Question

ou are the Group Chief Accountant of Kofi Limited and Olamide Limited. Kofi Limited is a holding company while Olamide Limited is a subsidiary company registered in Nigeria. Kofi Limited is a medium-sized retailer of imported and retailer of hand sanitizers in Ghana. Due to numerous requests from the customers in Nigeria for the company’s product, Kofi Limited decided to expand its operations to Nigeria to increase sales and make more profits for the shareholders. In 2016 the business registered a new company in Nigeria and named it Olamide Limited. The sole purpose of incorporating Olamide Limited in Nigeria was to boost the company’s market share and make more profits for the shareholders. But the financial performance of Olamide Limited has not been encouraging to the management of the business, and shareholders have complained about the decision to expand into the Nigerian Market. Shareholders have noted with dismay that Olamide Limited has reported continuous losses for the business for the past two years. The financial statements show that the Nigeria expansion strategy was extremely bad and management is blamed for the bad decision to expand into the Nigerian market. Management explained the past performance at the Annual General Meeting and provide forecast to the future performance of the business. At the meeting, the management assured the shareholders that measures taken in 2019 is going to put an end to the loss making of Olamide Limited. The Managing Director explained that the losses recorded were temporal and that the future financial performance will be better. Contrary to the promise made to the shareholders, 2019 financial performance was also not encouraging, because Olamide Limited has recorded a net loss of GH GHȼ100,000 for the year ended 31st December, 2019. The Managing Director argued that unless something drastic is done to the figures in the 2019 financial reports for the period under review, the going concern assumption for Olamide Limited has to be revoked. This net loss recorded for 2019 was due to high expenditure on advertisement incurred for that period, while sales fell below the expected target. The Managing Director is concerned about Olamide Limited continuous reporting of losses to the group and called for an emergency meeting to be held to decide on the figures to be included in the 2019 financial statements. At the Board meeting to discuss the figure to be included in the financial statements, the following key managers made some statements for the consideration of the Managing Director. Notable among them were reprinted for the consideration of the board. The Group General Manager argued and was quoted here that: “Figures to be included in the financial statement are always grey and that there are very little absolute figures in the financial statement. A smart manager is able to save the reputation of the business in times of financial difficulties by simply changing accounting policies to boost performance of the business. Just a change of the company’s depreciation policy from straight line method to reducing balance method is enough to change the company’s net loss to net profit for the business”. The Group Operational Manager sided with the comment made to change net loss to net profit using the company’s policy and defended his position that “Managers are engaged to maximize profits for the shareholders, therefore, any financial performance that does not show profit, simply means that management has failed. Therefore, there is the need to adjust the company’s policy on depreciation in order to maximize profit for shareholders”.
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The Group Marketing Director contributed to the discussion and said that “He knows of companies that have manipulated their financial statements and the reputations of the managers involved were enhanced due to better performance recorded by the business. Therefore, to boost the financial performance of Olamide Limited, there is the need to double the company’s sales figures and reduce the operating expenses by half to boost net profit of the business”. He commented further that the stakeholders will not know that the figures in the financial statements were manipulated unless they are informed about it”.   As the Group Chief Accountant and a young professional accountant in the making, you tried to object to some of the comments made by your colleagues at the meeting. You reiterated the concerns of International Financial Reporting Standards (IFRS) regarding the issues of qualitative characteristics of financial statement at the meeting. Your concerns were due to several seminars you attended on IFRS on the conceptual and regulatory framework used to prepare financial statements by businesses. IFRS requires that the financial statements prepared should comply with accounting concepts, assumptions that are commonly referred to as qualitative characteristics. Despite your worries, the Managing Director deliberately refused to take your advice into consideration and prepared the final accounts of Olamide Limited against the ethical and moral considerations that show the net profit for the business as shown below:

