THE INSTITUTE OF COST AND MANAGEMENT ACCOUNTANTS OF BANGLADESH

CMA DECEMBER, 2017 EXAMINATION

MANAGEMENT LEVEL
SUBJECT: F2. FINANCIAL MANAGEMENT

Solution

PART-A
Solution to the question No.1

(i) Cash/Bank Dr. Tk. 4,000,000

Liability/cumulative preference share Cr. Tk. 4,000,000
(Being the issue of the shares)
Liability/ cumulative preference share Dr. Tk. 40,000
Cash/Bank Cr. Tk. 40,000
(Being the recording of the transaction costs)
(ii) The shares will be subsequently measured at amortized cost using the effective
interest rate:
(All workings in Tk. 000) Tk. 000
Opening balance – proceeds 4,000
Less transaction costs (40)
3,960
Effective interest (7.97% x 3,960) 316
Less dividend paid (6% x 4,000) (240)
Closing balance as at 31 March 2013 4,036

Solution to the question No. 2

(i) SAR expense Dr. Tk. 14,370,000 (working)

Liability Cr. Tk. 14,370,000
(Being the first year’s charge in respect of the SARs)
Working:
Eligible employees (5,000 – 80 – 130) = 4,790
Total expected SAR expense = 4,790 x 1,000 x Tk. 9 = Tk. 43,110,000
The charge for the year ended 30 June 2013 = Tk. 43,110,000/3 years = Tk.
14,370,000
(ii) Where the settlement is in equity rather than cash, there would be a credit to other reserves
within equity in the statement of financial position, rather than a liability. However, the debit
would still be to staff costs to reflect the fact that the share-based payment generated a cost to
the entity. The amount would be initially and subsequently measured using the fair value of the
rights at the grant date rather than re-measured at each year end.

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Solution to the question No. 3

(i) Under the IFRS13 Fair Value Measurement hierarchy a level 1 input will be a
quoted price from an active market for an identical asset. In the case of an equity
investment this will only be available where the entity in question is quoted on a stock
exchange. The fair value will therefore be the share price of the entity.
(ii) A level 2 input is one which is observable directly or indirectly for the asset. In the case of an
equity investment in an unquoted entity, this could be the quoted market share price of a similar
entity or might come from market data on unquoted company valuations.

Solution to the question No. 4

(i)
Income statement expense Tk. 000
Service cost 500
Interest cost (8% x Tk. 2,400,000) 192
Expected return (5% x Tk. 2,200,000) (110)
Net expense in profit or loss 582
(ii)
Other comprehensive income
Actuarial gain on plan assets (W) (140)
Actuarial loss on plan liabilities (W) 58
Net actuarial gain in OCI (82)
Working:
FV of assets PV of liabilities
Tk. 000 Tk. 000
Opening balance 2,200 2,400
Service cost 500
Interest cost (8% x Tk. 2,400,000) 192
Expected return (5% x Tk. 110
2,200,000)
Contributions paid in 300
Paid to retired members (450) (450)
Actuarial gain on plan assets (bal.) 140
Actuarial loss on plan liabilitie (bal) 58
Closing balance 2,300 2,700

PART - B
Solution to the question No. 5

a.
Workings:
1. Calculate theoretical ex-rights price
Taka
4 shares X Tk.7.50 30.00
1 share x Tk.6.50 6.50
Theoretical value of holdings of 5 shares 36.50
Theoreitcal ex-rights price of 1 share after rights issue: Tk.36.50/5 7.30

2. Calculate bonus fraction

Fair value of one share before rights issue/Theoretical ex-rights price of one share (W1)
=7.50/7.30

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 3. Weighted average number of shares in issue in the year to 31 January 2015

Number of shares
1 February-1 March 2014: 3,000,000x7.50/7.30X1/12 256,849
1 March – 31 January 2015: 3,750,000X11/12 3,437,500
3,694,349

Earnings per share= Tk.725,000/3,694,349= 19.6

P/E ratio= 625/19.6=31.9
(b) The price earnings ratio is a measure of how the stock market views the shares of an entity. A
relatively high P/E usually suggests that the shares are regarded as a safe investment. Lower P/Es
suggest risk and volatility. However, it is unsafe to generalize too much. Where a listed entity has
become a highly fashionable investment for some reason (for example, technology shares have in the
past been regarded in this way from time to time) its high P/E ratio may help to mask fundamental
weaknesses.
CB’s P/E is a little above the sector average indicating that it is probably regarded as a slightly less risky
investment within its sector. Its competitor has a substantially higher P/E, which, on the face of it, would
suggest that it is regarded as a very sound investment, and that its shares are currently preferred by the
market compared to those of CB.

