QUESTION 1

40 MARKS

a) The objective of financial statements is to enable users make economic decisions based on the information contained in the income statement, balance sheet and cash flow statement. One of the most important principles that underpin financial statements is the matching principle. This principle states that revenues should be matched with expenses that were incurred to generate it. In the balance sheet, assets should be matched with liabilities and equity while in the cash flow statement the sources and uses of cash are matched. Accrual accounting is used to implement the matching principle in the income statement and balance sheet.

Question

1)

If any of the users below were to make decisions on how financial statements should be prepared, what do you think would be their focus, and what principle/s do you think would underpin the financial statements. i) Short term lenders such as banks ii) Long-term equity investors iii) Tax authorities iv) Corporate managers

8 marks

b) Lunga (Pty) Ltd, a retailer has the following working capital accounts.

Year	2020	2019	2018
Current Assets
Cash	2000	1500	1000
Accounts receivables	6000	4000	2000
Inventory	8000	4500	2000
Total current assets	16000	10000	5000
Current Liabilities
Accounts payables	4500	3500	2000
Short-term liabilities	3500	1500	500
Total current liabilities	8000	5000	2500

Questions

1)	Calculate and comment on Lungas liquidity position for the financial years 2018 2020, based on: i) Current ratio ii) Quick ratio iii) Cash ratio	10 marks
2)	Describe and calculate other useful indicators that can be used to understand further the liquidity position of Lunga (Pty) Ltd. Comment on your results	11 marks
3)	Using the results of parts (1) and (2) above, discuss the limitations of the current ratio as a measure of liquidity.	4 marks
4)	List and describe other ratios, apart from liquidity ratios, that would be useful for the analysis of Lungas liquidity situation in (1) and (2) above. Clearly state what you would expect these ratios to show.	7 marks