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THE INSTITUTE OF CHARTERED ACCOUNTANTS

OF NIGERIA

NOVEMBER 2010 PROFESSIONAL EXAMINATION II

Question Papers

Suggested Solutions

Plus

Examiners‟ Reports



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PROFESSIONAL EXAMINATION II – NOVEMBER 2010

FOREWORD

This issue of the PATHFINDER is published principally, in response to a growingdemand for an aid to:

(i) Candidates preparing to write future examinations of the Institute of CharteredAccountants of Nigeria (ICAN);

(ii) Unsuccessful candidates in the identification of those areas in which they lostmarks and need to improve their knowledge and presentation;

(iii) Lecturers and students interested in acquisition of knowledge in the relevant

subjects contained herein; and

(iv) The profession; in improving pre-examinations and screening processes, andthus the professional performance of candidates.

The answers provided in this publication do not exhaust all possible alternativeapproaches to solving these questions. Efforts had been made to use the methods,

which will save much of the scarce examination time. Also, in order to facilitateteaching, questions may be altered slightly so that some principles or application ofthem may be more clearly demonstrated.

It is hoped that the suggested answers will prove to be of tremendous assistance tostudents and those who assist them in their preparations for the Institute‟sExaminations.

NOTES

Although these suggested solutions have been publishedunder the Institute‟s name, they do not represent the views of

the Council of the Institute. The suggested solutions areentirely the responsibility of their authors and the Institute will not enter into any correspondence on them.



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TABLE OF CONTENTS

SUBJECT PAGES

FINANCIAL REPORTING AND ETHICS 4 – 27

STRATEGIC FINANCIAL MANAGEMENT 28 – 59

ADVANCED TAXATION

PUBLIC SECTOR ACCOUNING & FINANCE

59 – 90

60 - 91

MULTI-DISPINARY CASE STUDY 92 - 178



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ICAN/102/Q/2 EXAMINATION NO...................................

THE INSTITUTE OF CHARTERED ACCOUNTANTS OF NIGERIAPROFESSIONAL EXAMINATION II – NOVEMBER 2010

FINANCIAL REPORTING AND ETHICS

SECTION A: Attempt All Questions

PART I MULTIPLE- CHOICE QUESTIONS (20 MARKS)

1. Which of the following options is excluded from the class of rational agents, and

hence cannot be subjected to moral judgement?

(i) Moral minors(ii) The insane(iii) The senile

A. (i) and (ii) onlyB. (ii) and (iii) onlyC. (i) and (iii) onlyD. (ii) onlyE. (i), (ii) and (iii)

2. An action is good if only it promotes happiness for the greatest number ofpeople. This is an example of which ONE of these ethical theories?

A. ContractarianismB. Utilitarianism

C. Majoritarian MoralityD. Ethical ConsiderationismE. Sympathetic Morality

3. Government grants available to an enterprise are considered for inclusion in the

accounts

A. if the grant is not a financing device.

B. if it is to enable the government participate in the ownership.

C. if the grant is recognised as government assistance to the organization.

D. where there is reasonable assurance that the enterprise will comply with

the conditions attached to them.

E. where contingency related to a government grant is recognised.



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4. The amount of contract revenue may increase or decrease from one period to

the next in all of the following, EXCEPT

A. a contractor and a customer may agree variations of claims in the periodsubsequent to that which the contract was initially agreed.

B. the amount of revenue agreed in a fixed price contract may increase as a

result of cost escalation clauses.

C. the amount of contract revenue may decrease as a result of penalties

arising from delay caused by the contractor.

D. when a fixed price contract involves a fixed price per unit of output,

contractor revenue increases as the number of units is increased.

E. negotiations have reached an advanced stage such that the customer will

accept the claim.

5. Undisclosed assets revaluation surplus in the Financial Statements of a

company is known as

A. revaluation reserve.

B. capital reserve.

C. secret/hidden reserve.

D. asset revaluation reserve.

E. contingency reserve.

6. All the following are forms of business combinations, EXCEPT

A. merger.B. acquisition.C. amalgamation.D. absorption.E. joint Venture.



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7. The theory that holds that it is morally acceptable for one to do what one feelsis in one‟s self -interest, is an example of which of these moral theories?

A. Selfish ImmoralityB. Humanistic Morality

C. Ethical EgoismD. Ethical AltruismE. Unethical Egoism

8. The claim that there is only one correct moral code or system of moral principle which supplies the single correct answer to every moral question, is attributedto which of these?

A. Moral Subjectivism

B. Moral ObjectivismC. Moral TotalityD. Moral GlobalizationE. Moral Uniqueness

9. The statement that there is no such thing as correct or incorrect moral code forhuman conduct, is ascribed to which of these?

A. Moral RelativismB. Moral Universalism

C. Moral Non-WrongnessD. Moral NihilismE. Moral Incorrigibility

10. Which of these moral theories that holds that human nature determines thecorrect moral laws of nature that human beings should follow?

A. Moral FellowshipB. Natural MoralityC. Natural Law Theory

D. Natural EgoismE. Ethical Naturalism



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11. The following statements are true of a parent company, EXCEPT

A. the financial statements of a group are presented as those of a singleeconomic entity.

B. control is the power to govern the financial and operating policies of anentity so as to obtain benefits from its activities.

C. a group is a parent and all its subsidiaries.

D. non-controlling interest is the equity in a subsidiary not attributabledirectly or indirectly to a parent.

E. a parent is an entity that must have at least three subsidiaries.

12. The following are the generally recognised potential problems of using ratios

for comparison purposes, EXCEPT

A. inconsistent definition of ratios.

B. financial statements that have been deliberately manipulated.

C. different companies may adopt different accounting policies.

D. different managerial policies e.g. different companies offer customers

different payment terms.

E. profit for the year may result in higher cash flow.

13.

Potential users of financial reports do NOT include ONE of the following:

A. Equity investorsB. EducationistsC. CreditorsD. SuppliersE. Employees

14. In using the accounting ratios, comparison is commonly made between all BUT ONE of the following:

A. Previous accounting periodsB. Other companies (mostly in the same type of business)C. Budget and expectations



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D. Government statisticsE. Emolument of the chief executive

15. The integration of social and ethical criteria into investors‟ investment decision

is known as

A. ethical Investing.

B. social Investing.

C. moral Investing.

D. socio-ethical Investing.

E. socio-moral Investing.

16. The use of ethical, social and environmental criteria in the selection and

management of investment, generally consisting of company shares is known as

A. ethical investment.

B. social investment.

C. moral investment.

D. socio-ethical investment.

E. socio-moral investment.

17. One of the fundamental precepts of Corporate Social Responsibility which

requires business leaders to acknowledge and accept the legitimate claims,rights and needs of other groups in society is known as

A. Voluntary Social Responsibility.

B. Involuntary Social Responsibility.

C. Unlimited Social Responsibility.

D. Limited Social Responsibility.

E. Liberal Social Responsibility.



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18. The basic principles of a good corporate governance system include:

i. Transparency

ii. Competence

iii. Integrityiv. Proper alignment of interests and allocation of responsibilities

A. i and iv only

B. ii and iii only

C. i, ii and iii only

D. i, ii, iii and iv

E. ii, iii and iv only

19. The framework for ethical decision making that is useful for exploring ethicaldilemmas and identifying ethical courses of action does NOT include ONE of the

following:

A. Recognition of an ethical issue

B. Evaluation of alternative actions

C. Making a decision and testing it

D. Acting and reflecting on the outcome

E. Engaging a professional person for consultation

20. Which of the following is ordinarily computed and reported as part of the

financial statements of a large organisation?

A. Current ratio

B. Return on assets

C. Book value per share

D. Earnings per share

E. Price earnings ratio



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PART II SHORT-ANSWER QUESTIONS (20 MARKS)

1. Responsibility is divided into Retrospective Responsibility and ………..

Responsibility.

2. The action that purports to benefit others primarily without any form of egoism

is ……………...

3. A risk management technique that mixes a wide variety of investments within a

portfolio is called ..........................

4. The duration between the purchase of a firm‟s inventory and the collection of

account receivable for a sale of that inventory is known as .........................

5. Kabir Ventures Ltd. had sales last year of N530 million including cash sales of

N50 million. If its average collection period was 40 days, its ending account

receivable is closest to ..............................

6. A scheme approved by the court in which the nominal value of a company‟s

paid up share capital is reduced is termed ......................

7. The process through which a person learns the values and behaviour patterns

considered appropriate by an organisation or group is called …....…………..

8. The Utilitarian theory of justice ties the question of economic distribution to the

promotion of ………......……

9. An approach to Business Ethics that attempts to change economic concepts with

the aim of facilitating moral action is termed ....…………….

10. The Libertarian associates justice with ........………….

11. Payments made to a parent company by a subsidiary out of pre-acquisition

profits are known as ...........................

12. The Institute of Chartered Accountants of Nigeria (ICAN) requires that its

members who are in Public Practice take up insurance policy with reputable

insurance companies. What is the name of the insurance policy required?13. A component of an entity that engages in business activities from which it may

earn revenue and incur expenses is described by IFRS 8 as ..........................



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14. The organisation which is empowered by law to incorporate, register and wind-

up companies in Nigeria is called ....................................

15. Two features of a business entity are .......................... and .................................

16. The standards of behaviour that groups expect of their members is referred to as

................................ 17. Ethics must be promoted and institutionalized in an organization in order to

build credibility and ...............................

18. The ethical challenge in companies is often triggered by .............................

19. A method of accounting whereby an interest in a jointly controlled entity is

initially recorded at cost and adjusted thereafter for the post-acquisition change

in the venture‟s share of net assets of the jointly controlled entity is called

..........

20. The bringing together of separate entities or businesses into one operating

entity is called ...............................



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SECTION B – ATTEMPT QUESTION ONE AND ANY OTHER THREE (60 MARKS)

QUESTION 1 –CASE STUDY

Topic: Variance ReportingCharacters: Olabisi, Director of Manufacturing and Computer Services

Tunde, Manager, Manufacturing Department 207Bose, Supervisor, Manufacturing Department 201

Olabisi has been with Peace Auto Parts Manufacturing Company for 23 years. Recently,he was appointed Director of Manufacturing and Computer Services. In just six weeksin this new position, he has moved to reduce the amount of information provided tomanufacturing department managers by 60 percent. He argues that excess data isdistracting, expensive to provide and usually unused.

Tunde has been the Department Manager for 12 years. During a coffee break withsome of his department production supervisors, Tunde is quite vocal about the change.“Who‟s this guy Olabisi to tell us what data we need? He needs to be out here for a few

weeks to find out what it‟s like. Keep it quiet, but I‟ve got a contact in ComputerServices who‟ll get me all the data analysis I want for just a N3,000 bill each month.It‟s a good deal, and Olabisi will never know. How does he expect us to make gooddecisions about those variances without enough data? This guy in Computer Servicescan get any of you data, if you need it.”

Bose, o verhearing Tunde, is shocked. “Is that ethical, Tunde? Do you really need that

extra data? Can‟t you get the information without going around Olabisi? I sure don‟t want to pay for anything Mr. Olabisi doesn‟t want me to have.”

“Bose , you've only been a supervisor for six months,” Tunde replies. “It‟s just how thefirm operates. Try it, and you'll see it‟s worth the N3,000. You can't make gooddecisions with the stuff Olabisi gives us now.” Bose doesn't respond, and the coffeebreak ends with people returning to their jobs.

Later that evening, Bose begins to think about what Tunde said. She knows that he is agood manager, but she does not want to have to buy information to do her job

correctly. Tomorrow, she is scheduled for a staff meeting with Mr. Olabisi. She isuncertain about what to do or say, if anything.



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Required

(a) What are the relevant facts? (3 marks)

(b) What are the ethical issues? (2 marks)

(c) Applying the Kant‟s Categorical Imperative, advise Bose on the action(s) she should take. (10 marks)

(Total 15 marks) QUESTION 2

a) Explain briefly Ethical Issues in business. (5 marks)

b) State TWO examples each of ethical issues relating to the following areas:

i. Society

ii. Internal and industry practice

iii. Marketing

iv. Product

v. Supply chain (10 marks)

(Total 15 marks)

QUESTION 3

a) Explain the term “conflict of interest”. (7 marks)

b) Situate conflict of interest within the accounting profession, especially as anexternal auditor to a firm (8 marks)

(Total 15 marks)

QUESTION 4

Why should an accountant get involved in the study of ethics, given that all human

beings, including accountants, have moral beliefs they follow? .. (15 Marks)



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QUESTION 5

a) State the meaning of the following terms as contained in IAS 27 - Consolidated and

Separate Financial Statements:

i. Consolidated Financial Statementsii. Subsidiaryiii. Non controlling interestiv. Control (6 Marks)

b) Explain briefly THREE of the disclosure requirements in Consolidated FinancialStatements. (9 marks)

(Total 15 Marks)

QUESTION 6

Identify and explain FIVE potential users of financial reports and their informationneeds (Total 15 marks)



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SECTION A

PART I: SOLUTIONS TO MULTIPLE CHOICE QUESTIONS

1. E2. B3. D4. E5. C6. E7. C8. B9. D10. C11. E12. E13. B14. E15. A16. B17. A18. D19. E20. D

EXAMINERS‟ REPORT

The questions test various aspects of the syllabus. The candidates demonstrated clearunderstanding of them. This translated into good performance by most candidates.

PART II: SOLUTIONS TO SHORT ANSWER QUESTIONS

1. Prospective2. Altruism

3. Diversification4. Cash conversion cycle or Cash operating cycle5. N52.6million or N53million {(40/365 x (530-50) million}6. Capital reduction



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7. Socialization or Societalisation8. Social Well-being/Happiness9. Prescriptive or Normative

10. Liberty or Individual right or Entitlement

11. Pre-acquisition dividends12. Professional Indemnity Insurance Policy13. Operating segment or Reportable segment14. Corporate Affairs Commission (CAC)15. Legal status, Ownership of assets and Profit oriented (any two)16. Group norms or Code of Conduct or Professional Ethics17. Public trust/Confidence18. Financial problems19. Equity method20. Business combination.

EXAMINERS‟ REPORT

The questions test most areas of the syllabus with particular emphasis on effective useof terminologies in Ethics.

The performance of candidates was fair. Candidates are advised to make use of theirStudy Packs and recommended texts on the subject to improve on their performance infuture.

SOLUTIONS TO SECTION B

QUESTION 1 – CASE STUDY

(a) Relevant facts about the Case:

(i) Olabisi has reduced the amount of data on Reports sent to departments.(ii) Tunde secretly buys data from someone in the Computer Services

Department to supplement the variance report he receives.(iii) Bose knows of Tunde practice of buying data, thinks it is unethical, but

does not know what to do about it.(iv) Olabisi, the Director of Manufacturing and Computer Services is a longstanding employee of the organisation for the past 23 years.



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(v) Olabisi was recently appointed as the Director of Manufacturing andComputer Services.

(vi) He has moved to reduce the amount of information provided to Managersby 60%.

(vii) Tunde has been the Departmental Manager of the Organisation for 12

years, and he advised Bose to obtain information at a cost.(viii) Bose is the Supervisor, Manufacturing Department, and she is in a

dilemma as to whether she should yield to Tunde‟s advice or not.

(b) Ethical Issues Involved:(i) Should Tunde buy data for his use in managing his Department?(ii) Should Bose tell Olabisi (or any one else) what Tunde is doing?(iii) Should Bose use the data source in Computer Services?(iv) The appropriateness of disobeying a superior officer‟s instruction.(v) The superior‟s intention of obtaining the information without cost from

undisclosed source.

(c) Emmanuel Kant made a major contribution to Ethics of duty. For him, the moral values of actions, decisions and propositions are not dependent on a particularsituation or on the consequences of the action. Rather, morality was simply aquestion of certain eternal, abstract and unchangeable principles that humansshould apply to all ethical problems.

To be moral, therefore, one must consciously act according to rules previouslycalculated by „reason‟ to be right or just, and the motive for observing thoserules must be respected for duty alone. He, however, articulated the categorical

imperative as a theoretical framework to guide our commitment to duty. By thishe meant that this theoretical framework should be applied to every moral issueregardless of who is involved, profits and who is harmed by the principles onceapplied in specific situations.

The „categorical imperative‟ consists mainly of three formulations. We wouldmake use of the first two formulations in this case.

The first formulation states, “Act only according to that maxim by which you canat the same time will that it should become a universal law.”

This means that for any action to be morally right, it must be capable of being

consistently universalisable. By implication, if any action is moral for me, itmust be moral for anyone else; everyone should be able to follow the sameunderlying principle, it gives no room for any exceptions.



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The second formulation otherwise referred to as the principle of humanity goesthus: “Act so that you treat humanity, whether is your own person or in that ofanother, always as an end and never as a means only.” Kant‟s emphasis here is on the rational nature of humans as free, intelligentand self directing beings. This nature of rationality is the basis for his/her value

as an end in itself. Because of this, “a rational being is worthwhile, has dignityand is worthy of respect. Hence each person should be treated by every personas an end, with respect and dignity …” This formulation forbids us to „use‟people and manipulate them merely as means to our own ends.

