Leagrave Ltd is a wholesaler of bags and accessories that has been operating for
ID: 2804227 • Letter: L
Question
Leagrave Ltd is a wholesaler of bags and accessories that has been operating for a number of years. The ledger of Leagrave Ltd. contains the following account balances as at 31 May 2017, the end of the financial year.
LEAGRAVE Ltd
TRIAL BALANCE AS AT 31 MAY 2017
Debit
Credit
€
€
Property, at cost
120,000
Equipment, at cost
80,000
Accumulated depreciation (as at 1 June 2016)
on property
20,000
on equipment
38,000
Purchases
235,000
Sales
402,200
Inventory, as at 1 June 2016
50,000
Wages and salaries
58,800
Selling expenses
22,600
Loan interest
5,100
Other operating expenses
17,700
Trade payables
36,000
Trade receivables
38,000
Cash in hand and at bank
1,600
Dividends paid
24,000
17% long-term loan
30,000
Ordinary shares €1, as at 1 June 2016
80,000
Retained profits, as at 1 June 2016
46,600
652,800
652,800
The following additional information as at 31 May 2017 is available:
Closing inventory has been valued at cost at €42,000.
Depreciation for the year ended 31 May 2017 has still to be charged as follows: Property: 1.5% per annum using the straight-line method
Equipment: 25% per annum using the reducing balance method
Profit and Loss Statement
Particulars
Details $
Amount in $
Particulars
Details $
Amount in $
Opening stock
$ 50,000
sales
$ 402,200
Purchases
$ 235,000
Wages and salaries
$ 58,800
Selling expenses
$ 22,600
Closing Stock
$ 42,000
Loan interest
$ 5,100
Other operating expenses
$ 17,700
Depreciation
$ 12,300
Net Profit
$ 42,700
Total
$ 444,200
Total
$ 444,200
Statement of Changes in Equity
Particulars
Details $
Amount in $
Particulars
Details $
Amount in $
Opening balance
$ 46,600
Dividend Paid
$ 24,000
Profit
$ 42,700
Closing Balance
$ 65,300
Total
$ 89,300
Total
$ 89,300
Balance sheet
Liabilities and Equity
Details $
Amount in $
Assets
Details $
Amount in $
Share capital
$ 80,000
Property
$ 120,000
Reatined Earnings
$ 65,300
Less : Accu Dep
$ (20,000)
Less : Current year Dep
$ (1,800)
$ 98,200
Equipment, at cost
$ 80,000
Less : Accu Dep
$ (38,000)
Trade payable
$ 36,000
Less : Current year Dep
$ (10,500)
$ 31,500
17% long-term loan
$ 30,000
Trade receivable
$ 38,000
Cash in hand
$ 1,600
Inventory in hand
$ 42,000
Total
$ 211,300
Total
$ 211,300
Answer 1:
Current Liabilities = Trade Payable
Current Liabilities = $36,000
Capital Employed = Total Assets – Current Liabilities
Capital Employed = $211,300 - $36,000
Capital Employed = $175,300
ROCE = Net Operating Profit / capital Employed
ROCE = $42,700 / $175,300
ROCE = 24.36%
Answer 2:
Cost of goods sold = Opening stock + Purchases – Closing stock
Cost of goods sold = $50,000 + $235,000 - $42,000
Cost of goods sold = $243,000
Gross Profit = Sales – Cost of goods sold
Gross Profit = $402,200 - $243,000
Gross Profit = $159,200
Gross Profit Margin = Gross Profit / Sales *100
Gross Profit Margin = $159,200 / $402,200 *100
Gross Profit Margin = 39.58%
Answer 3:
Operating Profit Margin = Operating profit / Sales *100
Operating Profit Margin = $42,700 / $402,200 *100
Operating Profit Margin = 10.62%
Answer 4
Current Assets = Trade Receivable + Cash in hand + Inventory in hand
Current Assets = $38,000 + $1,600 + $42,000
Current Assets = $81,600
Current Liabilities = Trade payable
Current Liabilities = $36,000
Current Ratio = Current Assets / Current Liabilities
Current Ratio = $81,600 / $36,000
Current Ratio = 2.27 : 1
Acid test ratio of current year = (38000+1600) / 36000 = 1.1 : 1
Trade receivable days of current year = (Accounts receivable/Net credit sales)*360 = (38000 / 402200)*360 = 34days
Trade payable days of current year = (Accounts payable/COGS)*360 = (36000/243000)*360 = 53 days
Inventory days of current year = (Av. Inventory/COGS)*360 = (46000/243000)*360 = 68 days
Previous Year
Current Year
ROCE
30%
24.36%
Gross Profit margin
45%
39.68%
Operating Profit margin
10%
10.62%
Current Ratio
1.8 : 1
2.27 : 1
Acid Test ratio
0.8 : 1
1.1 : 1
Trade receivable days
43
34
Trade Payable days
60
53
Inventory Days
57
68
Profitability ratios
Return on capital employed has come down for organisation may be as because the increase in equity due to the addition of profit to the retained earning previously which had a balance of $46600 has a balance of $89300 now. As the capital employed is also calculated from the sum of equity and non-current liabilities. Otherwise operating profit rate is more or less equals to what it was before. Return on capital employed reflects the percentage of the capital employed into the firm is earned back as profit.
