The chairman of a family business has been examining the following summary of the accounts of the company since it began three years ago.

The company’s products are popular in the locality and in the first two years sales could have been higher if there had been extra machine capacity available.
On 1 January 19X6, additional share and loan capital was obtained which enabled extra machinery to be purchased. This gave an immediate increase in sales and profits.
Although 19X5/X6 showed the best yet results, the chairman is not very happy; the accountant has suggested that a dividend should not be paid this year because of the overdraft. The accountant has, however, shown a proposed dividend of £14,000 (£2,000 up on last year) for purposes of comparison pending a decision by the directors.
Naturally, the chairman is displeased and wants some explanations from the accountant regarding the figures in the accounts.
He specifically asks:
(i) Why, if profits are the best ever and considering the company has obtained extra capital during the year, has the company gone into overdraft? Can there really be a profit if there is no cash left in the bank to pay a dividend?
(ii) Why is the freehold still valued at the same price as in 19X4? The real value seems to be about £225,000. Why is this real value not in the balance sheet?

Required:
Write a report to the chairman:

(a) commenting on the state and progress of the business as disclosed by the accounts and the above information, supporting your analysis by appropriate key accounting ratios, and

(b) giving reasoned answers, in the context of recognised accounting law, rules and practices, to each of the questions raised by the chairman.

Transcribed Image Text:

Balance Sheet (at 30 June) 000s 19X4 19X5 19X6 Actual Actual Actual Freehold land and buildings 150 150 150 Plant 150 150 450 Less Depreciation 15 135 30 120 75 375 285 270 325 Stock and work in progress 20 45 85 Debtors 33 101 124 Bank and cash 10 15 63 161 209 Less Creditors 20 80 35 Taxation Overdraft 4 17 6 39 324 Less Loan 324 Ordinary share capital (1 shares) 300 General reserve Deferred tax account 17 64 25 143 334 468 200 334 468 300 400 25 45 7 9 23 324 334 468