Consider the different possible alternative actions that Bose can take, whichmay include:(i) Telling Mr. Olabisi of the situation when she meets with him tomorrow.

(ii) Asking Tunde to stop his data purchases.

(iii) Turning Tunde in to Mr. Olabisi‟s anonymously. (iv) Buying information for herself if and when she needs it.(v) Do nothing.

Given the main tenets of Kant‟s Categorical Imperative, Bose has a duty to tellthe truth always, to uncover any unethical practice in her organisation notminding who will be affected and to protect another person from any form ofmanipulations for selfish interests.

The best option, therefore, would be for Bose to first confront Tunde and askhim to stop his data purchases. The reason is that, a lot of frictions and crises

could be avoided if Tunde heeds to this advice.But Bose should be smart enough to decipher and discern what Tunde‟sreaction would likely be so that she would not have failed to prevent any harmbeing done on Olabisi. By implication, she would have to tell Olabisi what

Tunde‟s is. Going by Kant‟s first formulation of the Categorical Imperative, this would be a good option because if she were Olabisi, she would have wishedthat someone exposes such unethical intent to her.

Finally, I will strongly advise Bose against turning Tunde in to Olabisianonymously. The reason being because, it would be difficult for her to remain

anonymous since she had earlier on kicked against Tunde‟s decisions.



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EXAMINERS‟ REPORT

The question tests candidates‟ understanding of Kant‟s Categorical Imperativeprinciples in Ethics. It also tests candidates‟ ability to identify ethical issues in the Case

Study.

The overall performance of the candidates was poor.

The commonest pitfalls of the candidates include:

(i) Lack of awareness of Kant‟s Categorical Imperative and its application. (ii) Inability to identify ethical issues in the Case Study.

It is important for candidates to appreciate that examiners would continue to examine

questions which require application of ethical principles; hence, they are advised tomake use of recommended texts and journals on ethics. These would expose them torelevant ethical principles and how they can be applied within the context of theaccounting profession.

QUESTION 2

(a) Ethical issues are problems, situations, or opportunities that require a person ororganisation to choose among several actions that must be evaluated as right or

wrong. Most ethical issues relate to conflicts of interest, fairness and honesty,communications, or organisational relationship both internal and external.

In general, businesses seem to be more concerned with ethical issues that couldhurt the firm through negative publicity, such as bribery, and issues related toconsumers and the general public, such as environmental impact. Scandals relatedto bribes, deceptive communications, and ecological disasters have severelydamaged public trust in business institutions and have helped to focus attention onactivities that could do further harm.

Therefore, studying ethical issues helps to prepare us to identify potential problems within an organisation and to understand alternatives and ethical solutions to theproblem.



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(b) Two examples each of ethical issues relating to the following areas:

(i) Society. Involvement in the Community/Obligation to protect, preserve & improve

the environment Honesty, truthfulness and fairness in marketing Use of animals in product testing The degree of safety built into product design Donation to good cause The extent to which a business accepts its alleged responsibilities for

mishaps, spillages and leakages The selling of addictive products e.g. tobacco Involvement in the arms trade Trading with repressive regimes.

(ii) Internal and industry practice. Treatment of customers – e.g. honouring the spirit as well as the letter of

the law in respect to warranties and after sales service The number and proportion of women and ethnic minority people in senior

positions The organisation‟s loyalty to employees when it is in difficult economic

conditions Employment of disabled people Working conditions and treatment of workers

Bribes to secure contracts Child labour in the developing world

(iii) Marketing. Dumping – selling at loss to increase market share and destroy

competition in order to subsequently raise prices Price fixing cartels „Bait and switch‟ selling – attracting customers and then subjecting them

to high pressure selling techniques to switch to a more expensivealternative

Counterfeit goods and brand piracy

Copying the style of packaging in an attempt to mislead consumers Deceptive advertising Unethical practices in market research and competitor intelligence



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(iv) Product. Selling goods abroad which are banned at home Omitting to provide information on side effect Unsafe products Built in obsolescence Wasteful and unnecessary packaging Deception on size and content Inaccurate and incomplete testing of products Treatment of animals in product testing.

(v) Supply chain. The use of child labour and forced labour Production in sweatshops Violation of the basic rights of workers

Ignoring of health, safety and environmental standards.

EXAMINERS‟ REPORT

The question tests candidates‟ knowledge on ethical issues in business and it requiresspecific examples of ethical issues in various areas of business.

The performance of candidates was good. Although, majority of the candidates wereable to explain ethical issues in business but some could not give specific examples invarious areas of business.

Candidates are advised to pay more attention to various forms of ethical issues inbusiness and how they can be addressed effectively.

QUESTION 3

(a) Explaining the term “Conflict of Interest.”

(i) Conflict of interest exists when an individual must choose whether to

advance his or her own interest(ii) It exists when there is a clash in one‟s moral conviction and anotherperson‟s proposal



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(iii) Such competing interest can make it difficult for a professional to fulfilhis or her duties impartially

(iv) A conflict of interest can create an appearance of impropriety that canundermine confidence in the accountant, his professional activity, andthe profession

(v) To avoid conflict of interest, one must be able to separate his privateinterest from the business dealings of his employer or client.

(b) Identifying the conflict of interest within the accounting profession, especiallyas an external auditor to a firm:

(i) Acting for two competing clients.Assurance firms are at liberty to have clients who are in competition

with each other. However, the firm should ensure that it is not thesubject of dispute between the clients. It must also manage its work so

that the interests of one client do not adversely affect the other. Whereacceptance or continuance of an engagement would, even withsafeguards, materially prejudice the interests of any client, theappointment should not be accepted or continued.

(ii) Provision of services other than audit for the same firm.Auditors often give their clients business advice unrelated to audit. Insuch a position, they may well become involved when clients areinvolved in issues such as share issues and take-overs.Neither situation is inherently wrong for an auditor to be in – With

regard to share issue, audit firms should not underwrite an issue ofshares to the public of a client they audit.In a take-over situation, if the auditors are involved in the audit ofboth predator and target company, they must take extra care. Theyshould not:- be the principal advisor to either party- issue reports assessing the accounts of either party other than

their audit report.

If they find they possess material confidential information, they shouldcontact the appropriate body or regulator.



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(iii) Self Interest Threat.A conflict between members‟ and clients‟ interest might arise ifmembers compete directly with a client, or have a joint venture orsomething similar with a company that is in competition with the client.A professional public accountant (external auditor) has the moral

responsibility to protect the interest of the public by providing objectiveand accurate financial reporting which will be released to the public bythe firm; the management of the company could request foroverstatement of profit in order to mislead the public and hence continuein business without fear of losing out. The situation becomes worse whenthe auditor has some pressing financial needs which will be taken care ofby the money that may accrue when the client produces fraudulentfinancial report.Here the auditor faces the dilemma of choosing to advance his selfishinterest by taking the bribe and solve his own pressing financial

problems or protecting public interest by declining.

EXAMINERS‟ REPORT

The question tests the application of ethics in accounting profession with specialemphasis on conflict of interest as it affects external auditors when carrying out theirduties as professional accountants.

Candidates are required to explain the term “Conflict of Interest” and also to giveinstances where it may arise, most especially for audit firms in particular and

accounting profession in general.

The pitfalls noted include the following:

(i) Inability to correctly explain the meaning of “Conflict of Interest”.

ii) Discussing Auditor‟s Independence and factors that may impair Auditor‟sIndependence instead of “Conflict of Interest”.

(iii) Inability to give specific instances when conflict of interest may arise.

The candidates are advised to pay more attention to the application of ethicalprinciples, particularly as they affect Accountants, Auditors and other relatedprofessionals. It is also important for candidates to be sufficiently familiar with the



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basic ethical problems that can arise as they carry out their professional duties asAccountants.

QUESTION 4

Accountants cannot afford not to study ethics for the following reasons:

(i) Possibility of conflicting ethical principles:Due to conflicting ethical principles it may be difficult to determine what to doin certain circumstances. In this case, ethics can provide insights into how toadjudicate between conflicting principles and show why certain courses of actionare more desirable than others.

(ii) Individual Accountant may hold some inadequate beliefs or cling to inadequate

values.Subjecting those beliefs or values to ethical analysis may show their inadequacy.It could be that at one time you thought some things were wrong but now youthink they are acceptable, or vice versa. For instance, some would claim that

while accounting firms operate within the letter of the law in attesting to the factthat companies followed Generally Accepted Accounting Principles (GAAP), theyhad an ethical obligation to encourage more realistic financial pictures. Also, atone time accountants thought it unacceptable to advertise. Today, it seems a

justifiable practice. So, ethical reflection can make us more knowledgeable andconscientious in moral matters.

(iii) Development of abilities needed to deal with ethical conflicts. The study of ethics helps us to understand whether and why our opinions are worth holding on to. As an Accountant, what do I do when I need to choosebetween keeping a job and violating professional responsibilities? Ethicsprovides the Accountant with the likely thing to do when his responsibility to hisfamily conflicts with his professional responsibility.

(iv) Recognition of issues in accounting that have ethical implications.Some moral beliefs an individual accountant holds may be inadequate because

they are simple beliefs about complex issues. The study of ethics can help insorting out these complex issues, by seeing what principles operate in thosecases.



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(v) Identification and application of basic ethical principles. The final reason for studying ethics is to learn to identify the basic ethical

principles that can be applied to action. That should help develop the skill ofdetermining what should be done and an understanding of why it should bedone. When faced with trying to decide what to do in a difficult situation, it is

often helpful to have a checklist for basic questions or considerations that need tobe raised and applied to the situation to help determine what the outcomeshould be. Just as one learns the principles of accounting in order to apply themto specific situations, one also needs to learn the principles of ethics that governhuman behaviour in order to apply them when faced with difficult ethicalsituations. The study of ethics makes us aware of the number and types of moralprinciples that can be used in determining what should be done in a situationinvolving ethical matters.

EXAMINERS‟ REPORT

The question tests the purpose of studying ethics by Accountants. It also tests theimportance of ethics to the accountancy profession in general.

Candidates are required to explain possibility of conflicting ethical principles, and alsoto state the reasons why some Accountants may hold inadequate beliefs when facedwith issues in accounting that have ethical implications.

Most candidates demonstrated inadequate understanding of the question andperformance was generally poor.

The major pitfall was that candidates misinterpreted the question and they werediscussing ICAN Code of Conduct instead of answering the question.Candidates are advised to study questions properly before answering them.

It is also important for candidates to appreciate that Ethics is an important aspect ofthis paper; therefore, special attention must be paid to this part of the Syllabus forbetter performance in future.



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QUESTION 5

(a). (i) Consolidated Financial Statements are the financial statements of agroup presented as those of a single economic entity.

(ii) A Subsidiary is an entity, including an unincorporated entity that iscontrolled by another entity known as the parent.

(iii) Non-controlling interest is the equity in the subsidiary not attributabledirectly or indirectly to a parent.

(iv) Control is the power to govern the financial and operating policies ofan entity so as to obtain benefits from its activities.

(b) The following disclosures shall be made in Consolidated Financial Statements,according to Schedule II paragraph 68 of CAMA:

(i) The nature of the relationship between the parent and subsidiary whenthe parent does not own, directly or indirectly through subsidiaries, morethan half of the voting power.

(ii) The reasons why the ownership, directly or indirectly throughsubsidiaries, of more than half of the voting or potential voting power

of an investee does not constitute control.

(iii) The end of the reporting period of the financial statements of asubsidiary when such financial statements are used to prepareconsolidated financial statements and are as of a date or for a periodthat is different from that of the parent‟s financial statements, and thereason for using a different date or period.

(iv) The nature and extent of any significant restrictions on the ability ofsubsidiaries to transfer funds to the parent in the form of cash

dividends or to repay loans or advances.



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(v) A schedule that shows the effects of any changes in a parent‟sownership interest in a subsidiary that does not result in a loss on theequity attributable to owners of the parent.

(vi) If control of a subsidiary is lost, the parent shall disclose the gain or

loss, if any.

(vii) A list of investment in subsidiaries, jointly controlled entities andassociates including the name and country of incorporation.

(viii) Where separate financial statements are prepared by a jointlycontrolled entity or an investor, in an associate, the reason forpreparing separate financial statements, the list of significantinvestment and country of incorporation of the investee must bedisclosed.

EXAMINERS‟ REPORT

The question tests candidates‟ understanding of the requirements of IAS 27 onSeparate Financial Statements as well as disclosure requirements when preparingConsolidated Financial Statements.

The performance of the candidates was fair.

Most candidates were able to define the basic terms in accordance with theInternational Accounting Standard No. 27, but they displayed inadequateunderstanding of the disclosure requirements.

Candidates are advised to pay more attention to Statements of Accounting Standards.



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QUESTION 6

Financial reporting is not an end in itself. It is a means of communicating to the usersof the financial reports. Information is useful in making choices among alternativeuses of scarce resources, though, the objective stems largely from the needs and

interests of those users.

Potential users of financial reports and their information needs include:

(a) Equity investors.Equity investors in an entity are interested in the entity‟s ability to generate netcash inflows because their decisions relate to the amounts, timing, anduncertainties of those cash flows. To an equity investor, an entity is a source ofcash in the form of dividends (or other cash distributions) and increases in theprices of shares or other ownership interests. Equity investors are directly

concerned with the ability of the entity to generate net cash inflows and withhow the perception of that ability affects the prices of its equity interests. They are also interested in the ability of the company to issue scrip, which will increase their shareholding and consequently increase their cash inflow.

(b) Creditors, including purchasers of trade debt instruments. These provide finance to an entity by lending cash (or other assets) to it.Like investors, creditors are interested in the amounts, timing and uncertaintyof an entity‟s future cash flows. To a creditor, an entity is a source of cash in theform of interest, repayments of borrowings and increase in the prices of debt

securities.

(c) Suppliers. They provide services rather than financial capital. They are interested inassessing the likelihood that amounts an entity owes them will be paid as at

when due.

(d) Employees. They provide services to equity; employees and their representatives areinterested in evaluating the stability, profitability, and growth of their

employer. They are interested in information that helps them to assess theentity‟s continuing ability to pay salaries and wages and to provide incentivepayments and retirement and other benefits.



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(e) Customers. To its customers, an entity is a source of goods and services. Customers areinterested in assessing the entity‟s ability to continue to provide those goods orservices, especially if they have a long-term involvement with, or are dependenton the entity.

(f) Governments and their agencies and regulatory bodies. These are interested in the activities of an entity because they are in various ways responsible for seeing that economic resources are allocated efficiently. They also need information to help in regulating the activities of entities,determining and applying taxation policies, preparing national income andsimilar statistics.

(g) Management. This requires financial reports to obtain financial information among others toeffectively perform their function of planning and controlling the operation ofthe enterprise.

(h) Financial Analyst. This like Accountants, Stockbrokers, etc. will need the financial information todetermine the performance of the entity in order to give constructive advice asto whether their clients should invest in a particular company or not.

(i) Competitors.Competitors require the financial statements of companies in the same line ofbusiness or the same industry for the purpose of comparison. This will make

them know their position and facilitate effective analysis of their strengths, weaknesses, opportunities and threats within the industry. This will also enablecompeting companies know how they are faring among their peers and makethem evolve appropriate policies and/or actions for improvement.

(j) Researchers.Researchers require financial information for inter-firm and inter-periodcomparisons to guide students and consultants.

EXAMINERS‟ REPORT

T he question tests candidates‟ knowledge on users of financial statements and theirindividual information needs.

Majority of the candidates understood the question and the performance was good.



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ICAN/ EXAMINATION NO...................................


STRATEGIC FINANCIAL MANAGEMENT

Time allowed – 3 hours

SECTION A: Attempt All QuestionsPART 1 MULTIPLE-CHOICE QUESTIONS (20 Marks)1. Which of the following functions is NOT performed at a lower management level?

A. Supervision of cash receipts and payments.

B. Safeguarding cash balances

C. Record keeping and reporting

D. Custody and safeguarding securities and valuable papers

E. Planning and control of funds

2. The following are the characteristics of strategic decision EXCEPT they

A. are concerned with the scope of the organisation‟s activities.

B. match the organisation‟s activities to the environment in which it operates.

C. match an organisation‟s activities to its resource capability .

D. involve major decisions about the allocation or re-allocation of resources.

E. affect the short-term direction that the organisation takes.

3. Which of the following short-term investment opportunities is NOT available tocompanies?

A. Treasury bills

B. Commercial papers

C. Certificates of deposits

D. Bonds

E. Bank deposits



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4. Baumol‟s model on cash management is not based on ONE of the followingassumptions.

A. A firm is able to forecast its cash needs with certainty.

B. A firm‟s cash payments occur uniformly over a period of time.

C. The opportunity cost of holding cash is known and it does not change over

time.

D. The firm will incur the same transaction cost whenever it converts securities

to cash.