Gross profit ratio has also come down severely for the organisation. For this the Cost of goods sold is responsible. If cost of goods sold increases then gross profit ratio will come down. The organisation has to take care of this.
Although the gross profit ratio has come down for the organisaion than previous year but it has managed to maintaine an Operating profit ratio of 10.62% which is slightly better htan previous year. So it has to be told that the company must have reduced the operating expenses to a large extent to be able to achieve this Operating profit ratio which is a good sign that the company is able to minimise its operational costs.
Liquidity Ratios
Both for the Current ratio and the Quick ratio the company has improved and turned the ratios to a better side. This will reflect a better short term liquidity of the organisation and suppliers would be ready to provide materials easily.
Efficiency Ratios
Both trade receivable days and trade payable days have come down for the organisation than before. Which reflects that the company is collecting money from debtors and paying money to the creditors more quickly than before. It is good as the money will be in flow for the company and will not be idle for long time. Creditors will also be happy if they got their payment more quickly than before.
But the Inventory days has come down for the company, which reflects that it is taking more time than before to finish off one bunch of finished stock to sell. Which is nt at all a good sign. Company must try to improve the inventory days by taking it to further lower level days. Quick turnover off stocks reflects that the products have a good demand in the market or else it is a thing to worry about.
Required:
4) Leagrave Ltd managers are thinking of expanding their business by buying one of their distributors. In order to do this they would need to raise extra finance. Calculate Leagrave’s current level of gearing, and advise on suitable ways in which they may be able to obtain the necessary finance.
LEAGRAVE Ltd
TRIAL BALANCE AS AT 31 MAY 2017
Debit
Credit
€
€
Property, at cost
120,000
Equipment, at cost
80,000
Accumulated depreciation (as at 1 June 2016)
on property
20,000
on equipment
38,000
Purchases
235,000
Sales
402,200
Inventory, as at 1 June 2016
50,000
Wages and salaries
58,800
Selling expenses
22,600
Loan interest
5,100
Other operating expenses
17,700
Trade payables
36,000
Trade receivables
38,000
Cash in hand and at bank
1,600
Dividends paid
24,000
17% long-term loan
30,000
Ordinary shares €1, as at 1 June 2016
80,000
Retained profits, as at 1 June 2016
46,600
652,800
652,800
Explanation / Answer
Leagrave’s current level of gearing;
First of all let’s see the formula of calculating gearing;
Gearing ratio = Debts / (Equity + Debts)
So on the basis of balance sheet of 2017, we will find out figures of this formula;
Debts = $30000
Equity ($80000 + $65300) = $145300
Now let’s put the values in the formula;
Gearing ratio = $30000 / ($30000 + $145300)
= $30000 / $175300
= 17.11%
On the basis of gearing ratio, it is clear that Leagrave Ltd. has low gearing ratio because this company has less than 50% debts in its capital composition. So required finance for expansion can be raised through debts funds like (debentures, bonds, long-term bank loan etc.) because;
1. Presently company is using low amount of debts hence additional finanace can be raised through fixed interest bearing securities.
2. As we know that debts gives leverage benefits to a company hence company should raise additional finanace through debt securities.
3. Use of debts may lead to higher EPS and higher net income.
4. Bank may easily sanction long-term loan due to low gearing ratio.
5. Use of debts may reduce over pressure of shareholders.
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