority shareholder.
= Reasons for being a majorit shareholder
= Ethical issues (manipulating share capital)

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 Thorough
Basic knowledge needed to master financial indicators knowledge of
 Know the formula of EACH indicator financial
 Classification of financial indicators (which 'key' aspect is applicable, e.g. liquidity, etc.) statements is
 Commenting – identify indicators, analyse (indicate trends and quote figures) key to
 Compare financial indicators that are related mastering
 Compare and analyse performance of two different companies analysis &
interpretation

Related Financial indicators that could be compared

Indicator 1 Indicator 2 Reason(s) / Findings
NAV per share Market value of shares Higher market price indicates that shareholders'
confidence in the company is high (they do not want to
sell their shares)
ROSHE % interet on investments Shareholders can determine whether they should
Return on or fixed deposits invest in alternative investments e.g. a fixed deposit at
Shareholders'equity
a bank
ROTCE % interest on loan ROTCE higher than % interest =
Return on Tot Capital positively or favourable geared
employed (SHE + NCL) Company used loans effectively to increase profit by
more than the cost of the loan

ROTCE lower than % interest =

Negatively or unfavourable geared
Use of loans not effective (profit did not increase as
expected)
Debt/Equity ratio Rate of interest on loan Debt/Equity measures the degree of financial risk
Low ratio indicates creditworthiness
(ability to make (more) loans)
Favourable to increase loans when
interest rates are low
Earnings per Share Dividends per share Earnings are profit available for distribution as
dividends
Dividends are profit distributed to shareholders
Earnings - Dividends = Retained income for future
expansion of business.
Ave Debtors Collection Ave Creditors Payment Creditors' period should be longer than debtors' period
period period Collection from debtors could 'finance' the payment of
creditors
Usually creditors allow 60 or 90 days for payment and
debtors receive 30 days.

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