Question Seven VEG is an entity that started trading in January 2021 manufacturing and selling vegetable smoothie drinks. The entity uses innovative technology that pasteurises fresh drinks and gives them a shelf life of 8 weeks. VEG currently operates solely in Country X and is the only producer to use this technology to date. The two directors of VEG each initially invested R50,000 of equity capital to start the business. The long-term borrowings were secured in January 2021 under a business start-up initiative, and will be repaid over 4 years commencing January 2023. The directors also negotiated a short term bank overdraft facility of R75,000, which is intended to cover the working capital requirement. This is due for review on 1 April 2022. VEG has performed well in its first year of trading, selling to three large supermarkets and securing a contract with another supermarket to produce an own-brand product. This contract was signed in October 2021. The directors believe that VEG could exploit similar opportunities in both domestic and overseas markets if they expanded further. However, any further expansion would require significant capital investment in property, plant and equipment. You are a financial advisor and have a cash-rich client who is looking to make a private investment in an entity in return for equity shares. Your client is particularly interested in the technology that VEG is currently using. He is enthusiastic about VEGs potential, although he has not as yet looked at the financial performance and position of the entity. You have so far approached the directors of VEG who have confirmed that they would be interested in such an investment into their business as it would potentially allow them to undertake the capital investment required to expand. The directors have emailed you the following financial information about VEG: Statement of financial position as at 31 December 2021 ASSETS R000 Non-current assets Property, plant and equipment 350 Intangible assets 52 402 Current assets Inventories 40 Receivables 140 180 Total assets 582 EQUITY AND LIABILITIES Share capital 100 Retained earnings 30 Total equity 130 Non-current liabilities Long-term borrowings 350 Current liabilities Payables 50 Income tax 12 Short-term borrowings 40 102 Total liabilities 452 Total equity and liabilities 582 atement of profit or loss for the year ended 31 December 2022 2021 FORECAST ACTUAL R000 R000 Revenue 1,020 800 Cost of sales (620) (520) Gross profit 400 280 Distribution costs (90) (70) Administrative (100) (140) expenses Finance costs (25) (20) Profit before tax 185 50 Income tax expense (30) (20) Profit for the year 155 30 Additional information 1. The forecast statement of profit or loss for the year ended 31 December 2022 is based upon VEGs existing contracts as at 31 December 2021 and does not take account of any potential new contracts from expansion. 2. The directors have estimated that forecast revenue can be achieved with the current levels of property, plant and equipment. 3. The directors are forecasting the following balances as at 31 December 2022: R000 Inventories 30 Receivables 290 No further forecast information is available at this time. 4. Administrative expenses for the year ended 31 December 2021 includes professional fees of R30,000 incurred in the business set-up, R40,000 in marketing and R20,000 for the cost of training staff in the production processes. Required: Write an email to your client in which you: (a) analyse the actual and forecast financial performance and position of VEG using the information provided (6 marks are available for the calculation of relevant ratios); (18 marks) (b) explain the additional information that you would recommend he obtains before making an investment decision; and (4 marks) (c) explain, briefly, the limitations of using ratio analysis as a means of deciding on this potential investment.