Statement of Financial Position as at 31st December, 2019   Olamide Limited Kofi Limited GH¢000 GH¢000 GH¢000 GH¢000 Assets     Noncurrent assets (Note 1) 9,400 7,500 Current assets     Inventory 2,000 2,400 Trade receivables 2,400 3,700 Bank 600 1,200    5,000 7,300 Total Assets 14,400 14,800 Equity and liabilities     Equity     Stated capital (GH¢1 each) 2,000 2,000 Retained Earnings 3,500 800    5,500 2,800 Noncurrent liability     7% Debenture 4,800 6,300 Current liabilities     Bank overdraft 400 1,700 Trade payables 3,100 3,800 Taxation 600 200    4,100 5,700 Total equity and liabilities 14,400 14,800
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Statement of Comprehensive Incomes for the year ended 31st December, 2019 Olamide Limited Kofi Limited GH¢000 GH¢000 Revenue 12,000 20,500 Cost of sales 10,500 17,000 Gross profit 1,500 3,500 Operating expenses 240 500 Operating profit 1,260 3,000 Finance cost 210 600 Profit before tax 1,050 2,400 Tax expense 150 400 Profit after tax 900 2,000 Dividend paid for the year 250 700 Note 1: There were no disposals of plant during the year by either company.

Question 1 As a professional accountant who is concerned about the qualitative characteristics of preparing financial statements. (a) You are required to: (i) Explain five (5) qualitative characteristics of IFRS that is used to prepare financial statements to your colleagues at the meeting.                                                   (ii) Explain the difference between profit and profitability.                                                                                    (iii) Explain the concept of going concern and the implication of revocation of going concern assumption when financial statements are prepared.                                                                                                                                                 (Total marks 20)                                                                        

Question 2 (a) With reference to the case study above. You are required to calculate for Kofi and Olamide Limited, two ratios of significance to:

(i) Management.                                                                                                      

(ii) Creditors.                                                                                                            

(iii) Shareholders.                                                                                                      

(iv) Comment on the profitability ratios, liquidity ratios and efficiency ratios calculated between Kofi Limited and Olamide Limited for the period under review.   

   (v) Explain three (3) advantages for using ratio analysis.

(vi) Explain two (2) disadvantages associated with the use ratio analysis.                                                                                                                

(Total marks 20)

Answer 1

Q1

Financial statements are prepared to assess the financial position of the company. And purpose of the financial statement to provide information to shareholders about the financial status and performance of the company.

Directors are representatives of the shareholders has the duty to prepare financial statements free from material misstatement as well as posses some qualitative characteristics to enhance their quality and relevance

a Five qualitative characteristics

1. Understandability

2. Relevance

3. Reliability

4. Comparability

5. Timelines

1. Understandability

It is qualitative characteristics of the financial statement says that information must be readily understandable to users of the financial statement. it means the information in financial statement should be clearly presented with supporting footnote.

2. Relevance

Information contained in financial must be relevant to needs of the users, therefore the information should be relevant and should not be misstated.

3. Reliability

Reliability means the information should be free from bias, error and information contained in financial statement should not be misleading.

4. Comparability

Information contained in financial statement should be comparable with accounting periods, that helps to the users to understand trends of performance of the organisation.

5. Timeliness

Disclosure of information should not be delayed. Delayed information can influence the economic decision of the users of the financial statement.

ii) Difference between profit and profitability

Profit calculated by deducting total expenses from total revenue and the other hand profitability means it is a percentage of profit divided by revenue.

Profit is the numbers appears on income statement, no matter size of business but the only object is to maximize profit. Term Profitability refers to ratio of profit in relation to size of the organisation. profitability is the measurement of successor failure.

iii) Going concern concept is a principles of accounting implies that the business will continue its operations in future and will not liquidate business in future in any reason. In other words operation of the business in future will not ceases. example of going concern concept is the charging of depreciation based on economic life of assets.

Implication of revocation of going concern concept means entities inability to meet obligations. If it believes that going concern assumption may not be longer, then this bring the issue that the whether the assets impaired, which may call for write down the carrying value of assets. Revocation of going concern means company will not earning  profits in future.