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HC1010 Financial Statements Elements and Financial Statement Analysis Assessment Answer

Assessment Details and Submission Guidelines
Trimester
T1 2019
Unit Code
HC1010
Unit Title
Accounting for Business
Assessment Type
Individual Assignment
Assessment Title
Financial Statements Elements and Financial Statement Analysis
Purpose of the assessment (with ULO Mapping)
Students are required to apply knowledge learned in class and perform independent research of the key topics.
Learning Outcomes:
  • Familiar with and readily able to access (refer to) and integrate across:
    • The social role and purpose of accounting
    • The accounting equation and how it shapes the financial statements
    • General Purpose Financial Statements (GPFS)
    • Special Purpose Financial Statements (SPFS)
  • Understand how to prepare, analyse, and interpret financial ratios from GPFS
  • Obtain and contextualise business information for business accounting to explain and apply to business decisions
  • Demonstrate the ability to apply, analyse, synthesise and evaluate information from multiple sources to make decisions about the financial performance of entities including assets, liabilities, owner’s equity, revenue and expenses
  • Apply concepts and theories discussed on a weekly basis
  • Use transaction data and financial statement analysis for data-driven decision- making
  • Demonstrate the ability to communicate accounting information writing to a professional standard
Weight
20% of the total assessments
Total Marks
20 marks
Word limit
1000 words
Submission Guidelines
  • All work must be submitted on Blackboard by the due date along with a completed Assignment Cover Page.
  • The assignment must be in MS Word format, single spacing, 12-pt Arial font and 2 cm margins on all four sides of your page with appropriate section headings and page numbers.
  • Reference sources must be cited in the text of the report and listed appropriately at the end in a reference list using Harvard referencing style.

HC1010 Assignment Specifications

Purpose:

This assignment aims to reinforce and extend students’ knowledge and understanding of key topics in this course (HC1010) including: Statement of Financial Position, Statement of Financial Performance, Cash Flow Statement, Financial Statement Analysis, Accounting for Business Transactions through independent research and application of knowledge and skills.

Assignment details:

PART A Financial Ratios and Financial Statement analysis (6 marks)

The following financial data relate to Big Bang Pty Ltd for the years ended 30 June Year 2019 and 30 June Year 2018.

Financial item
30 June Year 2019
Year 2018
Net credit sales Cost of goods sold Cash
Accounts receivable Inventory
Current liabilities
$630 000
290 000
18 000
70 000
130 000
105 000
$490 000
250 000
12 000
60 000
150 000
81 000


Additional information:

The amount of Accounts receivables at 30 June Year 2017 was $78 000 (net). The inventory figure at 30 June Year 2017 was $130 000. The company provides its credit customers 30 days to pay. The average inventory turnover for the industry in which the company operates is 101 days.

  1. You are required to explain and calculate the following ratios for the years ended 30 June Year 2019 and 30 June Year 2018:
    • current ratio;
    • quick ratio;
    • accounts receivable turnover (times and in days); and
    • inventory turnover (times and in days)
  2. Comment on the short-term solvency, including the efficiency of the business, given the ratio results obtained in your answer in part a.

PART B. Income and Revenue (4 marks)

The core business of Green Apple Ltd involves the sale of anti-virus software. The following took place during the financial year ended 30 June. The company earned $25 000 000 from the sale of software;

$3 000 000 from update downloads; and $50 000 in interest from investing on the short-term money market. The company also received a $2000 discount arising out of the early settlement of a liability; and issued shares in exchange for $500 000 cash during the year.

Discuss whether the foregoing five financial items would meet the definition of income to the company during the year? Give reasons for your answer.

Which, if any, of the items would meet the definition of revenue to the company for the year? Give reasons for your answer.

PART C. Comparing balance sheet (7 marks)

ABC company and XYZ company conduct the same type of business. Both are recently formed entities. the balance sheets of the two companies as at 30 June 2020 are as follows:

ABC Company Balance sheet
As at 30 June 2020

$
$
$
$
Assets




Current assets




Cash at bank
2 400



Accounts receivable
4 800



Total current assets

7 200


Noncurrent Assets




Office equipment
6 000



land
18 000



building
30 000



Total non-current assets

54 000


Total assets


61 200

liabilities




Current liabilities




Accounts payable
21 600



Loan payable due 30 September 2020
31 200



Total current liabilities

52 800


Total liabilities


52 800

Net assets



8 400
Owner’s equity




P. Cable Capital
8 400



Total owners’ equity



8 400



XYZ Company Balance sheet
As at 30 June 2020

$
$
$
$
Assets




Current assets




Cash at bank
2 000




Accounts receivable
24 000



Total current assets

26 000


Noncurrent Assets




Office equipment
600



land
13 600



building
6 000



Total non-current assets

20 200


Total assets


46 200

liabilities




Current liabilities




Accounts payable
4 800



Loan payable due 30 September 2020
7 200



Total current liabilities

12 000


Total liabilities


12 000

Net assets



34 200
Owner’s equity




P. Cable Capital
34 200



Total owners’ equity



34 200

You are required to answer the following questions based on the information provided above:

  1. assuming that you are a banker and that the owner of each business has applied for a short- term loan of $6000 (repayable in six months), which application would you select as being the more favourable? Explain.
  2. assuming that you are a businessperson interested in buying one or both companies, and both owners have indicated their intentions to sell, for which business would you be willing to pay the higher price, assuming you will be taking over the existing liabilities of the company? explain.
  3. if the existing owners agreed to be accountable for all existing liabilities, how would this change your decision in (b), if at all?