Solution to the question No. 6

Transactions (i)
This is an equity-settled share-based payment and under IFRS 2 the fair value of the shares will be used
to estimate the fair value of the services provided by employees. The total fair value will be allocated over
the vesting period of three years and will be based on the fair value at the grant date and will not be
remeasured for subsequent changes in the value of the options. The income statement will be charged
and equity will be credited in each of the three years of the vesting period.
20X6- 500 options X Tk.2 per share X (200-20-45)= Tk.135,000
The charge for 20X6 is then Tk.135,000/3= Tk.45,000.
20X7- 500 options X Tk.2 per share X (200-20-15-20)= Tk.145,000.
Two-thirds of Tk.145,000 should be recognized to date = Tk.96,667
Less the amount already recognized in 20X6 of Tk.45,000, results in a charge in 20X7 of Tk.51,667.
20X8- 500 options X Tk.2 per share X (200-20-15-10) = Tk.155,000.
Less cumulative total recognized to date of Tk.96,667, results in a charge of Tk.58,333 in 20X8.

Transactions (ii)
This is a cash-settled equity-based transaction. The cost to the income statement will be calculated in a
similar way but will take account of the change in the fair value of the LM. The income statement will be
charged with the equivalent expense but as this is cash settled, the credit will be to liability in the
statement of financial position.

20X6- 80% X 10,000 X Tk.1.60 X (200-20-45) = Tk.1,728,000. Allocated over vesting period of three
years:
The charge for 20X6 is then Tk.576,000.

20X7 – 80% X 10,000 X Tk.1.80 X (200-20-15-20) =Tk.2,088,000.

Two-thirds of Tk.2,088,000 should be recognized to date = Tk.1,392,000.
Less the amount already recognized in 20X6 of Tk.576,000, results in a charge in 20X7 of Tk.816,000.
20X8 -80% X 10,000 X Tk.2.10 x (200-20-15-10)= Tk.2,604,000.
Less cumulative total recognized to date of Tk.1,392,000 results in a charge of Tk.1,212,000 in 20X8.

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Solution to the question No. 7

(i) Recognition
The framework defines an asset as a resource controlled by an entity and from which economic benefits
will flow. The amount also has to be measured with sufficient reliability to be recognized in the financial
statements. The value associated with human capital cannot be controlled as employees are free to
leave, taking their skills elsewhere. In addition, the amount of potential value created is uncertain. There
is no way of measuring this with sufficient reliability. Therefore, human capital is not recognized in the
financial statements.
(ii) Pressure to extend narrative reporting and advantages to investors
Financial statements are by their nature backward-looking, based primarily on historical information and
are therefore limited in their usefulness for decision-making by investors. In addition, this entity is service-
based and as the main resource is not included on the financial statements, it is difficult for users to
estimate future revenue streams. This has led to general pressure by the markets and investors for
entities to provide additional information to that contained in the financial statements.
Investors in SR would benefit in this case from additional information on the resources available to the
entity in order to generate future revenue. This information could be useful for users in estimating future
profits and returns. It would also help users to identify any key personnel or skills that the entity relies on
and this helps users determine the risks that threaten the future income streams of SR. In addition, it
would help show the hidden assets of the business without which traditional ratios like ROCE are
meaningless, preventing comparison with other entities.