E. The net cashflow is normally distributed with a zero mean and standard

deviation.

5. Which of the following simplifying assumptions is NOT commonly made in

examining the relationship between capital structure and cost of capital?

A. There is no income tax

B. The firm pursues a policy of paying all its earnings as dividends

C. Investors have identical subjective probability distributions of operating

income

D. The operating income is expected to be static

E. A firm can change its capital structure almost instantaneously without

incurring transaction costs

6. Which of the following reasons for valuing securities is NOT correct?

A. To determine the purchase consideration in an absorption or merger scheme

B. To ascertain the total amount of the estate of a deceased investor

C. To determine the fair price at which shares of a company could be

purchased

D. To meet the stock exchange requirements

E. To estimate the break-up value of a company in liquidation



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7. Given the following data in respect of Alariwo Plc, calculate the P/E ratio:

Share Price N5.00; andEPS N0.82

A. 4.10

B. 6.10

C. 6.12

D. 6.14

E. 6.22

8. Which of the following statements may NOT be a reason for issuing bonus shares?

A. Bonus shares tend to bring the market price per share within a more

popular range

B. Bonus shares increase the number of outstanding shares

C. The rate of dividend tends to increase

D. Issuing of bonus shares improves the prospects of raising additional funds

E. The share capital base increases and the company may achieve a more

respectable size in the eyes of the investing community

9. Which of the following is NOT one of the core decision areas in financialmanagement?

A. Investment decisionB. Finance decisionC. Dividend decisionD. Liquidity decisionE. Credit management decision

10. The traditional approach to the valuation of a company assumes that

A. the gearing of a company is changed immediately by issuing debts topurchase equity or vice-versa.

B.

all earnings are distributed in form of dividend.C. business risk fluctuates regardless of how the company invests its funds.D. taxation is ignored.E. earnings are assumed to have zero growth into perpetuity.



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11. An integrated approach to the strategy making process provides a framework which consists of the following parts EXCEPT

A. analysing the present internal and external conditions.

B. identifying and evaluating the present strategy.C. searching for strengths and weaknesses within the present strategy and

environment.D. considering changes in the existing strategy.E. choosing the strategy that best satisfies the objectives.

12. Mr Adeyemi obtained a three-year loan of N10,000 @ 9% from his employer tobuy a motorcycle. The loan is expected to be repaid in three equal end-of-yearinstalments. What is the annual instalment?

A. N3,905B. N3,921C. N3,951D. N3,975E. N3,981.

13. An investor expects a perpetual sum of N500 annually from his investment. Whatis the present value of this perpetuity if his interest rate is 10%?

A. N5,000

B. N5,200C. N5,300D. N5,400E. N5,500.

14. The following are relevant factors in taking a decision to raise money throughloan stock EXCEPT

A. issue costs.B. capital repayment.

C.

control.D. servicing costs.E. interest repayment.



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15. Who has the overall responsibility for the attainment of corporate governance objectives

in an organisation?

A. Top executive officer

B. Shareholders

C. Work force

D. Audit Committee

E. Board of Directors

16. Which of the following is an aspect of the intermediation functions in the Nigerian

financial system?

A. Denomination intermediation

B. Maturity intermediation

C.

Risk IntermediationD. Interest rate intermediation

E. Liquidity intermediation

17. Strategic planning serves the following purposes in an organisation EXCEPT

A. clear definition of the purpose of the organisation and establishment of realistic

goals and objectives consistent with that mission in a definite time frame.

B. communication of those goals and objectives to the organisation‟s constituents.

C. development of a sense of ownership of the company‟s plan.D. reflecting on how a specific function will contribute to the achievement of a

department‟s corporate priorities and defence tasks.

E. provision of a base from which progress can be measured and establishment of a

mechanism for informed change when needed.

18. Which of the following does NOT explain the essence of corporate planning?

A. The probability of future outcome of events is unknown

B. Predictions are susceptible to errors

C. The future is unpredictable

D. Decision makers cannot be assertive on future events

E. Decision relating to corporate planning rests on hunches



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19. In relation to capital investment, a managerial option

A. applies only to new projects.

B. limits the flexibility of management‟s decision-making.

C. limits the downside risk of an investment project.

D. limits the profit potential of a proposed project.

E. extends the risk of executed projects.

20. Which of the following is NOT a limitation of capital rationing?

A. The assumption that projects are infinitely divisible may not always be true in

practice

B. An investment policy outcome may be less than optimal

C.

The risk associated with the different projects and managements attitude to riskare not considered

D. The linearity relationship can be faulted

E. If there is capital rationing in more than one year and more than two projects are

involved, ranking by discounted profitability index is not adequate



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PART II – SHORT-ANSWER QUESTIONS (20 Marks)

1. Strategy formulation is ultimately the responsibility of............................

2. The secondary goal of a corporate organisation is................................

3. The two main theories relating to the effect of capital structure on the value ofthe company are....................... and ..............................

4. A schedule statement of projected cash inflows and cash outflows over someperiod is known as........................

5. What is the name given to an income received by the firm for goods andservices, to be supplied in future?

6. A financial instrument which entitles an investor to buy new shares of a

company during a specified period in future, at a price determined now, iscalled...............................

7. Issue of shares of new companies are usually offered to the public forsubscription at........................value.

8. The process of guaranteeing to buy new public or rights issues if the issues areNOT fully subscribed by the public is called................................

9. The development of financial strategy in an organization is the responsibility ofthe...................................

10. The process of policy formulation, establishment of goals and objectives and thedevelopment of strategies is known as ...........................

11. The level at which an order should be placed to replenish inventory is knownas...........................

12. Offers to the existing shareholders to subscribe cash for additional shares in theproportion of their existing shareholdings at a price which is appreciably belowthe current market price are referred to as .......................

.13. The formula for determining the rate of return on a single asset is given

as...............................



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14. The technique used in determining the viability, time of completion, costs andresources of rescheduling alternative strategies is called.............................

15.

The company‟s objective of maximising market price per share is synonymous with …………………..

16. When a listed company delays or fails to notify the Stock Exchange of any newdevelopment which may substantially affect the price of its security, an investorcan out-perform the market thereby resulting in …………….. capital market.

17. The process of developing and maintaining a strategic fit between theorganisation‟s goals and capabilities and its changing marketing opportunitiesis the responsibility of the …………………..

18. A continuous process whereby people make decisions about how outcomes areto be accomplished, what products will be produced, how success is measuredand evaluated and how budgetary resources are allocated is knownas………………..

19. Whenever there is a budget ceiling or a constraint on the amount of funds thatcan be invested during a specific period, there will be needfor………………………

20. The terminology used to describe the value of a project‟s asset w hen soldexternally is known as …………………….



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SECTION B -ANSWER QUESTION ONE AND ANY OTHER THREE (60 Marks)QUESTION 1 - CASE STUDY

LAPEKUN LIMITED

Lapekun Limited is considering the purchase of a locally manufactured machine for N3

million. In view of the fact that the shares of the company are not quoted, it finds it

difficult to raise money through the issue of shares. The purchase of this machine

becomes absolutely necessary if the sales target given to the sales manager is to be

achieved. In order to ensure that the machine is purchased, the domineering

proprietor of the company and the accountant met informally to decide on how to

source for funds.

Many finance options were considered and they eventually agreed to negotiate for a

loan from Microfinance Bank Ltd. The bank agreed to give the company a loan of N2.5

million, which means that the company will have to source for the balance of N0.5

million elsewhere. However, the company has no tangible collateral with which to

secure additional loan to cover the balance of the value of the machine. In view of this

difficulty, the finance officer offered to advance the shortfall. The proprietor graciously

accepted this offer.

The duration of the loan is 20 years with an interest rate of 12% per annum. The

annual interest charge is to be calculated on the balance outstanding at the beginning

of each year. Repayment is to be made in 20 equal annual instalments. Each

instalment will include both interest and capital. A working capital of N250,000 will

be required at the beginning of the year. The amount will be sourced internally. The

machine is expected to generate net cashflows of N540,000 per annum for FIVE

consecutive years from its predominantly local sales.

You are required to determine

(a) the amount to be paid in each year on the loan; (5 Marks)(b) the NPV of the machine and advise on its viability; and (5 Marks)(c) identify FIVE features of small scale enterprises. (5 Marks)

(Total 15 Marks)



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QUESTION 2

(a) Explain the term “rights issue”. (2 Marks)(b) Differentiate between “rights issue” and “public issue”. (3 Marks)

(c) (i) Rapala Plc is about to make a one-for-three rights issue. Its current capitalstructure is as follows: 6 million Ordinary shares of N1 each (current market value is N6.20 per

share)

15% Debentures (Redeemable at par in 10 years time) – N6 million.

(ii) The money raised from the rights issue may be used to execute thefollowing; Buy back all the 15% debentures at their current market value. It is

expected that this investment will be priced to offer investors a yield of9% which is the current market-yield on debenture loan.

Finance a new project costing N1.6 million.

You are required to determine the

(i) finance required to redeem the debentures and finance the new project.(5 Marks)

(ii) issue price per share; (1 Mark )

(iii) theoretical ex-rights price; and (2 Marks)

(iv) theoretical nil paid value of a right per share (2 Marks)

NOTE:

The total finance required for (i) and (ii) should be rounded up to the nextN100,000 for the purpose of the rights issue.

(Total 15 Marks)

QUESTION 3

(a) State the formula for calculating the rate of return on equity shares

(2 Marks)

(b) Calculate the rate of return on equity share using the following information:

Price at the beginning of the year N60.00



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Dividend paid at the end of the year N2.40

Price at the end of the year N69.00 (3 Marks)

(c) Explain FIVE areas in which the financial management in a business

organisation can benefit from information and communication technology.(10 Marks)

(Total 15 Marks)QUESTION 4

Abija Plc‟s and Bayela Plc‟s balance sheet extracts are set out below. Abija Plc is

proposing to take over Bayela Plc by means of an issue of its own shares in exchange

for those of Bayela and has to decide on the terms of its offer.

Abija Plc

N‟000

Bayela Plc

N‟000 Ordinary Shares of N1 each

Preference Share Capital

Share Premium Account

Profit and Loss Account

10% Debentures

1,000,000

200,000

-

380,000

150,000

1,730,000

500,000

-

20,000

40,000

50,000

610,000

Other pieces of information concerning the two companies are as follows:

Abija Plc Bayela Plc

Maintainable annual profits after tax

attributable to equity

Current market value of ordinary shares

Current EPS

P/E ratio

Current market price of debts

N 240,000,000

2.40

0.24

10

125%

N 150,000,000

2.70

0.30

9

125%



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Required:

Determine the offer which the directors of Abija Plc would make to the shareholders of

Bayela Plc on each of the following bases:

a) Net Asset (3 Marks)

b) Earnings (4 Marks)

c) Market value (2 Marks)

d) Financial analysis (6 Marks)

The company‟s income tax rate is 30%.(Total 15 Marks)

QUESTION 5

BIROM PLc is considering investment in a computer-controlled machine which can bereplaced by an identical one when it gets to the end of its economic life. The machinehas a maximum life of four years but, as its productivity declines with age, it could bereplaced after either one, two, three or four years. The financial details of the machineare as given below:

N‟000

Cost 6,000,000

Running cost:

Year 1 450,000

2 480,000

3 570,000

4 630,000

Scrap value after:

Year 1 4,500,000

2 3,900,000

3 3,000,000

4 2,100,000

The Board of Directors of BIROM Plc is concerned with deciding on its replacementpolicy.



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As the financial manager of the company, you are required to advise the board on theoptimal replacement policy of the machine assuming that the company‟s cost ofcapital is 10%.

(15 Marks)

QUESTION 6

“The role of planning cannot be over emphasised in the attainment of corporate

objectives”:

(a) In relation to the above statement, explain eachof the following concepts:

(i) Operational planning;

(ii) Tactical planning; and

(iii) Strategic planning.

(6 Marks)

(b) State Three functions of each of the following:

(i) Central Securities Clearing System (CSCS); and

(ii) Securities and Exchange Commission (SEC)

(9 Marks)(Total 15 Marks)



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SOLUTIONS TO SECTION A

PART 1: MULTIPLE-CHOICE QUESTIONS

1. E

2. E

3. D

4. E

5. D

6. D

7. B

8. C

9. E

10. C

11. D

12. C

13. A

14. C

15. E

16. D

17. D

18. A

19. C

20. E



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Tutorials

7. N 5.00 = 6.098N 0.82

= 6.10

12. N 10,000 = N 3,9512.531(Cum DF)DF = Discounting Factor

13. P = N 5.00 = N 5,000 0.10

EXAMINERS‟ REPORT

The questions test candidates‟ knowledge of various aspects of the syllabus. Virtuallyall the candidates attempted the questions and performance was fair.Candidates are advised to ensure adequate coverage of all sections of the syllabus forbetter performance.



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PART II SHORT-ANSWER QUESTIONS

1. Board of Directors

2. Profit maximisation

3. Traditional view; Net operating income

4. Cash budget

5. Deferred income

6. Warrant

7. Par or Nominal

8. Underwriting

9. Head of Finance or Finance Officer

10. Corporate planning

11. Re-order level or Re-order point

12. Rights issue

13. Annual income + (ending price – beginning price) x 100 %beginning price 1

ORCapital Gain / Loss + dividend x 100 % ie di + (P1-P0) x 100

Price at Start of period 1 P0 1OR

Income / Returns x 100 %Investment / Capital 1

14. Program Evaluation Review Technique (PERT).

15. Maximisation of shareholders‟ wealth

16. Inefficient

17. Top management

18. Tactical planning

19. Capital Rationing

20. Abandonment value or scrap value



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EXAMINERS‟ REPORT

The questions test candidates‟ knowledge of various aspects of the syllabus. Candidates‟ performance was average.

Candidates are advised to study extensively and adequately to cover the syllabuswhen preparing for the examinations of the Institute for better result.



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QUESTION 1 - CASE STUDY

LAPEKUN LIMITED

(a) Calculation of the annual repayment

A = [1-(1 + r)-n]r

= 1 –( 1.12)-20

0.12

= 7.4694

: . Annual repayment = N2,500,0007.4694

= N 334,698.90

(b) Calculation of the NPV of the machine

Year NCF(N)

DF@ 12%

PV(N)

0 (3,000,000) 1.0000 (3,000,000)

0 (250,000) 1.0000 (250,000)

1-5 540,000 3.6048 1,946,592

5 250 0.5674 141,850

NPV -1,161,558

Advice:

The machine should not be bought, as its purchase would result in the

reduction of the shareholders‟ wealth by N1,161,558.

mailto:DF@10%25

mailto:DF@10%25

mailto:DF@10%25



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(c) Features of small-scale enterprises.

These include:

i. The ownership of the firm and its control are not often separated, that is,

both are in most cases in the hands of a few closely related people,

probably within the same family.

ii. The companies‟ shares are usually not quoted on the stock market;

iii. The informal relationship among employees in the organization dominates

the formal relationship;

iv. In most cases, their inputs are locally sourced;

v. Management structure is uncomplicated, hence there is a speedy decision-

taking process;

vi. They contribute to the domestic capital formation;

vii. Low setup costs;

viii. Accelerating rural development and contributing to stemming urban

immigration and problems of congestion in large cities through employment

generation;

ix. Provide links between agriculture and industries; and

x. Supplying parts and components to large scale industries.

EXAMINERS‟ REPORT

Part „a‟ of the question tests candidates‟ knowledge of annuity while part „b‟ testscandidates‟ understanding of one of the techniques of investment appraisal. Part „c‟ ofthe question, however, tests candidates‟ knowledge of the features of Small ScaleEnterprises (SMEs).

Over 80 of the candidates attempted the question and most of them did well in part„b‟ but demonstrated lack of adequate understanding of parts „a‟ and „c‟, hence

performance was average.Candidates‟ commonest pitfall in part „a‟ was their inability to remember the annuityformula, hence they were unable to calculate the annual „loan repayment.



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Their pitfall in part „b‟ was their inability to compute the projects Net Present Value(NPV) correctly owing to their failure to recognise the recovery of working capital atthe end of the project‟s life. However, in part „c‟, candidates focused on the features ofsole proprietorship instead of Small Scale Enterprises (SMEs).

Candidates are advised to read wide, understand and interprete questionsappropriately before attempting them. They should also make effort to remember keyformulae.

QUESTION 2

(a) Rights Issue – This is an offer to the existing shareholders of securities listed in the

primary market to subscribe for additional shares in the proportion of their

existing shareholdings at a price lower than the current market price of the

shares. It is the most common method of raising capital by private and public

companies.

(b) Differences between “rights issue” and “public issue”

(i) Rights issue is usually more successful than public issue because it is made

to investors who are familiar with the operations of the company.

(ii) A rights issue involves selling of ordinary shares to the existing shareholders

while a public issue involves raising of share capital directly from the

public.

(iii) The flotation costs of a rights issue are significantly lower than those of a

public issue because a rights issue is not underwritten.

