Question

The trial balance of Miyanda Traders, after the calculation of the gross profit, was as
follows:

Dr (K)	Cr (K)
Gross profit	120 000
Sundry expenses	57 000
Non-current assets (cost)	400 000
Non-current assets (provision for depreciation)	82 000
Trade receivables	55 000
Trade payables	85 000
Inventory at 31 December 2019	125 000
Cash	5 000
Bank loan (repayable 31 January 2020)	35 000
Capital	320 000
642 000	642 000

7
Additional information for the year ended 31 December 2019:
1. Mark-up on cost of sales, 25%.
2. Depreciation for the year on non-current assets, K15 000.
Required
(a) Calculate the following for the year ended 31 December 2019:

(i) (ii) (iii) (iv)	Revenue (sales) Net profit ratio Return on Capital Employed ratio Quick ratio (acid test)	[2 Marks] [2 Marks] [2 Marks] [2 Marks]
(b) Explain to Miyanda why the quick ratio (acid test) is a better measure of liquidity
than the working capital ratio (current ratio). Marks]	[4
(c) Comment upon the adequacy of Miyanda’s cash for the next three months. Give one
reason for your comment.	[4 Marks]

(d) Suggest four ways in which Miyanda might increase the cash in the business.
[4 Marks]

Answer 1

A)

i)Sales =Gross Profit/sales to gp ratio

Cost to GP ratio=25%

Lets say cost=100 then Gross Profit shall be 25 and sales shall be 125

Therefore taking above we can say that Gross Profit to sales ratio is 25/125=20%

Gross Profit =120000k

Sales=120000/20%=6,00,000k

ii) Net Profit Ratio=Net Profit/Sales

Net profit= Gross Profit-sundry expenses - Depreciation

=120000-57000-15000

=48000k

Net Profit Ratio=48,000k/6,00,000k

                               =8%               

iii) Return on Capital employed ratio=net profit /Capital employed*100

                                                                  = 48,000k/642000k*100=7.477%

iv) Quick Ratio= Cash + Marketable Securities + Accounts receivable/ Current Liabilities

                    =(5000+55000)/ (85000+35000**)=0.5

** because bank loan is payable within 1 month thats why it is included in current liability

B) Quick Ratio (Acid Test Ratio) = (Current Assets - Inventory)/Current Liabilities

                                                       or

= Cash+ Marketable Securities + Accounts receivable/ Current Liabilities                                                       

             Working Capital (Current) Ratio= Current Assets/Current Liabilities

Miyanda Traders need to understand that quick ratio (acid test) is a better measure of liquidity than the working capital ratio (current ratio) because acid test ratio takes effect of inventory and other such assets which are not liquid as other current assets as inventory takes time to sell. The acid test, or quick ratio, compares a company's most short-term assets to its most short-term liabilities to see if a company has enough cash to pay its immediate liabilities, such as short-term debt. However acid-test ratio may not give a reliable picture of a firm's financial condition if the company has accounts receivable that take longer than usual to collect or current liabilities that are due but have no immediate payment needed.

C) Miyanda Traders has cash of 5,000k however after 1 moth they are having payment of 35,000k for bank loan, also their trade payables are more than trade receivable by 30000k which can also leads to shortage of cash.

D) Four ways in which Miyanda Traders might increase the cash in the business are

i) They can increase cash sales as it would leads to increase in cash

ii) They can reduce unnecessary expenses ,if possible

iii) They should increase GP ratio which will leads to more profit and therefore more cash

iv) They can delay payments to creditors and receive early payment from debtors by giving cash discounts.