- 20 Marks
Question
Banny Plc. (Banny) is a diversified company that has achieved its present size through vertical and horizontal acquisition. The directors have identified two potential target entities for acquisition. The first is Abana Limited (Abana), which operates a cement business near Offa, Kwara State. The second is Doha Limited (Doha), also in the cement industry, located near Oturukpo, Benue State. Banny has obtained copies of their audited financial statements, along with additional information notes.
Statement of Profit or Loss for the Year Ended December 31, 2017
| Item | Abana (₦’m) | Doha (₦’m) |
|---|---|---|
| Revenue | 136,000 | 132,000 |
| Cost of sales | (84,000) | (91,900) |
| Gross profit | 52,000 | 40,100 |
| Other operating expenses | (36,000) | (28,000) |
| Profit from operations | 16,000 | 12,100 |
| Finance costs | (6,000) | (8,000) |
| Profit before tax | 10,000 | 4,100 |
| Income tax expense | (3,000) | (2,000) |
| Net profit for the period | 7,000 | 2,100 |
Statement of changes in equity for the year ended December 31, 2017
Statement of financial position as at December 31, 2017
Additional Notes:
- Doha revalued its non-current assets for the first time following IFRS adoption on January 1, 2017. Abana maintains its non-current assets at historical cost.
- Banny uses the following ratios to evaluate acquisition targets: Return on Capital Employed (ROCE), Gross Profit Margin, Turnover on Capital Employed, and Leverage.
Required:
a. Compute adjustments for the revaluation of property, plant, and equipment, making Abana and Doha comparable for analysis. (14 Marks)
b. Calculate the four ratios (ROCE, Gross Profit Margin, Turnover on Capital Employed, and Leverage) after adjustments. (4 Marks)
c. Advise Banny on the better acquisition target based on adjusted ratios. (2 Marks)
Answer
a. For comparison to be thorough, the basis of accounting of the two companies Doha and Abana should be the same, hence Abana using historical cost and Doha using IFRS as first adopter should be harmonised.
(i) Reduce non-current assets by N10 billion
(ii) Reduce the revaluation reserves to NIL
(iii) Reduce the cost of sales by N2 billion for the excess depreciation as a
result of the revaluation.
(iv) Increase gross profit by N2 billion
Based on the foregoing, the new figures for Doha are as follows:
c. Recommendation:
Abana appears stronger in ROCE and Gross Profit Margin. Hence, it would be a more favorable acquisition target for Banny
- Tags: Acquisition, Financial Ratios, Leverage, Profit margin, ROCE, Valuation
- Level: Level 3
- Uploader: Kofi