(iv) A rights issue may be made by private companies as well as public

companies whereas a public issue can only be made by public companies.

(v) A rights issue does not lead to dilution of control except the rights are not

fully taken up by the shareholders whereas a public issue can lead to

dilution of control.



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(b) (i) Finance required: The finance required to redeem the debenture and finance the new project isthe addition of the current price of the debenture and the cost of the newproject. This is obtained as follows:

Calculation of the current value of the debenture15% Redeemable debenture = N 6,000,000Annual interest = N 900,000

Year Item Cashflow

N

DCF @

9%

PV

(N)

1 – 10 Interest 900,000 6.4177 5,775,930

10 Debtredeemed

6,000,000 0.4224 2,534,400

Current value 8,310,330

Current value of the 15% redeemable debenture = N 8,310,330Cost of the proposed project (given) = N 1,600,000

Therefore, the finance required is = N 9,910,330

= N10,000,000 approx.

(ii) Calculation of issue price per share

Finance required = N 10,000,000 (c (i) above)

No of shares issued (6,000,000/3) = 2,000,000 shares

Issue price = N10,000,0002,000,000

= N5.00



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(iii) Calculation of theoretical ex-rights price

N

3 shares at N6.20 18.60

1 share at N5.00 5.00

4 shares 23.60

Theoretical ex-rights price = N23.60/4

= N5.90

(iv) Calculation of nil paid value of a right per share

Theoretical ex-rights price = N5.90Less: Issue price 5.00

0.90

Nil paid value = 0.90/3

= N0.30

EXAMINERS‟ REPORT

The question tests candidates‟ understanding of „rights‟ and„public‟ issues under the

capital market operations.

Candidates‟ understanding of the „c‟ part of the question was very low while they hada fair knowledge of the „a‟ and „b‟ parts. Many candidates attempted the question butperformance was poor especially in the „c‟ part which requires some calculations.Unfortunately, this part carries the highest mark.Candidates‟ commonest pitfall in part „c‟ of the question was their inability todetermine the present price of the debenture which would have helped in calculatingthe finance required and assist in solving the remaining parts of the question underpart „c‟, that is, c ii – iv).

Candidates are advised to always cover the Institute‟s syllabus adequately, and makeuse of the Pathfinder and Study Packs.



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QUESTION 3

(a) The formula for calculating the rate of return on equity shares is

Annual income + (Ending price – Beginning price) X 100 %Beginning price 1

ORCapital Gain / Loss + dividend X 100 % ie di + (P1-P0) x 100 %

Price at start of period 1 P0 1

(b) Calculation of the rate of returnUsing the formula in (a) above, the rate of return works out as follows:N2.40 + (N69.00 - N60,00) X 100%

N60.00 1= N11.40 X 100

60 1

= 19%

(c) The areas in which the financial management of a business firm will benefit

from information and communication technology (ICT) include the following:

(i) Financial Planning – this function of the financial manager can be

performed with greater ease through the use of spreadsheets and other

financial softwares to evaluate the present and projected financial

performance of a business. Through information and communication

technology, companies can determine the financing needs and analyse

alternative methods of financing more quickly and relatively easier.

Financial manager receives immense support from Decision Support

System (DSS) when he takes long-term financial planning decisions

involving many assumptions that jointly affect these decisions. Where for

instance, there is a need to test the effect of a change in any of the

assumptions on the result (sensitivity analysis), computerized financial

planning models can be programmed to carry this out instantaneously.

The specific areas of financial planning that receive this type of supportfrom DSS include the effect of different sales values, different selling



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prices, and different input costs on the forecast figure in the projected

financial statements.

(ii) Working Capital Management – On a real time or periodic basis, ICT

system can be used to collect information on all cash receipts and

payments within the company. ICT is applicable in the area of cashflow

forecasts and management. It makes it possible to spot future cash

deficits or surpluses.

In addition to cash management, it could also be used for inventory

management to determine the economic order quantity and optimum

level of inventory investment to maximize profitability.

(iii) Capital Investment Appraisal – Spreadsheet models that incorporate

present value analysis of expected cash flows and probability analysis of

risk to determine optimal mix of capital projects are available for

evaluating the profitability and financial impact of proposed capital

expenditure. It also provides support in the areas of evaluation of the

effect of alternative discount rates on projects net present values where

cash flows that have to be estimated go into fairly distant future.

(iv) Investment Management – System / Service helps financial managers to

make buying / selling or holding decisions for various types of securities

and for developing an optimal mix of securities, which minimizes risks

and maximizes investment income for the business.

(v) Optimisation problems – The decision support system (DSS) model base

might have optimal models such as linear programming. These models

could be used to provide solutions to problems involving optimisation of

a given objective (profit maximisation or cost minimisation) in the face ofmany (at least more than two) interacting variables and complex

relationships.



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The limiting factors might be labour, machine hours, capital and others

which incidences jointly affect profit or cost.

(vi) Financial and Profit Analysis - The ICT, through the use of DSS based

financial planning models, provide support where there is need to assess

different financing plans and their impact on the critical variables such

as earnings per share (EPS), debt equity ratio (gearing ratio), etc.

Financial managers are usually interested in every aspect of the financial

analysis since it is their overall responsibility to see that the resources of

the firm are used most effectively and efficiently and that the firm‟s

financial condition is sound.

EXAMINERS‟ REPORT

The „a‟ and „b‟ parts of the question test candidates‟ understanding of the formula forthe calculation of return on capital and its interpretation in relation to the marketvalue of equity shares. The „c‟ part tests candidates‟ knowledge of informationtechnology and its benefits to the financial manager.Few candidates attempted the question and their performance was poor. Mostcandidates did not understand the requirements of the question and therefore did notattempt it.

Candidates‟ commonest pitfall in part „a‟ of the question was their inability toremember the formula and this also affected their performance in the „b‟ part of thequestion since the formula is expected to be used in solving it. In part „c‟, candidatesfailed to interprete and note the specific requirements of the question hence theyfailed to proffer correct solution to it.Candidates‟ are advised to take time to read, understand and interprete questionsappropriately and note specific requirements before attempting them. They shouldalso make effort to remember key formulae.



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QUESTION 4

Calculation of offer price by Abija Plc to shareholders of Bayela Plc based on :

(a) Net asset basis

Net Asset Value (NAV) = Value attributable to equityNo of ordinary shares

NAV for Abija = N 1,380,000,0001,000,000,000

= N1.38

NAV for Bayela = N560,000,000500,000,000

= N1.12

Comment

Abija Plc is expected to issue 112 of its own shares in exchange for every 138 of

those in Bayela Plc, which it acquires

To acquire the whole of the issued share capital of Bayela Plc, Abija Plc should

issue.

500,000,000 x 112 = 405,797,101 new N1 shares138

(b) Earnings Basis

Earnings per share (EPS) = Total earnings attributable to equityNo. of shares

EPS for Abija Plc = N240,000,0001,000,000,000

= N0.24

EPS for Bayela plc = N150,000,000500,000,000

= N 0.30Comment



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Abija Plc is expected to issue 30 new shares in exchange for 24 existing shares

in Bayela Plc. This leads to a total issue of

500,000,000 x 30 = 625,000,000 new N1 shares

24

(c) Market value Basis

The current market price of Abija Plc share is N2.40 and that of Bayela Plc‟s

share is N2.70. To maintain the market value of the holdings, Abija Plc should

issue 9 new shares for each 8 of Bayela‟s shares (i.e 270 for 240). Therefore, the

total number of shares to be issued is

N500,000,000 x 9 = 562,500,000 new N1 shares8

(d) Financial Analysis

Abija Plc current cost of equity (assuming no expected growth) is:

Maintainable annual profit x 100%Market value of equity 1

= N 240,000,000 x 100%N2,400,000,000 1

= 10% per annum

Abija Plc cost of debt is: Coupon rate x Nominal valueMarket value

= 10% x 100125

= 8%

The after tax cost of debt is therefore 8 (1-tax rate)= 8 (0.7)

= 5.6% per annum

Abija Plc WACC is: (10 x N2,400,000,000) + [5.6 x (N150,000,000x1.25]

N2,587,500,000= 9.68% per annum



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The maximum price that Abija Plc would be prepared to pay to Bayela Plc forthis to be an acceptable “project” under conventional capital project appraisalmethodsis: Earnings of Bayela Plc

Cost of capital of Abija Plc

= N 150,000,0000.0968

= N1.549,586,777

This implies issuing N 1,549,586,777N2.40

= 645,661,157 new shares in Abija Plc for

the equity in Bayela Plc

This is an offer of about 129 new shares in Abija Plc for 100 shares in Bayela Plcas follows: 645,661,157 = 1.29 : 1 or 129 : 100

500,000,000

EXAMINERS‟ REPORT

The question tests candidates‟ knowledge of the different methods of valuing businessunits for share exchange under mergers and acquisitions.Few candidates attempted the question and performance was poor. Many of thecandidates that attempted the question did not understand the concepts tested andthis led to their poor performance.

Candidates‟ commonest pitfalls were their inability to interprete the question correctlyand use of wrong figures in computing the number of shares to be offered to theshareholders of the target company.Candidates‟ are advised to always cover the syllabus adequately and giveconsiderations to all sections of the syllabus in their preparations for the Institute‟sexaminations. They should also improve their knowledge on mergers and acquisitionsfor better result in future.



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QUESTION 5

YEAR DF (10 ) 1 2 3 4

0 1.0000 (6,000,000) (6,000,000) (6,000,000) (6,000,000)

1 0.9091 (409,095) (409,095) (409,095) (409,095)

2 0.8264 __ (396,672) (396,672) (396,672)

3 0.7513 __ __ (428,241) (428,241)

4 0.6830 __ __ __ (430,290)

PV of Costs (6,409,095) (6,805,767) (7,234,008) (7,664,298)

PV of Scrap value 4,090,950 3,222,960 2,253,900 1,434,300

NPV (2,318,145) (3,582,807) (4,980,108) (6,229,998)

Divide by Annuity factor 0.9091 1.7355 2.4868 3.1698

Annual Equivalent Cost (2,549,934) (2,064,424) (2,002,617) (1,965,423)

ADVICE

Year 4 has the least Annuity Equivalent Cost; hence the machine should be replaced

every four years.



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EXAMINERS‟ REPORT

The question tests candidates‟ knowledge of replacement and abandonment decisions.

Many candidates attempted the question and performance was just fair. Most of thecandidates that attempted the question are familiar with the topic but they appear tohave poor understanding of the underlying principles involved in solving it.Candidates‟ commonest pitfalls were their inability to calculate the Annual EquivalentCost (AEC) which is expected to form the basis for the advise. In addition, manycandidates had problems in the lay-out of their solutions and also failed to use thecorrect present value.

Candidates are advised to practise with questions on similar topic during theirpreparations for the Institute‟s examinations. They should also endeavour to prepare

adequately before sitting for the examinations. The pathfinder and the institute studypacks are strongly recommended for use by candidates.

QUESTION 6

(a) (i) Operational planning is concerned with how a specific function oroperation contributes to the achievement of the department‟s corporatepriorities and defence tasks. It is required of Senior Managers who aretasked with a functional or horizontal responsibility to be well grounded

in operational planning.

(ii) Tactical planning is a continuous process of decision making about theaccomplishment of outcomes such as what products will be produced,how success is measured and evaluated and how budgetary resourcesare allocated. It is a process of developing detailed short–term decisionabout what is to be done, who is to do it and how it is to be done. It is aMiddle Level Management responsibility.

(iii) Strategic planning is the process of developing and maintaining strategicfit between the organization‟s goals and capabilities and its changing

market opportunities. It involves defining a clear company mission,setting supporting objectives, designing a sound business portfolio, andcoordinating functional strategies. It is Top Level Management‟s responsibility.



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(b) (i) The functions of the Central Securities Clearing System (CSCS) Include: Serving as a central depository for share certificates of companies

quoted on the Nigerian Stock Exchange;

Serving as a sub-registry for all quoted securities in conjunction withregistrars of quoted companies;

Issuing Central Securities identification numbers to stockbrokers andinvestors;

Clearing and settlement of stock market transactions; and

Safe keeping / custodian of local and foreign instruments.

(ii) Functions of the Securities and Exchange Commission (SEC) include:

Determining the amount, timing and pricing of securities to be issued

in the market;

Registering all securities to be traded in the capital market;

Promoting and protecting the integrity of the securities market

against abuses arising from insider trading practices;

Auditing the books of companies and other dealing institutions in the

stock exchange.

Registering all the stock exchange dealers; and

Determining the basis for allotment of securities in the public offer to

ensure a wide spread of ownership.

EXAMINERS‟ REPORT

Part „c‟ of the question tests candidates‟ knowledge of the differences between

strategic, tactical and operational planning under corporate strategy. The „b‟ part testscandidates‟ knowledge of the functions of one of the key participants in the moneyand capital markets. – Securities and Exchange Commission (SEC). In addition, it tests



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candidates‟ knowledge of emerging issues in the stock market with particularreference to the Central Securities Clearing System (CSCS).Many candidates attempted the question and performance was average. Majority ofthe candidates understood the „a‟ part of the question but the „b‟ part was not wellunderstood. Functions of the Securities and Exchange Commission (SEC) were confused

for the functions of the Central Securities Clearing Systems CSCS.

Candidates‟ commonest pitfalls were their inadequate knowledge of CSCS hence themix up in the functions of CSCS and SEC in the part „b‟ of the question. In addition,some of the candidates did not understand the meaning of the three planningconcepts stated in the question and were therefore unable to give satisfactoryexplanation of each.

Candidates are advised to read wide, and in depth for better result. They should notlimit themselves to reading only textbooks but extend their readings to include

business journals, magazines, newspapers and write-ups on the stock exchange andalso familiarize themselves with current development and terminologies for betterresult.



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ICAN/102/F/4 EXAMINATION NO.............................


ADVANCED TAXATION


SECTION A Attempt all questions

PART I MULTIPLE-CHOICE QUESTIONS (20 MARKS)

1. Under the Personal Income Tax Acts CAP P8 LFN 2004, what is the period ofassessment for income tax purposes?

A. 12 months from 1 AprilB. 12 months from 1 JanuaryC. 12 months from 1 JulyD. 12 months from 30 SeptemberE. 12 months from 31 December

2. Which Government Agency is responsible for the administration of the ValueAdded Tax in Nigeria?

A. Federal Inland Revenue ServiceB. Directorate of Value Added TaxC. Federal Ministry of Finance

D. State Inland Revenue ServiceE. Federal Ministry of Justice

3. How is the legislation currently regulating Company‟s Income Tax in Nigeria captioned?

A. Company‟s Income Tax Act 1990, as amendedB. Finance Miscellaneous Taxation ProvisionsC. Federal Inland Revenue BoardD. Companies Income Tax Act CAP C21 LFN 2004

E. Personal Income Tax Act



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4. Who bears the cost of an appeal brought before the Tax Appeal Tribunal?

A. The Tax AuditorsB. The Legal Practitioners

C. Each Party to the AppealD. The Tax AuthorityE. The Tax Consultants

5. Which of the following statements is applicable to the grant of fulltax relief period(s) to a Pioneer Company?

A. Two periods of two years eachB. One period of two years followed by one period of one yearC. One period of three years followed by one period of two years

D. One period of two years followed by another period of two yearsE. Two periods of one year each

6. What is the tax at specified rate on dividends, rents, royalties and interestreceived as well as payments for contracts of supply executed called?

A. Chargeable taxB. Assessable taxC. Adjusted taxD. Withholding tax

E. Value Added tax

7. Which of the following is the correct assessable profit subjected to Education Tax?

A. Adjusted profit after giving effect to loss relief, balancing charge andcapital allowance

B. Adjusted profit before giving effect to loss relief, balancing charge butafter capital allowance

C. Adjusted profit before giving effect to loss relief, balancing charge andcapital allowance

D. Adjusted profit after giving effect to only loss reliefE. Adjusted profit after giving effect to only balancing allowance and loss

relief.



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8. The assessable profit of Praise Limited for the tax year 2009 was N7.5 Million, with N10 million Loss Relief and N10 million balancing charge. What is theeducation tax payable?

A. N110,000

B. N130,000C. N145,000D. N150,000E. N90,000

9. Which of these is an Indirect Tax?

A. Value Added Tax

B. Capital Gains Tax

C. Education Tax

D. Companies Income TaxE. Personal Income Tax

10. Which of the following is an attribute of a good tax system?

A. Universality

B. Directability

C. Indirectability

D. Effectability

E. Reversibility

11. Which of the following is NOT a Capital Allowance?

A. Annual Allowance

B. Personal Allowance

C. Investment Allowance

D. Initial Allowance

E. Balancing Allowance



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12 Which of the following is NOT a duty of the Joint Tax Board?

