Assignment Task

Question 1:

Harry Kane Manufacturing

Harry has an electronic computer components business in Isando. His accountant immigrated during the last financial year and he has not yet been able to find a replacement. As he is not familiar with the financial side of things, he has come to you for help in finalising his accounts and advice on a new venture he is considering. Firstly, the accounts for the year ended 28th February 2022 need to be completed to keep SARS happy and give him a starting point for next year’s budget.

Harry’s bookkeeper was able to offer the following information: –

1. Sales for the year had been R1,570,000 all of which had been on credit.

2. All sales were of their only product, which had a consistent Cost of Sales of 46%.

3. When Harry set up the company ten years ago, he issued himself with 6,000 shares of R1 each. There have been no new share issues since then.

4. The prevailing tax rate in South Africa at the time was 40% and Harry always paid out half of the earnings after tax as a dividend to himself.

5. As Harry understood the benefit of taking suppliers up on early settlement discounts, he paid most of his creditors within 7 days. Thus, creditors outstanding at year-end were only R12,300.

6. Harry hated debt, so had no L-T borrowings at all. Interest paid to finance the overdraft during the year came to R2,500.

7. General and Admin costs for the year totaled R109,000 and Staff costs amounted to R178,800.

8. Harry’s powerful corporate customers were extremely slow at paying. The year-end debtors figure of R285,600 worried him a great deal.

9. Depreciation for the year came to R45,900 and the NBV of fixed assets at the end of the year was calculated to be R324,000 10. Sales and Marketing costs for the year were 8% of turnover.

11. Last year’s balance sheet showed retained earnings as at 28th February 2021 to equal R553,900.

12. Stock holding of raw materials amounted to an average of 32 days of production.

13. Cash in the safe at year end amounted to R72,300 and the company’s only bank account was overdrawn, but Harry was not sure of the exact amount.

After sorting out last year’s accounts Harry wanted you to help him budget for the following year and highlight the financial implications of a new deal he wanted to undertake. He had found a computer wholesaler who promised him big orders if he started manufacturing the new 5th generation Supergig and he was excited about the prospect of substantial growth for his business. He would need to acquire some fairly costly new machinery to manufacture the new product and realised that such growth levels could not be funded internally. After lengthy meetings with yourself and his production & marketing teams, he felt sure that the introduction of the new product would bring about the following for the year ended 28th February 2023: –

1. Sales would nearly double to R3,000,000. That was based on sales of the old product staying exactly the same and the Supergig making up the rest. All sales would still be on credit.

2. In return for guaranteeing such volumes, the wholesaler had fought hard for discounts. While C of S on the old product would remain at 46%, that of the Supergig was projected to be a much higher 70%

3. The higher volumes being purchased would enable Harry to negotiate better terms with his suppliers. He felt that he could probably keep the settlement discounts and run creditors up to R100,900 by year-end.

4. His bulk buying would mean that stock holdings would need to be a lot higher. Harry predicted that they would probably grow to R139,900.

5. The tax rate was not due to change and Harry did not want to alter the existing dividend policy.

6. To finance this growth Harry had spoken to Godfrey, who was keen on investing in the business with his old classmate. They had agreed on Harry issuing 4,000 new shares to Godfrey for the price of R180 each.

7. This new injection of cash would enable Harry to spend the R1,200,000 required to purchase the new manufacturing equipment. He planned to depreciate this equipment over 10 years – this would push the depreciation expense for the year up to R165,900.

8. The new product was expected to double General & Admin costs for the forthcoming year. However, staff costs were only expected to go up to R199,000.

9. Harry was still adamant that he would not take on any long-term debt. He knew that he would have to rely quite heavily on overdraft funding though and predicted that the overdraft would grow to R128,700 and attract financing costs of R17,570 during the year.

10. Credit terms with the wholesaler would be far tighter than in the past. Harry was determined to bring the average debtor days down to 28 by 28th February 2023.

11. As the deal had already been struck, Harry felt that Sales & Marketing costs need not remain so high. The budget was to be set at 5% of turnover.

12. Harry always liked to have some cash on hand and hoped that the above trading conditions would still leave him with some cash in the safe for ‘emergencies’.

Question 1:

a. Complete the income statement and balance sheet for 2022. 

b. Complete the income statement and balance sheet for 2023. 

c. Complete the cashflow statement for 2023

Question 2 continued:

Use the attached financial statement for City Lodge.

1. Discuss the performance of City Lodge over the years 2016, 2017 and 2018. Assume that shareholders are expecting a minimum Return on Equity of 18% per annum. Calculate the ratios that you think you need to use to make this determination. 

2. Show how the levers that drive ROE are changing from one year to the next between 2016, 2017 and 2018. Comment on what you see. 

Note on Formulas:

Do your calculations using the following formulas:

ROE = PAT/ Total Equity x 100

RONA = EBIT/ Net Assets x 100

• Use the numbers in the income statement and balance as they appear of the surface. There is no need to make accounting adjustments.
• Do not use averages in your calculation.

Question 3

Hallstead Jewelry sells fine jewelry and gems, watches, tabletop gifts and artistic gifts.

The information below outlines the income statement for the years 2016, 2017 and 2018. The income statement numbers are stated in 1000’s of US Dollars. Recently, in 2018, Hallstead Jewelry expanded their premises to include more showroom space. The result was that they made a loss in 2018. This has caused some concern for management, and they need your skills to help them better understand their business.

Q1. The opening stock in 2018 was $230 and the closing stock at the end of 2018 was $80. Calculate the purchases made during the 2018 trading year. 

Q2. Re-organize the income statement data for each of the years and calculate the contribution margins in dollars for 2016, 2017 and 2018. 

Q3. Calculate the break-even point in number of sales tickets (volume of customer orders written) and break even in sales dollars for 2016, to 2017, to 2018? 

Q4. If the average prices were reduced by 10%, and the number of sales tickets (volume) increased to 7,500, would the company’s sales revenue be increased? With the 10% price reduction what would be the new break-even point in sales tickets (volume) and dollar sales? 

Q5. If the advertising expense were to be increased by $200,000, how would this affect the break-even point? 

Q6. If the fixed costs and the volume of sales remain the same in 2019. How much would the average sales ticket (Price) have to increase by for Hallstead Jewellery to break even?

Question 4

Please answer in point form.

1. Discuss the cash conversion cycle and use numbers to show how the math works. 

2. Discuss the pros and cons of debt and equity funding. 

3. Discuss the concept of operating leverage and why it is important for managers to understand the concept. 

4. Discuss the key principles of value creation in a business.