QUESTION 5

XYZ Ltd is looking for long-term funding and has submitted an application to a bank requesting a loan of $50 million. You work for the bank and have been asked to perform a review on the financial statements of XYZ. You have also been asked to provide an initial recommendation as to whether or not this application should proceed further.

The statement of financial position as at 30 June 2019 and its comparative is shown below:

	2019	2018
	$m	$m
ASSETS
Non-current assets
Property, plant and equipment	96	83
Investment in associate	27	--
Available for sale investment	30	25
	153	108
Current assets
Inventories	29	13
Receivables	49	27
Cash and cash equivalents	--	5
	78	45
Total Assets	231	153
EQUITY AND LIABILITIES
Equity
Share capital ($1 shares)	15	15
Share premium	5	5
Revaluation reserve	10	--
Other reserves	12	8
Retained earnings	80	68
Total equity	122	96
Non-current liabilities
Long-term borrowings	70	40
Deferred tax	6	2
	76	42
Current liabilities
Trade and other payables	20	15
Short-term borrowings (overdraft)	13	--
	33	15
Total liabilities	109	57
Total equity and liabilities	231	153

The statement of comprehensive income for the year ended 30 June 2019 is shown below together with its comparative:

	2019	2018
	$m	$m
Revenue	290	201
Cost of sales	(210)	(141)
Gross profit	80	60
Administrative expenses	(16)	(14)
Distribution costs	(32)	(18)
Finance costs	(13)	(7)
Share of profit of associate	5	--
Profit before tax	24	21
Income tax expense	(7)	(6)
Profit for the year	17	15
Other comprehensive income:
Revaluation gain on Property, plant and equipment	13	--
Gains on Available for sale investment	5	3
Tax effects of other comprehensive income	(4)	(1)
Other comprehensive income for the year, net of tax	2	14
Total comprehensive income for the year	31	17

In addition to obtaining extracts from the financial statements provided below, you have highlighted a section of the annual report where the newly appointed Chief Executive Officer of XYZ made the following comment:

We commenced the planned expansion in the second quarter of the financial period with much success. Revenue has increased 44% in the last 12 months and profitability continues to improve with post-tax profits of $17 million in this year. During the year we acquired a strategic 35% investment in AB, our main supplier, and now have representation on its board. We have also invested in other non-current assets and this will ensure the expansion continues as planned.

Required:

(a) Prepare a report that analyses the financial performance and financial position of XYZ and make a recommendation, based on your analysis, as to whether the application should proceed further.

(b) Explain briefly the potential limitations of performing analysis while relying on:

(i) the financial information of XYZ from one year to another; and

(ii) the narrative information of XYZprovided in the annual report.