A. To settle disputes among the States as regards tax matters

B. To enforce compliance with Federal Government Revenue matters

C. To promote uniformity both in the application and incidence of theprovision of tax laws on individuals throughout the country

D. To settle disputes among States with regards to residence and remittance

E. To advise the government on request in respect of double taxation

arrangement, rates of capital allowances and other tax matters

13. Which of the following is NOT a condition for granting capital allowances?

A. The claimant must have incurred qualifying capital expenditure

B. The claimant must remain the beneficial owner of the assets at the end of

the basis period

C. The qualifying capital expenditure must be in use mainly for the purpose

of business of the claimant

D. The qualifying capital expenditure must have been in use for at least two

years

E. The qualifying capital expenditure must have been in use during the

basis period

14. On which of the following is education tax computed in line with the provisions

of Income Tax Act Cap C21 LFN 2004?

A. Chargeable income

B. Assessable profit

C. Adjusted profit

D. Earned income

E. Unearned income

15. Which of the following is an objective of taxation?

A. To raise money for Government officialsB. To raise money for Projects onlyC. To exercise control on Indiv iduals‟ expenses D. To redistribute Income and Wealth of the Citizens



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E. To raise money for States and Federal Inland Revenue Service

16 Which of the following is NOT true for data entry in Excel when applying samefor tax computations?

A. Values may be calculated with the use of formulasB. Data can be calculated accuratelyC. Information is displayed visuallyD. Cell can contain only valuesE. Labels are text headings

17 Which of the following is a member of the Federal Inland Revenue ServiceBoard?

A. The Registrar General of the Corporate Affairs Commission or his

representativeB. The Auditor General of Nigeria or his representativeC. The Accountant General of Nigeria or his representativeD. The Secretary of the Joint Tax BoardE. A Director in the Federal Budget office

18 What is the due date for filing Annual Tax Returns to Federal Inland RevenueService by an ongoing business?

A. Eighteen months from the company‟s accounting year end

B. Six months from the company‟s accounting year end C. Fi ve months from the company‟s accounting year end D. Seven months from the company‟s accounting year end E. 31December of the year following the year of accounts

19 What is the Principal Place of Residence of a Partner for tax purposes?

A. Where he sleeps regularly during the assessment yearB. His state of origin as at January of the assessment yearC. His employment address as at 1 January of the assessment year

D. His place of birth as at 1 January of the assessment yearE. The place in which he resides at 1 January of an assessment year



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20. Which of the following is true of withholding tax?

A. It can be used as offset against education tax liabilityB. It can be used as offset against back year liability

C. It is an advance payment of tax which is deducted at sourceD. It is a tax on contract regarded as final taxE. It is an amount paid to suppliers by Non-Governmental Organisations

PART II SHORT-ANSWER QUESTIONS (20 Marks)

1. An allowable expense under Petroleum Profit Tax Act Cap P13 LFN 2004, whichis also a form of tax is called........................

2. What is the tax imposed on companies that fail to commence business after six

months of incorporation?

3. What is the percentage of tax payable available as rebate to a company whichfiled a self assessment?

4. Conscious refusal to pay tax by committing a criminal act such as making falsereturns to the tax office is called ……………….

5. What tax is due on gains made on the disposal of chargeable assets?

6. Which body is charged with the responsibility for imposing and collectingPetroleum Profit Tax in Nigeria?

7. The day when a company‟s pioneer status is deemed to commence is called…………….

8. Under Capital Gains Tax CAP CI LFN 2004, what is claimable when the salesproceeds have been fully re-invested in the replacement of assets for thepurpose of the company‟s business?

9.

When a new firm or business is exempted from the burden of income tax for aperiod of time, such firm or business is said to be on …………………………



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10. An International Treaty set up by the United Nations to prevent fiscal evasion oftaxes on income and capital goods between countries iscalled………………………….

11. An advance payment on account to be applied as tax credit to settle the income

tax liability of the year to which the income that suffered the deduction relates,is called………………………

12. If a firm of tax consultants was paid an amount of N450,000 by a client, what was the gross fee payable?

13. Further to Question 12, what is the Withholding Tax deducted?

14. Which principle of taxation provides that those with the same level of incomeshould pay the same amount of tax?

15. The enabling Law for the Federal Inland Revenue Service Board (FIRSB) iscalled …………………

16. What is the punishment for an offence by any person who obstructs or hindersan officer of the Federal Inland Revenue Service in the performance of his/herduties?

17. For a newly incorporated company, due date for filing its first tax returns is………….. months after its accounting year end or ……………… months from

the date of incorporation, whichever is earlier.

18. The two types of tax audit embarked upon by the Federal Inland RevenueService are …………. and …………...

19. The tax payers‟ conscious efforts which involve anticipating a set ofcircumstances and the identification of opportunities to minimize or defer taxliabilities within the law is referred to as ………………..

20. Under the Personal Income Tax Act, CAP P8, LFN 2004, any individual that does

not have a permanent principal place of residence in a year of assessment isreferred to as an ………………….



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SECTION B - ATTEMPT QUESTION ONE AND ANY OTHER THREE (60 MARKS)

CASE STUDY

QUESTION 1

STAPLES LIMITED

Staples Limited is a company engaged in the manufacturing and importation ofcertain raw materials. The finished products are sold to wholesalers and some todesignated large organizations.

During the course of the audit, it was discovered that the company did not register for Value Added Tax (VAT). The Managing Director complained that an additional charge

of 5% on his company‟s products, will make them non competitive with similarproducts in the market.

Most of his customers also deduct withholding tax from their invoiced values whenmaking payments.

Required:

As the tax consultant to the company, advise the Managing Director on:a) The procedure for registration and penalties for non – compliance with the

provisions of Value Added Tax Cap V1 LFN 2004. (7 Marks)b) The differences between Withholding Tax and Value Added Tax. (8 Marks)

(Total 15 marks)QUESTION 2

(a) In accordance with the provisions of Personal Income Tax Act, CAP P8, LFN2004, who are the Members of:(i) Joint State Revenue Committee; and(ii) Local Government Revenue Committee? (6 Marks)

(b) State FIVE merits of the withholding tax system. (5 Marks)

(c) List the stages in a typical tax audit process. (4 Marks)(Total 15 Marks)



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QUESTION 3

(a) Mrs. Bestfeed has been on active employment as Secretary of a Company since1978 and is now preparing for her retirement. Apart from her employmentemolument, Mrs. Bestfeed runs a private Cybercafé (an enterprise) on

weekends.

Her income from various sources in recent years are as follows:

2009N

Annual Basic Salary 3,200,000

Annual Transport Allowance 320,000

Annual Housing Allowance 640,000

Annual Leave Bonus 740,000

Overtime 274,000

Benefits in kind (Airtime) 95,000

Annual Meal Subsidy 32,000

Entertainment & Utility allowance 64,000

Other Income

Net Interest on Deposits (2008) 162,000

Net Interest on Deposits (2009) 154,800

Net Rental Income (2008) 225,000

Net Rental Income (2009) 234,000

Adjusted Profit from Cybercafé in 2008 was N925,000 and Capital Allowancescomputed for the business amounted to N716,000.

Mrs. Bestfeed is a widow with three children in Private Universities, with totalschool fees payment of N1,250,500 per annum. She also maintains her twoaged brothers up to N155,000 per annum and pays N120,000 as annualmortgage repayment on her personal building, plus an approved pension



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contribution of 71 / 2% of her total annual basic salary, transport and housingallowances.

Required:

Compute Mrs. Bestfeed Chargeable Income and Tax Payable for 2009 Year ofAssessment. (11 Marks)

(b) (i) What is a Double Taxation Treaty? (2 Marks)

(ii) Explain the relief available to a Nigerian Company, which has paid taxon a profit upon which Commonwealth Income Tax has been paid.

(2 Marks)(Total 15 Marks)

QUESTION 4

(a) Domboshawa Airlines and Logistics Limited, a Zimbabwean Company, wasduly registered in Hutinre after the country‟s independence in 1980. Thecompany is fully involved in the business of transporting passengers andgoods to and from Nigeria since 1997. It has the following operationaldetails for the year ended 31 October 2008.

NOperating Income from passenger tickets from Lagos Airport 28,524,000Operating Income from passenger tickets from Abuja Airport 17,293,000Income from goods loaded into aircraft from Lagos

and Abuja Airports 26,460,000Income from passenger tickets outside Nigeria 203,160,000Income from goods loaded into aircraft outside Nigeria 74,110,000

The following expenses were debited to Profitand Loss Account for the period:

- Provision for depreciation 22,990,000- Administrative and marketing expenses 46,200,000- Operation Staff Salaries 123,920,000- Provision for bad debts (General) 6,997,000

- Fines paid to Federal Airport Authorities .31,500,000



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Required:

Using the information given above, compute;

(i) The Adjusted Profit of Domboshawa Airlines and Logistics Limited forthe year ended 31 October 2008. (5 marks)

(ii) the Nigerian Income tax liability using the current Nigerian Tax ratesfor the relevant year of assessment. (5 marks)

(b) Toluwalase Enterprises Limited had 31 May as its accounting date. Thecompany is contemplating on changing its Accounting year end to coincide withthe Government year end of 31 December.

You are required to state steps to be followed in determining the AssessableProfits, if the change is eventually effected. (5 marks)

(Total 15 Marks)

QUESTION 5

(a) Mention any FIVE categories of Instruments that could become subject of StampDuties under the Stamp Duties Act CAP S8 LFN 2004. (5 marks)

(b) MELTDOWN CONSTRUCTION LIMITED purchased a bulldozer on hire purchase on

1 February 2007 and paid a sum of N28,500,000 as a deposit on the purchaseprice.

The cash price of the bulldozer at the time of purchase was N45,000,000, butMeltdown Construction Limited was allowed to pay the balance in twentymonthly instalments of N1,000,000 each with effect from 1 March 2007.

You are required to calculate the Capital Gains Tax for the relevant year ofassessment, assuming that the bulldozer was sold for:

(i) N48,400,000 after the payment of instalment on 3 December,

2007. (5 marks)(ii) N49,600,000 after the payment of instalment on 5 September,2008. (5 marks)

(Total 15 Marks)



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QUESTION 6

Ofuobi Nigeria Plc, a large multinational entity, has four (4) subsidiaries which are

engaged in the following distinct businesses – Pharmaceuticals, Telecommunications,Petroleum operations (Extraction) and Agricultural production.

The Group Managing Director has approached you to find a permanent solution to therecurring problems which the organization is facing regarding tax compliance issues.He is keen on having in place a system of monitoring regular/prompt compliance bythe Group.

You are aware that each of the subsidiaries has well staffed Finance Department butnot so for the Holding Company.

You believe that the solution to the Group Managing Director‟s problems rests in thesetting up of a Computer Department/Unit within the Group‟s Head Office.

Required:

What are the Key Data/Issues to be maintained by the Department/Units?(15 Marks)

TAX RATES1. CAPITAL ALLOWANCES

Initial AnnualOffice Equipment 50 25Motor Vehicles 50 25Office Building 15 10Furniture & Fittings 25 20Industrial Building 15 10Non-Industrial Building 15 10Plant and Machinery – Agricultural

Production 95 NIL– Others 50 25



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2. INVESTMENT ALLOWANCE 10%

3. TAX – FREE ALLOWANCE:

Maximum Per YearN

Rent 150,000 Transport 20,000Utility 10,000Meal Subsidy 5,000Entertainment 6,000Leave 10% of Annual Basic Salary

4. PERSONAL INCOME TAX RELIEFS / ALLOWANCES

(a) Personal Allowance – N5,000 plus 20% of Earned Income(b) Children Allowance – N2,500 per annum per unmarried child

subject to a maximum of four children.

(c) Dependent Relative – N2,000 each(d) Disabled Persons – N5,000 or 10% of Earned Income (which ever is

higher)(e) Life Assurance – Actual Premium paid

5. RATES OF PERSONAL INCOME TAX:Taxable Income Rate of TaxN %

First 30,000 5Next 30,000 10Next 50,000 15Next 50,000 20Over 160,000 25

Note: Annual income of N30,000 and below is exempted from tax but a

minimum tax of 0.5% will be charged on the total income.

6. COMPANIES INCOME TAX RATE 30%7. EDUCATION TAX 2%



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8. CAPITAL GAINS TAX 10%9. VALUE ADDED TAX 5%10. WITHHOLDING TAXES

Type of payment Rates Rates

(Companies) (Non- corporate)Dividend, Interest, Rent 10% 10%Royalties 15% 15%Contract supplies 5% 5%Building construction activities 5% 5%Consultancy/Professional services 10% 5%Management services 10% 5%Commissions 10% 5%

Technical services 10% 5%Directors fees 10% 10%



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PART I MULTIPLE-CHOICE QUESTIONS

1. B

2. A

3. D

4. C

5. C

6. D

7. C

8. D

9. A

10. A

11. B

12. B

13. D

14. B

15. D

16. D

17. A

18. B

19. C

20. C



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Tutorial

8. 2/100 x N7,500,000 = N150,000

NOTE:

The balancing charge and the loss relief are not relevant to the calculation.

EXAMINERS‟ REPORT

The questions test various areas of the syllabus.

Candidates‟ performance was generally above average.

Candidates are advised to continue to read all areas of the syllabus.



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1. education Tax.

2.

Pre-Operational levy.3. The rebate was 1% before the relevant section was repealed in 2007.

4. tax evasion.

5. Capital Gains Tax.

6. Federal Inland Revenue Service.

7. production day.

8. Roll-over relief.

9. Tax holiday.

10. Double taxation agreement.

11. Withholding tax.

12. N450,000.

13. N22,500.

14. Canon of horizontal equity.

15. The Federal Inland Revenue Service (Establishment) Act, 2007.

16. A fine of N200,000 or an imprisonment of up to three years or both fine andimprisonment.

17. six; or within eighteen.

18. Desk, field audits.

19. tax planning.

20. itinerant worker.



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Tutorials:

12. The payment of N450,000 includes 5% VAT, hence 5% of N450,000 = N22,500.

The element of fee in the payment to the Consultants = N427,500. ie N450,000– N22,500.

The client in paying the N427,500 must have deducted 5% withholding tax fromthe fee.

Therefore N427,500 = 95% of the fee Then 100% = 100/95 x N427,500

= N450,000

13. Since the element of fee in Q12 is N427,500, this must have suffered withholding tax of 5%.

Therefore, Withholding Tax = N450,000 – N427,500 = N22,500.

EXAMINERS‟ REPORT

The questions test all areas of the syllabus.

All the candidates attempted the questions and performance was well above average.

The few candidates that performed poorly in this area are advised to study harder.



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SOLUTION TO SECTION B

QUESTION 1 CASE STUDY

(a) The Managing Director,Staples Limited,Ikeja

Dear SirOur review of your tax affairs revealed that your company is yet to register with theFederal Inland Revenue Service (FIRS) for Value Added Tax purpose.

Please be informed that the provisions of the VAT Act Cap VI LFN 2004 requires taxablepersons to register for VAT purpose within six months of incorporating the business.

Find below the steps to be taken to register your company for VAT.

(i) the company should write a letter of application for registration.(ii) Obtain the Vat application form (VAT from 001) from the tax office.(iii) complete the form by supplying the following information:

- The full name of your company;- Registered/business address;- Company incorporation number: and- Date of incorporation.

(iv) commencement date, nature of business/services to be rendered.(v) signature and stamp (bearing the company ‟s name) in the relevant sections ofthe application form by the officers of the company.

(vi) file the application form together with photocopy of the certificate ofincorporation.

(vii) Obtain a Tax Identification Number (TIN) after the Federal Inland RevenueService official must have confirmed the receipt of the VAT application andsighted the original Certificate of Incorporation.

As vatable person engaged in taxable supplies, you are required to quote the TIN on

all your correspondences with the Federal Inland Revenue Service (FIRS), on all yourinvoices, charge VAT at rate of 5% and file monthly VAT returns within 21 days afterthe end of every month

The penalties for not complying with Vat provisions include;



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(i) a fine of N10,000.00 for the first month for not registering and N5,000.00 for

each month the failure continues.

(ii) a fine of N5,000.00 for every month for not filing Vat returns.

(iii) a fine of 150% plus 5% interest above the CBN rediscount rate for failure tocharge VAT on taxable supplies/services.

(b) DIFFERENCES BETWEEN WITHHOLDING TAX (WHT) AND VALUE ADDED TAX (VAT)Withholding Tax (WHT) is an advance payment of Income Tax and the purpose is tobring the tax payer to the tax net thereby widening the income tax base. In other

words, the WHT system is used to track down tax payers and their incomes, whichmay otherwise not be reported by them.

When income on which WHT is deducted at source is finally brought to the notice of

the tax authority and the appropriate tax is computed, credit is given for WHTdeducted at source on the presentation of the original Withholding Tax receipts.

The tax payer will be required to pay only the balance of the tax due after thedetermination of the final tax liability and the grant of credits for the WHT suffered atsource. Withholding Tax is nothing more than a collection machinery designed tocurb tax evasion. It is not a separate tax on its own.

Value Added Tax (VAT) on the other hand, is a consumption tax, payable on the goodsand services consumed by any person whether government agencies, businessorganizations or individuals. The target of VAT is consumption of goods and servicesand unless an item is specifically exempted by law, the consumer is liable to the tax.