PART – C

Solution to the question No. 8

i. Prodigal- Consolidated statement of comprehensive income for the year ended 31 March 2016
TK’000
Revenue (450,000 + (240,000 X 6/12) – 40,000 intra-group sales) 530,000
Cost of sales (w (i) ) (278,800)
Gross profit 251,200
Distribution costs (23,600 + (12,000 X 6/12) ) (29,600)
Administrative expenses (27,000 + (23,000 X 6/12) ) (38,500)
Finance costs (1,500 + (1,200 X 6/12)) (2,100)
Profit before tax 181,000
Income tax expense (48,000 + (27,800 X 6/12)) 61,900
Profit for the year 119,100
Other comprehensive income
Gain on revaluation of land (2,500+1,000) 3,500
Loss on fair value of equity financial asset investments (700+ (400 X 6/12) ) (900)
2,600
Total comprehensive income 121,700
Profit attributable to:
Owners of the parent 111,600
Non-controlling interest (w (ii) ) 7,500
119,100
Total comprehensive income attributable to:
Owners of the parent 114,000
Non-controlling interest (w (ii)) 7,700
121,700

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ii. Prodigal- Equity section of the consolidated statement of financial position as at 31 March 2016

Equity attributable to owners of the parent

Share capital (250,000 + 80,000 share exchange) 330,000
Share premium (100,000 + 240,000 share exchange) 340,000
Revaluation reserve (land) (8,400 + 2,500 + (1,000x75%) ) 11,650
Other equity reserve (3,200 -700 – (400 X 6/12 X 75% ) 2,350
Retained earnings (w (iii)) 201,600
885,600
Non-controlling interest (w (iv)) 107,700
Total equity 993,300

The share exchange would result in Prodigal issuing 80 million shares at Tk. 4 each (160,000 X 75% X
2/3)

Workings (figures in brackets in Tk.’000)

(i)
Cost of sales Tk.’000
Prodigal 260,000
Sentinel (110,000 X 6/12) 55,000
Intra-group purchases (40,000)
Unrealized profit on sale of plant 1,000
Depreciation adjustment on sale of plant (1,000/2.5 years x 6/12) (200)
Unrealized profit in inventory (12,000 x Tk.10,000/Tk.40,000) 3,000
278,800

(ii) Non controlling interest in income statement profit:

Sentinel’s post-acquisition profit (66,000 X 6/12 ) 33,000
Less: Unrealized profit in inventory (w (i)) (3,000)
30,000
X25%
=7,500
Non controlling interest in total comprehensive income
As above 7,500
Other comprehensive income (1,000 – (400 X 6/12) X 25%)) 200
7,700
(iii) Retained earnings:
Prodigal at April 2015 90,000
Per statement of comprehensive income 111,600
201,600
(iv) Non-controlling interest in statement of financial position
At acquisition 100,000
Per statement of comprehensive income 7,700
107,700

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Solution to the question No. 9

To: Marketing Director of PPP

From: Assistant to Finance Director

Report on draft statement of cash flows for the financial year ended 31 March 2017

Note: The appendix to this report contains some ratio and other relevant calculations.

1. The difference between cash and profit

Because of the use of the accrual basis in financial accounting, it is often the case that profit or
loss differs significantly from the cash flows arising during an accounting period. This is not
necessarily a problem, unless significant cash shortages affect the viability of the business, but it
means that the statement of cash flows should be interpreted with some caution. An apparently
healthy cash balance can disguise underlying problems.
In the case of PPP’s statement of cash flows, there is, indeed, a significant amount of cash at 31
March 2017. However, upon closer examination, it can be seen that the cash inflows have arisen
from investing and financing activities, rather than from operating activities which produced
negative cash flows. A total of Taka 3,170,000 (i.e. Tk.2,320,000 from the sale of the subsidiaries
and Tk.850,000 from the issue of share capital) was received in cash during the year. While
some of this (approximately one-third) remained in the statement of financial position at 31 March
2017, most of it had been absorbed by the major cash outflow from operations and the
acquisition of property, plant and equipment.
2. Profit and loss
PPP’s profit before tax has declined sharply between 2016 and 2017. The decline is even more
marked if unusual items are taken into account. Towards the end of the 2016 financial year, the
business incurred Tk.450,000 in costs of training and marketing associated with the new product
line. Profit before these items was Tk.756,000. The loss before tax in the year ended 31 March
2017 was mitigated substantially by the profit on disposal of the foreign subsidiaries. If this profit
is excluded, the loss from operations is Tk.1,120,000. Using these adjusted figures, net
profitability (measured on a pre-tax basis) was 6.2% in the 2016 financial year, whereas the loss
in 2017 represented 9.1% of revenue.
3. Working capital
The operating section of the statement of cash flows included adjustments for increases and
decreases in working capital. Both inventories and receivables increased by a substantial
amount in the year ended 31 March 2017. Inventories increased by 10.9% in 2016 and 34.6% in
2017. Some increase in inventories is consistent with the move into a new area of operations, but
the increase of 34.6% does appear very high.
Receivables have also increased substantially, by 15% between 2016 and 2017. The overall
revenue figure has increased very little. The receivables figure at 31 March 2017 does not
include any amounts relating to the two subsidiaries disposed of. The revenue figure for the year
has therefore been reduced to 90% of the total, to exclude the revenues relating these
subsidiaries. Using these two figures, receivables days at the year end is approximately 61 days.
Receivables days at the previous year end were about 49 days. (It should be noted that these
two figures are not directly comparable because the 2016 revenue and receivables figures
include the two subsidiaries.) The policy of offering extended credit as an inducement to
customers may very well have paid off in terms of additional sales, but there are some
drawbacks.
Compared to inventories and receivables, the movements in the 2 years in payables are
relatively minor. In both 2016 and 2017 there are increases which offset the outflows on other
working capital items.