Answer

HC1010 Accounting For Business

PART A Financial Ratios and Financial Statement analysis

1. Ratios Calculation: The given information and calculations can be presented as follows:

 30 June Year 2019Year 2018Year 2017
Net credit sales $                  6,30,000  $                  4,90,000  
Cost of goods sold $                  2,90,000  $                  2,50,000  
Cash $                     18,000  $                     12,000  
Accounts receivable $                     70,000  $                     60,000  $                     78,000 
Inventory $                  1,30,000  $                  1,50,000  $                  1,30,000 
Current liabilities $                  1,05,000  $                     81,000  




Period to Pay30 days

Industry Average Inventory Turnover101 days


The calculation of ratios and formulae are:

Ratio 30 June Year 2019  Year 2018  Formula 
Current Ratio                             2.08                              2.74  CA/CL 
Quick Ratio                             0.17                              0.15  Quick Assets/CL 
Accounts Receivable Turnover (times)                             9.69                              7.10 Net Credit Sales/Average Receivables
Accounts Receivable Turnover (days)                             37.7                              51.4 365/Accounts Receivables Turnover
Inventory Turnover (times)                             2.07                              1.79 COGS/Average Inventory
Inventory Turnover (days)                           176.2                            204.4 365/Inventory Turnover


2. Ratio Analysis: 

  1. Regarding short term solvency, the focus should be on current ratio and quick ratio. The company’s current ratio reduced from 2.74 to 2.08 in year 2019. A current ratio of 2.0 indicates ideal level where the current assets provide 200% buffer for the current liabilities. The company has a level above 2.0 which indicates sufficient coverage. 
  2. However, quick ratio, also known as acid test ratio further reduces current assets by excluding non-liquid current assets such as, inventory and accounts receivable. This is because in a situation where company needs to discharge its current liabilities immediately, these types of non-liquid current assets may not be useful as they may not be convertible to cash immediately. The company’s level of quick ratio is quite low at 0.15 in 2018 and 0.17 in 2019, indicating that it may be unable to discharge its current liabilities immediately, if the need arises. However, the slowly rising level of quick ratio y-o-y basis indicates that company may be making an effort to improve the level.
  3. The turnover ratios are also known as efficiency ratios as they indicate how efficiently a company is utilizing its assets. The accounts receivable turnover ratio has improved considerably y-o-y basis from 51.4 days in 2018 (7.10 times) to 37.7 days in 2019 (9.69 times). This indicates that on an average, payment from debtors is received within 37.7 days. However, the average period to pay in the industry is 30 days and company still has scope to reduce this ratio to match the industry average period. The company’s inventory turnover ratio has also improved considerably y-o-y basis from 204.4 days in 2018 (1.79 times) to 176.2 days in 2019 (2.07 times). This indicates that on an average, the inventory is turned around in 176.2 days. However, this is very high as compared to industry average of 101 days. This is a big risk as the inventory entails a huge cost of maintenance, warehousing etc. Further, high period of inventory may also cause obsolescence risk. It may be prudent to review inventory levels and reduce the production of items that are not selling or put up a clearance sale to get rid of inventory at hand currently.

PART B Income & Revenue

The required can be presented as follows:

Line Item Amount Classification
Software Sales $               25,00,000 Revenue
Updates Download  $               30,00,000 Revenue
Interest on short-term investment $                     50,000 Income
Discount on early liab settlement $                        2,000 Cash Discount or Income
Share Issue $                  5,00,000 Income


The last column indicates classification for each line item. For any company, revenue refers to the amount received from customers for the company products and services.

Whereas, income is a much larger term that indicates net profit of the company after including all items. In other words, the revenue and total income from various sources is included and then all expenses are deducted to arrive at income.

In above case, company is a software company selling anti-virus software. Hence, revenue will be the line items that show software sales and software updates download as these are related to product of the company. 

All the other line items, such as interest earned on short-term marketing securities (investment income), cash discount (operating income) and share issues (financing income) can be classified as income.

PART C Balance Sheet Comparison

The required can be presented as follows:

 ABC CompanyXYZ Company
 Balance sheetBalance sheet
 As at 30 June 2020As at 30 June 2020
Assets$$
Current assets  
Cash at bank                           2,400                            2,000 
Accounts receivable                           4,800                          24,000 
Total current assets                           7,200                          26,000 
Noncurrent Assets  
Office equipment                           6,000                                600 
land                         18,000                          13,600 
building                         30,000                            6,000 
Total non-current assets                         54,000                          20,200 
Total assets                         61,200                          46,200 
liabilities  
Current liabilities  
Accounts payable                         21,600                            4,800 
Loan payable due 30 September 2020                         31,200                            7,200 
Total current liabilities                         52,800                          12,000 
Total liabilities                         52,800                          12,000 
Net assets                           8,400                          34,200 
Owner’s equity  
P. Cable Capital                           8,400                          34,200 
Total owners’ equity                           8,400                          34,200 



Current Ratio                             0.14                              2.17 
Quick Ratio                             0.05                              0.17 
Short term Loan to Equity                             3.71                              0.21 

From above, the three key ratios can be seen. XYZ has a much higher current ratio of 2.17 indicating higher level of liquidity as compared to ABC. Further, XYZ has a much higher quick ratio of 0.17 indicating higher level of immediately available liquidity as compared to ABC. If the debt to equity ratio is seen, XYZ scores better with a lower ratio of 0.21.

  1. Hence, a bank should definitely select XYZ as compared to ABC for approving a short term loan seeing the liquidity and debt levels.
  2. Even an investor should go for XYZ as level of liabilities is lower and liquidity is much better. Additionally, net assets level is much higher.
  3. The impact will be negligible seeing the difference between ABC and XYZ. Hence, decision will remain the same.
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