With the above explanations coupled with the discussions we had in your office, webelieve you will have no hesitation in completing the forms attached to this letter.

We shall be in your office tomorrow to collect the completed forms to enable us file forregistration in the appropriate VAT office of the Federal Inland Revenue Service(FIRS). You will please attach a copy of your Certificate of Incorporation. The FederalInland Revenue Service (FIRS) will, however, require to sight the original. Pleaseleave the original Certificate and the completed forms with your secretary. We shallendeavour to return same before close of business.



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Should you require further clarifications, please do not hesitate to contact us.

Yours faithfully,

Akangba Jaje & Co.Consultants.

EXAMINERS‟REPORT

The question tests Value Added Tax, Withholding Tax and Professional opinion.Performance was below average.The major pitfall was that the candidates did not understand the question as aprofessional advice which requires a good knowledge of the provisions of VAT Act, and

Withholding Tax Act.Candidates are advised to prepare adequately for the Institute‟s examinations andunderstand the nitty gritty of the provisions of the various Acts, the professional dutiesof consultants to the clients and ways of writing professional opinion.

QUESTION 2

(a)(i) Members of the Joint State Revenue Committee are:- The Chairman of the State Internal Revenue Service who acts as

Chairman to the Committee;

- The Chairman of Local Government Revenue Committee;- A Representative of the Bureau of Local Government Affairs, not belowthe rank of Director;

- A Representative of the Revenue Mobilisation Allocation and FiscalCommission (as Observer);

- State Sector Commander of Federal Road Safety Commission (FRSC) as anObserver; and

- Legal Adviser of the State Internal Revenue Service; The Secretary to the Committee – a staff of the State Internal RevenueService. (The secretary is not a member of the committee).

(ii) Members of the Local Government Revenue Committee are:- The Supervisor for Finance as the Chairman;

- Three Local Government Councilors as Members; and



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- Two other persons experienced in Revenue matters to benominated by the Chairman of the Local Government on theirpersonal merits.

(b) Merits of Withholding Tax System include;

(i) helping to broaden the tax base by bringing many people into the taxnet.

(ii) making tax payment less cumbersome to the tax payer who may not haveto border themselves going to the Revenue office to perform their civicduty.

(iii) bringing obscure transactions to the notice of the tax authorities, thusincreasing tax yield.

(iv) reducing the incidence of tax evasion.

(v) ensuring a regular inflow of tax revenue to coffers of the variousgovernments.

(vi) helping to educate the taxpayer as well as the collecting agents.(vii) enhancing voluntary tax compliance.

(c) Stages in Tax Audit Process include:

(i) Selection of the taxpayer to be audited;(ii) Preliminary review of the taxpayer‟s file;(iii) Notification of taxpayer;

(iv) Pre-audit meeting;(v) Field work;(vi) Post audit meeting;(vii) Interim audit report;(viii) Post audit review by regional/headquarter‟s audit unit;(ix) Reconciliation meetings; and(x) Final Audit Report;



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EXAMINERS‟ REPORT

The question tests candidates‟ knowledge of composition of Joint State RevenueCommittee and Local Government Revenue Committee, Withholding Tax and Tax AuditProcess.

Many candidates attempted the question and performance was below average.

It was evident that most candidates used residual knowledge by repeating all theylisted in one Committee in the other. Candidates exhibited scanty knowledge of TaxAudit Process.

Candidates are advised to get good grips of what a question requires as repeatingpoints in different requirements will not earn them any mark.

QUESTION 3

(a) MRS BESTFEEDINCOME TAX COMPUTATIONS

FOR 2009 YEAR OF ASSESSMENTN N

EARNED INCOMEEmployment Income:- Annual Basic Salary 3,200,000- Annual Transport Allowance 320,000- Annual Housing Allowance 640,000- Annual Leave Bonus 740,000

- Overtime 274,000- Benefit in kind (Airtime) 95,000- Annual Meal Subsidy 32,000- Entertainment & Utility Allowance 64,000

5,365,000 Trading Income (PYB)- Profit from Cybercafé 925,000Capital Allowances Restricted (W1) (616,667)

308,333 TOTAL EARNED INCOME 5,673,333

UNEARNED INCOME2009 Gross Interest on Deposits (W2) 172,0002009 Gross Rental Income (W3) 260,000



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WORKING NOTES

W1 Capital Allowances: N Capital Allowance available 716,000

C/A Restricted to 662 / 3 of N925,000 (616,667)Unabsorbed C/A C/Fwd 99,333

W22009 Gross Dividend = 100 / 90 x

162,000 / 1 = N180,000 W/Tax on Dividend = N180,000 – N162,000 = 18,000

W32009 Gross Rental Income = 100 / 90 x

225,000 / 1 = N250,000 W/Tax on Rent = N250,000 – N225,000 = N25,000

W4 Pension Contribution:N

Annual Basic Salary 3,200,000

Annual Transport Allowance 320,000Annual Housing Allowance 640,000Gross Salary 4,160,000 Pension Contribution @ 7½% N 312,000

W5 Allowable Leave BonusRestricted to 10% of Annual Basic SalaryOf N3,200,000 = 10 / 100 of N3,200,000

= N320,000 (b)

(i) Double Taxation Treaty: A double taxation treaty is a bilateral agreement aimed at affordingrelief from double taxation, by exempting certain classes of income fromone or other of the territories which are parties to such agreement.

(ii) Commonwealth Relief to a Nigerian Company:



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Where a Nigerian Company (Resident Taxpayer) has paid tax on a profit,upon which Commonwealth Income Tax has been paid; such company

will be entitled to relief as follows:

If the Commonwealth Rate of Tax (CRT) does not exceed one half of the

Nigerian Rate of Tax (NRT), the rate at which relief is to be given shall bethe Commonwealth Rate of Tax (CRT).

That is:If CRT < ½ NRT; Relief = CRT.

In any other case, the rate at which relief is to be given shall be one halfof Nigerian Rate of Tax (NRT).

That is:If CRT > ½ NRT; Relief = ½ NRT

EXAMINERS‟ REPORT

The question tests knowledge of Personal Income Tax, with regards to earned Income,unearned Income, disallowable expenses, reliefs, grossing up of Interest Income andcalculation of Tax Due.

Many candidates attempted the question but performance was average.Candidates could not segregate earned Income from unearned Income, and statutorytotal income. Candidates‟ knowledge of Double Taxation Treaty and Commonwealth

Reliefs was scanty.

Candidates are advised to work harder before sitting for the Institute‟s examinations,especially a question that deals on practical daily occurrences of Personal Income Taxshould be a point of interest to them.



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QUESTION 4

(a) (i)DOMBOSHAWA AIRLINE AND LOGISTICS LIMITED

COMPUTATIONS OF ADJUSTED PROFITFOR THE YEAR ENDED 31 OCTOBER, 2008

N NNIGERIAN INCOME

Operating Income fromLagos Passengers tickets 28,524,000

Operating Income from

Abuja Passengers tickets 17,293,000

Income from Goods on Lagosand Abuja rate 26,460,000

72,277,000

INCOME FROM OTHER ROUTEIncome from Passengers ticketsoutside Nigeria 203,160,000

Income from Goods loadedoutside Nigeria 74,110,000277,270,000

GLOBAL INCOME 349,547,000

Allowable ExpensesAdministrative & Marketing 46,200,000Operation Staff Salaries 123,920,000

(170,120,000)ADJUSTED PROFIT 179,427,000



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(ii) DOMBOSHAWA AIRLINE AND LOGISTICS LIMITEDINCOME TAX LIABILITYFOR 2009 ASSESSMENT

Adjusted Profit Ratio

= Adjusted Profit x 100Global Income

= 179,427,000 x 100349,547,000

= 51.33 Depreciation Ratio

= Depreciation x 100Global Income

= 22,990,000 x 100349,547,000

= 6.58 Capital Allowance

= Depreciation Rate x Nigerian Income= N6.58% x 72,277,000= N4,755,827

N NNigerian Adjusted Profit 72,277,000.00

Capital Allowances

For the year 4,755,827.00Relieved(Restricted to 66.67% of N72,277,000)

= 48,184,667 limited to (4,755,827.00)-

Taxable Profit 67,521,173.00

Income Tax Liability thereon @ 30% 20,256,352.00

WORKING NOTES

The following expenses are disallowed for tax purpose under CITA, CAP C18, LFN 2004: Depreciation of N22,990,000 General Bad Debts Provision of N6,997,000



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Fines paid to Federal Airport Authorities N1,500,000.Note:

Only specific bad debts are allowable for tax purpose.(b) Steps to be followed in determining Assessable Profit for Change of Accounting

Date

(i) Determine the year in which the change occurs. The year of change isthat which the company fails to make up its accounts based on the olddate.

(ii) Determine the first three discretionary years commencing from the first year determined in (i) above.

(iii) Calculate the assessable profits for the three discretionary years on theold accounting date basis.

(iv) Calculate the assessable profit for the three discretionary years on thenew accounting date basis.

(v) It is the practice of the Federal Inland Revenue Service to choose the

higher of (iii) and (iv) above.

EXAMINERS‟ REPORT

The „a‟ part of the question tests candidates‟ knowledge of Taxation on foreign airoperation with respect to transportation of passengers and goods to and from Nigeria,while the „b‟ part tests candidates‟ knowledge of change of accounting date.Less than 75 of the candidates attempted this question and performance was belowaverage.Candidates did not understand the calculation of adjusted Profit ratio, the

depreciation ratio and the use of depreciation ratio in calculating capital allowances.Candidates are advised not to relegate any part of the syllabus to the background.They need to have adequate knowledge of all parts of the syllabus.

QUESTION 5

(a) Categories of Instruments subject to Stamp Duties under the Stamp Duties Act,

CAP S8, LFN 2004 include:

1. Agreements;

2. Appraisement;

3. Bank Notes, Bills of Exchange and Promissory Notes;

4. Bills of Exchange;



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5. Bills of Lading;

6. Contract Notes;

7. Conveyances on sale and other conveyances;

8. Duplicates and Counterparts;9. Exchange, Partition or Division;

10. Leases;

11. Letters or Power of Attorney and Voting Powers;

12. Marketable Securities;

13. Mortgages;

14. Notarial Acts;

15. Policies of Insurance;

16. Receipts;

17. Settlements;

18. Share Warrants;

19. Warrants for Good; and

20. Share Capital of Companies.

21. Documents requiring postage stamp: and

22. Transactions in the Capital Market.

(b) (i) MELTDOWN CONSTRUCTION LIMITEDCOMPUTATIONS OF CAPITAL GAINS TAX

FOR 2007 YEAR OF ASSESSMENT

N N N

Sales Proceed of Bulldozer 48,400,000

Cost of Bulldozer

Deposit Paid 28,500,000



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Instalments Paid(10 months @ N1,000,000 each) 10,000,000

Interest Portion paid (W2) (1,750,000)8,250,000

(36,750,000)

Chargeable Gains 11,650,000Capital Gains Tax thereon @ 10% 1,165,000

(ii)MELTDOWN CONSTRUCTION LIMITED

COMPUTATIONS OF CAPITAL GAINS TAXFOR 2008 YEAR OF ASSESSMENT

N N N

Sales Proceed of Bulldozer 49,600,000

Cost of Bulldozer

Deposit Paid 28,500,000

Instalments Paid(19 months @ N1m each) 19,000,000

Less Interest Portion paid (W3) (3,325,000) 15,675,000

(44,175,000)Chargeable Gains 5,425,000Capital Gains Tax thereon @ 10% 542,500

WORKING NOTES

(W1) Calculation of Hire Purchase Interest

N Hire Purchase Price:- Deposit (1/2/2007) 28,500,000- 20 Instalments Payable



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(March 2007 to October 2008)@ N1,000,000 per month 20,000,000

48,500,000

Cash Price 45,000,000)

Hire Purchase Interest for 20 months 3,500,000

(W2) Calculation of Hire Purchase Interest up to 1/12/2007

Hire Purchase Interest Payable N3,500,000

Hire Purchase Interest at the timeof Disposal – 3/12/2007

N3,500,000 x 1020 N1,750,000

(W3) Calculation of Hire Purchase Interest up to 1/10/2008Hire Purchase Interest for 19 monthsat the time of Disposal (i.e. 5/9/2008)

= N175,000 x 19months N3,325,000

EXAMINERS‟ REPORT

The question tests candidates‟ knowledge of instruments subject to Stamp Duties andHire Purchase installments in Capital Gain Tax.

Many candidates attempted the question, but performance was very poor.Majority of the candidates did more of guess work in listing the instruments that couldbecome subject of Stamp Duties in the „a‟ part of the question. The „b‟ part wascompletely misunderstood by majority of the candidates.

Candidates are advised to study adequately with the aim of having basic knowledge ofthese areas of the syllabus.



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QUESTION 6

KEY DATA AND ISSUES INVOLVED IN INSTALLING A GOOD COMPUTERISED TAXCOMPLIANCE MONITORING SYSTEM IN THE GROUP‟S HEAD OFFICE

In view of the desire of the Group Managing Director in finding a permanent solutionto the problems encountered in monitoring regular and prompt compliance with taxissues by the Group, it is recommended as follows:

HARDWARE

An Information Technology (IT) consultant and other members of the steeringcommittee should be appointed to supervise the selection and purchase of appropriatecomputer hardware for installation.

SOFTWARE

Compatible software should also be purchased that will network all modules for easeof preparation of monthly report and meeting all recurrent obligations including Taxmatters.

ISSUES

(a) The new process will provide data of what constitutes income for tax purposesfor each subsidiary. When correctly done, VAT resulting from turnover will be

ascertained,

(b) Detailed records of all purchases especially to capture input VAT incurred onpurchases,

(c) Details of Fixed Assets and calculation of monthly depreciation.

(d) Details of allowances and reliefs claimable for Agricultural and PetroleumOperations. Also, other details of allowable expenses in all the variousdepartments in accordance with the Companies Income Tax Act Cap C21 LFN

2004 and Value Added Tax Cap VI LFN 2004 should be contained in the system.

(e) Due dates for filing annual tax returns, monthly Value Added Tax Returns and

monthly Pay As You Earn (PAYE) returns.



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ICAN/ EXAMINATION NO..............................

THE INSTITUTE OF CHARTERED ACCOUNTANTS OF NIGERIA PROFESSIONAL EXAMINATION ll - NOVEMBER 2010

PUBLIC SECTOR ACCOUNTS AND FINANCE


SECTION A: Attempt All Questions

PART I MULTIPLE-CHOICE QUESTIONS (20 Marks)

1. Which of the following is the biggest revenue source in recent times in Nigeria?

A. Companies Income Tax.

B.

Education Tax.C. Capital Gains Tax.D. Petroleum Profits Tax.E. Import/Excise Duties.

2. Which of the following is NOT an example of “financing activities” in thepreparation of government accounting cash flow statement?

A. Proceeds from loans.B. Proceeds from the sale of assets.C. Proceeds from bank overdraft.

D. Dividends received.E. Repayment of loans.

3. Into which account are the proceeds of the PAYE of the Armed Forces, PoliceForces, Foreign Service officers and Residents of the Federal Capital Territorypaid?

A. Special Fund Account.B. Development Fund Account.C. Contingency Fund Account.

D.

Federation Account.E. Consolidated Revenue Fund Account.



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4. Which Warrant is expected to be in operation for a maximum of six months oruntil the budget has been approved?

A. Supplementary (Contingency) Warrant.B. Annual General Warrant.

C. Provisional General Warrant.D. Supplementary General Warrant.E. Supplementary (Statutory Expenditure) Warrant.

5. For which of the following will corporations NOT obtain the approval of theSupervising Ministry?

A. The budget.B. Signing of foreign agreement.C. Payment of staff monthly salaries.D. The bye laws.E. Increasing the price of its goods and services.

6. The main objective of government is to

A. provide adequate welfare.B. stabilize balance of trade.C. increase its expenditure.D. reduce its income.E. determine supply.

7. Which of the following statutory officers does NOT have his salaries andconsolidated allowances chargeable directly to the Consolidated Revenue Fund?

A. Commissioner of the Police Service Commission.B. Accountant – General of the Federation.C. Chairman Code of Conduct Bureau.D. Chief Judge of the Federal Court of Appeal.E. Chairman Federal Character Commission.

8. Which of the following standards sets out the requirements for financialreporting by governments and other related public sector organizations?

A. International Government Accounting Standards.B. International Accounting Standards.C. International Public Sector Accounting Standards.



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D. International Financial Reporting Standards.E. Government Accounting, Auditing and Financial Reporting Standards.

9. To which of the following can any officer found guilty of the contravention ofany of the provisions of the Code of Conduct Tribunal appeal?