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 4. Prospects for the future
Although sales target for the 2017 financial year were almost met, the decline in profitability
does, as you suggest, indicate that there is a problem in controlling costs. However, it cannot
necessarily be assumed that this is a short-term problem while the new operation settles down;
careful cost control will required if the business, overall, is to return to profitability. Offering
discounts in order to attract new business may be effective in increasing revenue, but this
practice tends to reduce profitability.
Because the sale of the subsidiaries took place so recently, the revenue figures for 2017 are not
affected. However, these two subsidiaries have accounted for around 10% of the sales, and have
been consistently profitable. Therefore, unless there is an improvement in sales and profitability
in the remaining group businesses, the 2018 performance is likely to be even worse than in
2017. The effect may be mitigated to some extent by lower interest charges. These rose
substantially in 2017, compared to 2016, but the large cash balance in hand at the beginning of
the new financial year should ensure that, for some months at least, there will be no short-term
borrowings and hence, no interest payments.
The breakdown of the revenue figure shows that there has been a sharp decline in the sales
relating to burglar alarms; sales in 2017 were only 90.3% of sales in 2016. The short fall has
been made up by sales of fire alarm systems, which tends to justify the change in business
strategy. However, if tough conditions continue in the burglar alarm market, revenues from this
source may continue to fall.
A final point relates to dividend. A dividend of Tk.200,000 was paid in the 2016 financial year, but
there was no dividend in 2017; while they may be content to wait for a return while the new line
of business is getting established, they may become impatient if no dividend is forthcoming in
2018.
5. Conclusion
In conclusion, the statement of cash flows serves to emphasize some worrying trends in the
business. The cash balance available at 31 March 2017 will rapidly disappear unless the losses
can be reversed. Working capital management and cost control must be improved. This
statement of cash flows shows the more positive side of disposing of two profitable subsidiaries;
the negative aspects are likely to make an impact on the 2018 and subsequent statement of cash
flows.
Appendix: Calculations
1. (Loss)/profit before tax as a percentage of revenue

2017 2016
(453)/12,320x100=(3.7%) 306/12,110x100=2.5%

2. (Loss)/profit before tax as a percentage of revenue- after adjustment for unusual items
2016: Calculate profit before deduction of unusual items: Tk.306+200+250=Tk.756
2017: Calculate loss before setting off profit on disposal of subsidiaries:
Tk.(453)+(667)=(1,120)

2017 2016
(1,120)/12,320x100=(9.1%) 756/12,110x100=6.2%

3. Inventory movement
Taka Increase year on year %
At 1 April 2015 591,000
At 31 March 2016 (591+65) 656,000 10.9%
At 31 March 2017 (656+227) 883,000 34.6%

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 4. Receivables movement
Taka Increase year on year %
At 1 April 2015 1,578,000
At 31 March 2016 (1,578+36) 1,614,000 2.3%
At 31 March 2017 (1,614+242) 1,856,000 15%

Receivables days (using year end figures):

2017 2016
1,856/(12,320x90%)x365=61.1 days 1,614/12,110x365=48.6 days

= THE END =