A. Magistrate Court.B. Court of Appeal.C. Supreme Court.D. Federal High Court.E. State High Court.

10. Which of the following is a „not-for-profit‟ entity expected to prepare?

A. Trading and Profit and Loss Account.

B. Balance Sheet.C. Value Added Statement.D. Cash Flow Statement.E. Income and Expenditure Account.

11. Which of the following ratios does not indicate the working capital of aparastatal?

A. Current ratio.B. Quick ratio.C. Gearing ratio.D. Debtors‟ payment period.E. Creditors‟ payment period.

12. Which of the following is a disadvantage of payback period method ofinvestment appraisal?

A. It is a measure of liquidity.B. It is used as a safeguard against risk.C. It is not difficult to calculate and understand.D. It does not consider the time value of money.

E. It serves as a useful screen to evaluate projects.



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13. Which of the following is NOT a Memorandum Accounts Book inGovernment?

A. Departmental Vote Expenditure Allocation Book.B. Dishonoured Cheques Register.

C. Paper Money Register.D. Cash Book.E. Cheque Summary Register.

14. Which of the following entries records the purchase of sodium chloride, for cash,by Atuma State Water Corporation?

A. Debit Materials Account, Credit Goods AccountB. Debit Cash Account, Credit Goods Account

C.

Debit Materials Account, Credit cash AccountD. Debit Cash Account, Credit Purchases AccountE. Debit Materials Account, Credit Stock Account.

15. What is the budgeting technique which requires every item ofexpenditure to be justified as if the activity or programme is takingoff for the first time?

A. Incremental budgeting.B. Line item budgeting.C. „Zero-base‟ budgeting.

D. Planning, programming and budgeting system.E. Performance budgeting.

16. What is the revenue allocation principle which requires that the States from which the bulk of revenue is generated should receive an extra share aboveother States?

A. Derivation.B. Generation.C. Even development.

D.

National interest.E. Independent revenue.



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17. Which of the following fiscal policy measures can help to protect infantindustries?

A. Increase in Value-Added Tax rateB. Increase in import duties.

C. Increase in export duties.D. Increase in excise duties.E. Reduction in subsidies.

18. Which of the following is NOT an instrument of government‟s domesticborrowing?

A. Treasury Bills.B. Treasury Certificates.C. Bill of exchange.D. Government Development Stocks.E. Revenue Bonds.

19. Which of the following international financial institutions grants balance ofpayments support facilities to countries in need?

A. London Club of Creditors.B. Paris Club of Creditors.C. The World Bank.D. International Monetary Fund.E. African Development Bank.

20. Which of the following is an instrument of fiscal policy?

A. Discount rate.B. Open Market Operation.C. Reserve requirements.D. Government expenditure.E. Selective credit control.



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PART I SHORT-ANSWER QUESTIONS (20 Marks)

1. The sourcing of the cash requirements of a public sector organization and theeffective application of same in such manner that projects are executed

unhindered is known as_______________________

2. A summary of total receipts and payments as posted in the cash book of a self-accounting unit is called______________________

3. A debt for which no fund has been set up and whose maturity period is short isknown as________________________

4. The supervision of the activities of a government entity with the authority andresponsibility to control or exercise significant influence over the financial and

operating decisions of the organization is called_____________________

5. The method adopted where the implementation of a project is to be acceleratedis known as_____________________

6. Evidence that a contractor or supplier has performed its obligation under aprocurement contract up to a level stipulated but not implying completion iscalled___________________

7. Under the Fiscal Responsibility Act of 2007, the projected amount expected to

be utilized in granting tax reliefs, tax holidays and tax concessionsis_____________

8. Not later than ninety days following the end of each year, the distribution fromthe Federation Account shall be rendered to both Houses of National Assemblyby the _____________________

9. The sharing of revenue among the States of the Federation is called____________

10. A non-statutory discretional assistance from the Federal Government to a State

which is not tied to a particular project is a ____________

11. The use of taxation and public expenditure by the government to influenceaggregate economic activities is called ____________



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establishment of an Internal Audit Department as a panacea to curb, correct and arrestthe collapse of the “internal control.”

The unit was eventually established in December, 2008. In addition to the normalroutine assignments of the unit, it was mandated as a matter of urgency, to review the

financial statements of the hospital for the period, 1 January to 31 December, 2008, which the external auditor will work upon in April, 2009.

The Internal Audit unit submitted a comprehensive interim report covering theoperations in the following departments: Finance/Accounts, Stores, Pharmacy andGeneral Out-patients. The report was catalogue of woes, disaster, colossal losses,misappropriations, etc. Extracts from the report are highlighted below:

(i) The losses and shortages in all the units visited were colossal because of theobvious “worn out controls” in the hospital;

(ii) The records in all the stores, especially the Main/Central Store wereinadequately and wrongly prepared. Records were kept in arrears of five to sixmonths. More than 80% of the physical items identified in the stores had nobearing to their store records;

(iii) The only attempt at “stock taking” ever done was in mid – 2008 by the storespersonnel and there were no acceptable records of the exercise;

(iv) Items received into the Main/Central store for which payments were made hadtheir “invoices” and “goods received notes” not processed in the store;

(v) Issues from the stores were not rightly executed; nearly every issue was done inhurry and for emergency sake;

(vi) Fixed assets, particularly/motor vehicles, accident vehicles, generators,intensive care equipment, X-ray equipment etc, could not be ascertained withaccuracy. There was no fixed assets register.

(vii) Cash count at the Treasury and all cash points were non-existent. There werebank reconciliation statements on four out of the eleven operated. These bankreconciliation statements were haphazardly prepared, hence they weremisleading;

(viii) Less than 60% of the cash takings in the hospital in the last three months hadbeen banked and the balance had been used to grant advances and pay staffsalary/wage. Cash records were in arrears for over four months and three of the



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seven cashiers had absconded with the hospital‟s fund and a principal officer inthe Treasury is missing; and

(ix) There was a long list of unsettled cash advances and cheque exchange, most of which were not properly authorized. Despite the seriousness of this action,

management did not take appropriate disciplinary action against the cashiers. The internal audit department was worried over the situation and had advisedthe management of the hospital to call for a “Board of Enquiry” or “LossesCommittee” to ascertain and recover the colossal losses and shortages.

You are required to:

(a) State the TWO types of losses incurred in this hospital.(2 marks)

(b) State any FOUR major likely causes of the colossal losses in this hospital.(4 marks)

(c ) In line with the provisions of the Financial Regulations, 2006, is the „LossesCommittee‟ the more appropriate in this situation then the „Board of Enquiry‟?

(2marks)(d) State any FIVE issues to be considered before setting up a „Board of Inquiry‟.

(5marks)(e) Give any TWO reasons why cheque exchange and/or cash advance is considered

a serious offence. (2 marks)(Total 15 marks)

QUESTION 2

Ireakari Local Government is considering projects A and B which have the followingcash flows:

Year 0 1 2 3 4 5Cash flows A (N) 1,300 250 750 400 150 100

B (N) 1,200 400 500 600 600 300

Required:

(a) Use the table above to compute the Net Present Value (NPV) of the two projects,given that the cost of capital is 15%. All calculations to 2 decimal places.

(11 Marks)



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(b) Advise the government on which of the projects to undertake and give reasonsfor your answer. (4 Marks)

(Total 15 Marks)

QUESTION 3

Confluence Local Government is considering embarking on an investment and hasbeen presented with the following three alternatives:

EL EM ENN‟000 N‟000 N‟000

Initial Cash OutlayResidual Value

15,0001,000

20,0001,000

20,0001,000

EL EM EN N‟000 N‟000 N‟000

Yr 1 6,000 10,000 1,000 Yr 2 7,000 10,000 6,000 Yr 3 8,000 1,000 10,000 Yr 4 9,000 1,000 20,000

Assume that the projects are mutually exclusive.

You are required to advise the Council on the most viable project, using

(a) Payback period; and (5marks)(b) Accounting Rate of Return, methods. (10 marks)

(Total 15 Marks)

QUESTION 4

The following transactions were anticipated by the office of the Accountant-General ofFalcun Federation for the year ended 31 December 2009:

N(million)

Revenue Anticipated:Import duties 35,000Export duties 118,000Excise duties-Local companies 1,875,000



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(iv) The balance in the Federation Account as at 31 December, 2008 was N1,800billion.


(a) Prepare the Federation Account Statement as at 31 December, 2009 anddistribute same, based on the existing revenue sharing formula, viz:

Federal 48.6 per centStates 24.0 per centLocal Governments 20.0 per centSpecial Fund 7.5 per cent (5 ½ marks)

(b) Prepare the Consolidated Revenue Fund for Falcun Federation for the periodunder review, in accordance with the provisions of the Finance (Control andManagement) Act 1958 (as Amended) (9 ½ marks)

(Total 15 marks)QUESTION 5

(a) We have various users of Public Sector Accounting information. State any THREEinternal users and any THREE external users of the information.(6 Marks)

(b) State six differences between Government Accounting and Private SectorAccounting. (9 Marks)

(Total 15 Marks)

QUESTION 6RIVER BASIN AUTHORITY, OLUOKUN STATE

INCOME AND EXPENDITURE ACCOUNTS FOR THE YEAR ENDED 31 DECEMBER, 2009N N

Gross Income 41, 100, 000Costs incurred

Salaries and Pension 15,000,000

Purchase of weed control chemical 3,600,000Depreciation (tractors, etc) 2,000,000Lubricants and Oil 1,600,100



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Purchase of stationery 1,100,100Utility (water, light, etc) 500,000 (23,800,200)

17,299,800

Interest due

Bank loan 1,040,000Agric bank loan 2,960,000 (4,000,000)Surplus realized onOrdinary operations 13,299,800Surplus for last year b/f 9,500,200Surplus carried forward 22,800,000


(a) Prepare the Value Added Statement for the year ended 31 December, 2009;(10 marks)

(b) Briefly differentiate between “Value-Added” and“Value Added Statement.” (5 marks)

(Total 15 marks)


PART l MULTIPLE CHOICE QUESTIONS1. D

2. B3. E4. C5. D6. A7. B8. C9. B10. E11. C12. D13. C14. C15. A



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16. B17. C18. D19. D20. D

EXAMINERS‟ REPORT

The questions have a good spread and adequately cover the two aspects of thesyllabus – the public sector accounts and public finance. The candidates performedcreditably well.


1. Cash control.

2. Transcript.3. Floating debt.

4. Oversight.

5. Selective or Limited Tender procedure.

6. Interim Performance Certificate.

7. Tax Expenditure Projections.

8. Accountant-General.

9. Horizontal Revenue Allocation/Horizontal Distribution.

10. General or Non-matching grant.

11. Fiscal policy.12. Tax base.

13. Externalities.

14. Rolling plan15. Revenue Mobilization Allocation and Fiscal Commission (RMAFC).

16. Capitalism/Capitalist Economy/Free Enterprise/Market Economy/System/Liassez-

faire.

17. Derivation, Even development, Need, National interest, Equality of

states, Independent Revenue, Population

18. Progressive.

19. Unfunded.

20. Indirect.



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EXAMINERS‟ REPORT

The short answer questions test the various aspects of the syllabus. Candidates‟performance was generally above average, an indication that they were generallyexposed to the various aspects of the syllabus. Candidates can still improve by

familiarizing themselves with new principles, concepts and technical terms related tothis subject.


QUESTION 1

CASE STUDY

Two types of losses in the hospital are:

(a) (i) Loss of stores; and(ii) Loss or shortages of funds.

(b) Likely major causes of losses include:

i) Poor or weak internal control.ii) Inadequate record keeping of essential books.iii) Lack of sound stores control and management.iv) Obvious non-existence of cash and bank operation control.

v) Non-existence of the required controls on fixed assets. vi) Poor staffing, putting a “square peg in a round hole” and no standard

organizational set up. vii) Delayed introduction of the Internal Audit Department; viii) The hospital was hurriedly commissioned without any plan, rules and

regulations to guide its operations; andix) Non-adequate consideration of the external auditors‟ recommendations.

(c) The “Board of Enquiry ” is more appropriate/applicable here

(d) The Board of Enquiry should be set up If

i) fraud is probable;ii) the loss is substantial;iii) several officers are involved;



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iv) the responsibility of officers is not clearly defined; v) the loss took place over a period of time; and vi) collution is suspected.

(e) Cheque exchange and/or cash advance is considered a serious offence because it

i) is a veritable tool for fraud;ii) could be used to conceal the true position of case on hand;iii) is a good example of „teeming and lading;iv) may impair the liquidity position of the hospital; and

v) deprives an organization the use of its resources.

EXAMINERS‟ REPORT

The question tests candidates‟ understanding of some aspects of treasury procedures

on loss of funds and stores, and internal control system in a public institution.Candidates are expected to demonstrate familiarity with the provisions of the FinancialRegulations (2006).

All the candidates attempted the question. The general performance was average.There was a clear indication that candidates did not have proper understanding of theFinancial Regulations relating to the issues that were tested in the question.Candidates are advised to always take some time to understand case studies beforeattempting the questions. It is also necessary for candidates to familiarize themselveswith Financial Regulations and other relevant publications.

QUESTION 2

(a) IREAKARI LOCAL GOVERNMENT PROJECTS EVALUATION

PROJECTA

PROJECT B

Year DiscountingFactor

(N)

Cash flows(N)

Values

(N)15%

0 1.00 (1,300) (1,300) (1,200) (1,200)1 0.87 250 217.50 400 348.002 1.76 750 570.00 500 380.00



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3 1.66 400 264.00 600 396.004 1.57 150 85.50 600 342.005 1.50 100 50.00 300 150.00

(113.00) 416.00

Formula:

NPV

whereA − cash flowr − cost of capital (15%)C − initial outlayt − time

NPVA = N (− 1,300 + 1,187) = N − 113.00

NPVB = N (− 1,200 + 1,616) = N 416.00

(b) Based on the above calculations, Ireakari local government should embark onproject B because it gives a positive Net Present Value (NPV) of N416.00. Thismeans that project B is more viable as its investment value obtained is higherthan its outlay.

DISCOUNT TABLE

DISCOUNT TABLE Year DF 15%0 1.0001 0.86962 0.75613 0.65754 0.57185 0.4972

EXAMINERS‟ REPORT

This is a straightforward question on public project appraisal. It requires candidates‟ability to calculate the Net Present Value (NPV) and determine the viability orotherwise of a project, based on expected cash flows.



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Majority of the candidates attempted the questions and the performance was quiteimpressive. However, a few of the candidates approximated their calculations to morethan two decimal places, contrary to the requirements of the question and they lost

valuable marks.

Candidates are advised to follow strictly the requirements of questions as given.

QUESTION 3

CONFLUENCE LOCAL GOVERNMENT

(i) Payback periodEL EM EN N „000 N „000 N „000

Initial Cash Outlay 15,000 20,000 20,000

Less: Yr 1 inflow 6,000 10,000 1,0009,000 10,000 19,000

Less: Yr 2 inflow 7,000 10,000 6,0002,000 - 13,000

Less: Yr 3 inflow 8,000 - 10,000- - 3,000

Less: Yr 4 inflow - - 20,000- - -

Payback Period for EL is 2 years + (2000/8000*12) = 2 years, 3 months.Payback Period for EM is 2years.

Payback Period for EN is 3 years + (3000/20000*12) = 3 years, 2 months.



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ADVICE

From the above, Project EM should be chosen because it has the shortest paybackperiod.

(ii) Accounting Rate of ReturnEL EM EN N(000) N(000) N 000)

Annual Profit

Yr 1 6,000 10,000 1,000 Yr 2 7,000 10,000 6,000 Yr 3 8,000 1,000 10,000 Yr 4 9,000 1,000 20,000

Total profit 30,000 22,000 37,000No of yrs 4 4 4

Average Annual N 7,500 N 5,500 N 9,250Accounting Profit

Average Investment =

EL EM EN N(000) N(000) N(000)

Cash Outflow 15,000 20,000 20,000Residual Value 1,000 1,000 1,000

Total 16,000 21,000 21,0002 2 2

Averageinvestment

N8,000 N10,500 N10,500

ARR =

7,500 5,500 9,250

8,000 10,500 10,500

0.937 0.523 0.881

Q 94% 52% 88%



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ADVICE

From the above, Project EL should be selected as it yields the highest accountingrate of return of 94%.

EXAMINERS‟ REPORT

This is a question on investment criteria applied to public sector projects. It testscandidates understanding of the criteria of payback and accounting rate of returnmethods in project evaluation. Using these criteria, candidates are expected toappraise economic viability of the three projects and advise the Council accordingly.

The question was very popular as over four-fifths of the candidates demonstrated goodunderstanding of the appraisal methods.

QUESTION 4

FALCON FEDERATION

Federation Account Statement As At December 31, 2009N million N million

Balance b/f – 1/1/2009 1,800,000Import duties 28,000Export duties 94,400Excise duties – Local 1,500,000

Petroleum Profit Tax 500,400Capital Gains Tax 69,600Royalty on oil 720,000Crude oil sales 600,000Companies income tax 60,000 3,572,400

5,372,400

Sharing: % N million

Federal48.5 2,605,614

States 24.0 1,289,376Local Governments 20.0 1,074,480Special fund 7.5 402,930

5,4005,372,400



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b). FALCON FEDERATION

Consolidated Revenue Fund as at 31 December, 2009N million N million

Balance b/f – 1/1/2009 850,725Issues from contingency 1,750

Transfer to contingency (1,365) 385Revenue (1/1/09-W(i) 3,729,846

Expenditure (1/1/09-31/12/09) W (ii)

1,790,625 1,939,221

Transfer to developmentFund

(318,750)

Balance as at31.12.2009

2,471,581

Notes/Workings:

i) These are the revenues items accruing to Falcun State alone, viz

N millionPersonal income tax:Military 56,000Foreign Affairs Ministry 28,000Residents of FCT 36,280Quarrying licenses 34,320Medical fees 77,232

Visa fees 52,400Repayment of loan by localgovernments 584,000Rent on government land 180,000Overpayment recoverable 76,000Federation Account -Allocation 2,605,614

To Consolidated Revenue Fund 3,729,846

ii) The summary of overhead costs anticipated, limited to 75%:

N millionEstablishment cost 605,625Personnel cost 950,625



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Special expenditure 234,375 To Consolidated Revenue Fund 1,790,625

EXAMINER‟S REPORT

The question tests candidates‟ knowledge of the preparation of the Federation AccountStatement and the Consolidated Revenue Fund (CRF) Account.

The performance, however, was below average. The candidates did not have properunderstanding of the question. Most of them did apply the operating condition of 80%of budgeted revenue realizable and 75% of expenditure incurable as stated in thequestion. Another common pitfall was the expression of naira value in „thousands‟ orordinary naira value, instead of Naira value in Millions.

Candidates are advised to always take note of instructions in questions and be mindfulof correct interpretation of same. They should also avail themselves of valuable andrelevant materials contained in Study Packs and Pathfinders of the Institute.

QUESTION 5

(a) The following are the internal users of government accounting information andtheir uses:

Internal

a. The trade union

b. The employee

c. The Administrator in the ministry

d. The Management in the Ministry

e. The subordinates who are given with control

External Users

These are those who use Government Financial information that are not prepare within

their Department, e.g.

a. Members of the legislature and selected committees of the houses.



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b. Government other than the reporting government e.g. State and LocalGovernments.

c. Researchers and representative of the media.d. The general public.e. Sectional groups in the population e.g. Political Parties, Human Right

Groups etc.f. Foreign interest like Paris Club, London Club etc.g. Regional Organization e.g. EU, ECOWAS, etc.h. Rating Agencies e.g. Flitch.

Tutorials on Internal Users

a. They use it to agitate for better welfare of staff increase in salary.b. They use it to argue or agitate for increase in salary.c. They use it for planning and control.

d. They use it for planning and control.e. They use it to execute government.

(b) Comparison Of Government Accounting And Private Sector Accounting

S/NO Differences Public PrivateI Objectives Provision of adequate

welfare services atreasonable cost.

To maximise profit.

ii Accounting Basis The government records

its financial transactionson cash basis.

The private sector

records are shown onaccrual basis.

iii Income/Revenue Revenue is from membersof the public in form oftaxation, custom duties,etc.

Income is from thesales of goods andservices.

iv Treatment of cost ofFixed Assets

Written off immediatelyafter purchase andpayment.

The costs are spreadover the estimateduseful life of the fixedassets.

v. Accountability /Responsibility The government isprimarily responsible tothe citizenry.

Business/private entityis responsible to theshareholders.



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vi. Exclusion principleon provision ofgoods and services

Benefit does not matchcontribution. Services arerendered irrespective ofthe contributions of thosebenefitting from them.

Goods and servicesdepend on how muchis paid.

vii. Formation Comes in various forms.Ministries, parastatals;they have their EnablingActs.

Incorporatedcompanies arecontrolled by CAMA1990 and regulated byCAC.

viii Auditing Accounts are audited bythe Auditor- Generalthrough the approvedExternal Auditors.

Accounts are auditedby approved ExternalAuditors.

Ix Accounting Fund accounting is

adopted.

Proprietary approach

is preferred. x Efficiency Measured by services

rendered.Measured by profits,capital appreciation,etc.

Xi Treatment ofDividend

Dividends are notpaid/declared toshareholders.

Dividends are oftendeclared/paid toshareholders.

Xii AGM No AGM of stakeholders AGM is held inconformity with CAMA(as amended).

EXAMINERS‟ REPORT

The question is on the uses of public sector accounting information and also testscandidates‟ knowledge of the differences between Government Accounting and PrivateSector Accounting.

Majority of the candidates attempted the question and the overall performance wasabove average. The candidates demonstrated fair understanding of the question. Amajor pitfall was the inability of candidates to identify what constitutes the major

technical differences between the two forms of accounting. Those issues identified bythe candidates in most cases did not bring out the differences so clearly.



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Candidates should endeavour to read wide and desist from resorting to residualknowledge in answering examination questions. Study packs and Pathfinder of theInstitute should be consulted for better understanding and performance.



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QUESTION 6

(a) RIVER BASIN AUTHORITY, OLUOKUN STATEVALUE ADDED STATEMENT FOR THE YEAR ENDED 31 DEC, 2009

N‟000 % Turnover 41,100,000Less: Budget in goods andservices

6,800,200

Value Added fromOperations and OtherIncome

34,299,800

Add Other Income -

Less Other Expenses - Total Value Added 34,299,800 100.00

Applied as follows:Employees 15,000,000 43.73Government (Tax) - -Providers of Capital 4,000,000 11.66Provision for growth andexpansion

15,299,800 44.61

TOTAL VALUE DISTRIBUTED 34,299,800 100.00

Notes to the Account Bought-in-goods andservicesPurchase of weed controlchemical

3,600,000

Lubricant and oil 1,600,100Purchase of Stationery 1,100,100Utility (Water, light, etc) 500,000

6,800,200Providers of Capital

Interest on Bank Loan 1,040,000Interest on Agric. Bank Loan 2,960,000

4,000,000Provision for Growth and



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Expansion

Depreciation Charges 2,000,000Surplus realized on ordinary

operation13,299,800

15,299,800Employees Salaries & Pension 15,000,000

(b). Value Added is the wealth created by the combined efforts of both theorganization and its employees. It is the amount by which the sales value ofproduction was enhanced by the effort of the organization and its employees.

“Value Added Statement” is the information format prepared to show how theexcess of turnover over bought-in-materials and services, has been applied; toitems such as provisions for depreciation, employees, government and providers

of capital.

EXAMINERS‟ REPORT

The focus of the question is on “Value-Added” and “Value-Added Statement”.Candidates are expected to differentiate between them. They are also todemonstrate ability to prepare the Value-Added Statement from income andexpenditure account information.

Over 90% of the candidates attempted the question and the overall performance

was very good. Students demonstrated that they were familiar with publishedfinancial statements of companies as they applied suitable different formats forthe statement. However, the definition of “Value-Added” and “Value-AddedStatement” posed a great challenge to some of the candidates.

Candidates are advised to be familiar with technical terms of the subject bystudying relevant current text books, study packs and Pathfinder of theInstitute.



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ICAN/102/z/4 EXAMINATION NO.............................

THE INSTITUTE OF CHARTERED ACCOUNTANTS OF NIGERIA

PROFESSIONAL EXAMINATION III – NOVEMBER 2010

MULTI-DISCIPLINARY CASE STUDY


PROSPECT GROUP

PROSPECT PLC was founded in 1970, immediately after the Nigerian civil war asProspect Nig Enterprises. Later in 1990, to reflect the company‟s several acquisitionsand diversifications, the company‟s name was changed to Prospect Limited.

DECISION TO GO PUBLIC

By 2005, it was apparent to the company‟s management that further expansion wouldonly be possible with larger scale of operations which could be achieved by eitherraising capital from a public issue of shares or acquisitions or some kind of merger.

At the April 2005 management retreat, the senior management of Prospect Limiteddiscussed taking the company to the capital market for several reasons. The companyso formed would be a legal entity, its shares would be transferable. It would haveperpetual succession; that is, continuity despite changes among members. It would

have its own management and its memorandum and articles of association which,among other matters may limit its capacity to enter into binding contracts. Its affairs

will be regulated in considerable detail by the Companies and Allied Matters Acts 1990(CAMA) and other statutory and non-statutory regulations.

Management had no liquidity for its holdings and no market for its shares, therefore,there was a desire to create liquidity for its shares and allow management to diversifysome of its wealth. The management team, with an average age of less than fifty,

viewed going public as presenting challenges and additional experience.

In August 2005, Prospect Limited invited six Investment banks, that had expressedinterest in the offering to a „bake-off‟ (a competition where investment bankersattempt to sell their services to management). After their presentations, Detonic Bank

was chosen as the lead underwriter for PROSPECT Limited‟s offer. In October 2005, the



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prospectus and the underwriting agreement were issued. In the initial filings, thenominal value of the shares was fifty kobo per share, but the price was forecast to bebetween two and three naira per share. Detonic advised PROSPECT Ltd to reduce theprice to between one naira fifty kobo and two naira per share. The managementrefused and maintained that it should be at least two naira fifty kobo per share and

the original nominal value remained. A “road show” was arranged for theunderwriters and PROSPECT Ltd`s management to sell the issue to institutionalinvestors. After the closing of the share offer, the allotment was made as follows:management of old PROSPECT owned twenty seven percent, former owners ofPROSPECT PLC twenty percent and the balance of fifty three percent was owned by thepublic and before the multicity road show was completed, the offer wasoversubscribed three times. At the end of November 2005, the share was finally pricedat three naira. Even though Prospect was officially a public company at that point, itsshares were not officially traded until the deal was closed on 15 December 2005. Theshares began trading above the offering price and seemed to reach a barrier at seven

naira per share and took one dip to four naira, but by early February 2006 hadreached a high of nine naira before falling back to six naira fifty kobo at end of April2006.

NEW MANAGEMENT

In 2008 sales and profits of the group continued to decline, a trend that had been onsince 2006 and Chief Alatise Gbenga, the Group Chairman could no longer avoid theissue. He concluded that the best option was to go outside the company and bring in aprofessional manager with no direct ties with any of the directors or division and

management staff of PROSPECT PLC. In Chief Alatise‟s view, a housecleaning was inorder and special management talent was needed.

In November 2008, Mr. Kola Ikumawoyi joined PROSPECT Plc as Managing Director,Chief Alatise continued as Chairman of the Board. Mr Ikumawoyi was recruited from amajor competitor in the industrial distribution industry where he had served asExecutive Director. In view of the challenges facing PROSPECT Plc, Kola seemed to bethe ideal choice. In addition to his strong industry and marketing background, he alsohad a warm and outstanding personality and a very high level of energy andoptimism. As one student who interviewed him remarked, “His openness and candor

catches you off guard. You don‟t usually expect a Managing Director to be so open andhonest about issues”. Kola faced the additional challenge of attempting to correct PROSPECT PLC`Sproblems while still faced with the same old directors on the Board. Even though Chief



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Alatise was able to recruit Kola, the Managing Director did not always have a fullsupport of the Board, many of whom viewed him with skepticism. Kola promised thathe would be restructuring PROSPECT PLC`S top management by recruitingoutstanding individuals to provide a new leadership and a professional team to leadPROSPECT PLC`S turnaround.

Mallam Iwalesin Oladele was hired in January 2009 as Executive Director(Administration and Operations). Iwalesin was recruited from Coca-Cola Plc. In March,Ms Chika Ike was brought in as Executive Director (Marketing and CorporateDevelopment), Chika was in the consulting business and had served as Manager inSteakhouse Ltd and as Director in Kokumo Limited.

Richard Popoola joined the company in June from Ronky Communications, a Lagosbased advertising and public relations firm, to fill the position of Executive Director(Marketing Communications and Field Marketing Services) and Personal Assistant to

the Managing Director. Jerry Gbenga was brought in as manager in July, he had beenan Area Sales Manager for Toyota Motors and previously served as manager at

Thermocool Limited.

With the majority of the new management team in place during 2009, Kola began toembark on the quest to turn the company around and build comprehensive group. Themajor problems facing the new management team were:

(a) The company was not making any profit;(b) Divisions within the group were losing money and were overstaffed;

(c) No unit growth – divisions were declining;(d) No management strategies, goals or plans in place(e) No advertising(f) Image was old and faded;(g) Directors/managers were bottom line oriented with nothing being re-invested in

business.

To turn the organization around, Kola and his management team embarked on astrategy that encompassed three points:

(a)

attack problems concerning divisions and PROSPECT PLC`S image(b) improve marketing, inventory management and replace obsolete plant, and(c) improve communications.



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The key to attacking attitude problem centred on marketing and to be successful, anyplan depended on three critical issues

(1) The corporate and division owners are to “buy in” to it; (2) The plan had to be simple enough to be executed, and

(3) It had to provide visible evidence of working by improving profit for thedivision and group owners.

INTEGRATION/EXPANSION

Sola Nigeria Limited was engaged in electrical and fluid (mostly pumps) equipmentmaintenance and sales for mid-market size companies. In this regard, it wasrelatively capital intensive. Its most recent year-end financial statement reflectsrevenue of one hundred and twelve million Naira (N112m), operating income of

Twenty eight million Naira (N28m), depreciation of Seven million Naira (N7m), net

income after taxes of twelve million Naira (N12m), total assets of seventeen millionNaira (N17m), interest-bearing debt of fifty four million Naira (N54m) andshareholders‟ equity of forty million Naira (N40m).

Its cash position was negligible. The company has five million and six hundredthousand Naira (N5.6m) shares outstanding and its current share price is sixteenNaira.

The company has attracted the attention of Prospect Group, which was consideringacquiring Sola Nigeria Limited. Prospect Group and its investment banker believed

that by offering a premium of fifty per cent (50%), Sola Nigeria Limited could beacquired. At present, Sola Nigeria Limited‟s free cash flow (excluding interest on debt)is shown in appendix I.

Prospect Group believed that with synergy, it could grow its earnings before interestand taxes by twenty per cent (20%) for three years and then by twelve per cent (12%)for the next three years. At the same time, it believed it could hold capital expenditureand working capital additions to a combined increase (from the present eleven millionNaira (N11m) of only two million Naira (N2m) per year. At the end of six years,Prospect Group assumed that free cash flow would grow at five per cent (5%) per

annum into perpetuity. It also assumes that the cost of capital for such investment was fifteen per cent (15%). Comparable recently acquired companies had the medium valuation ratios shown in appendix II.



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In 2010, the management of Prospect is considering the closure of its internal printingdepartment. If the proposal sailed through the approval of next meeting of the Boardof Directors, the staff of the department were to be redeployed to other departments

within the group. The department prints all the company‟s publicity materials and italso carries out other printing jobs as required. An external firm offered to produce all

the company‟s printing requirements for a total cost of eighteen thousand Naira(N18,000) per month.

The internal printing department‟s cost includes the following: a total of one hundredand sixty thousand (160,000) sheets of customized paper were used each month, at acost of one hundred Naira (N100) per two thousand (2000) sheets. The contract forsupply of the paper required three months‟ notice of cancellation. The company didnot hold inventory of the best paper but any excess could be sold for the net price offorty Naira (N40) per two thousand (2,000) sheets, a total of four hundred (400) litresof fluorescent ink are used each month, at a cost of three Naira sixty kobo (N3.60) per

litre. The contract for supply of this ink requires one month‟s notice of cancellation.No inventory of ink was held but any excess could be sold for one Naira net per litre.Other paper and material costs amount to five thousand, seven hundred Naira(N5,700) per month, the printing machinery was rented for nine thousand Naira(N9,000) per month. It was operated for one hundred and twenty hours (120 hours)each month. The rental contract could be cancelled with two months‟ notice.

The two employees in the department were each paid twenty thousand Naira(N20,000) per month. The company had a no-redundancy policy which meant that theemployees were guaranteed employment even if the department closed. Overhead

cost for the printing department was as follows: Variable overheads were eight Nairaper machine hour. The variable overheads vary in direct proportion to the machinehours operated. Fixed overhead represents an apportionment of central overheads

which would not alter as a result of the printing department‟s closure.

ORGANISATION

The corporation was organized into six product groups (Appendix III & IV, Appendix IIIdescribes the organization chart and Appendix 2 describes the groups major products).All of the products benefited from well-known product trademarks and most of their

products were leaders in their market segments.

Prospect Plc was operated in a highly decentralized fashion. The product groups wereallowed considerable discretion in establishing and implementing the strategies



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appropriate to their areas of business. The primary central mechanisms employed byheadquarters were annual and quarterly reviews of budgets submitted from each ofthe divisions.

Each of the three divisions was headed by a General Manager, who were told that they

were expected to act as if they were the Managing Director of independent companies.Each division was regarded by Head Office as a profit centre and the performance ofeach divisional manager was evaluated on the basis of his profit performance.

PROSPECT Plc did not have a single unified accounting system that was used in all itsoperating units. This was due to the fact that PROSPECT Plc had acquired manycompanies over the years and the acquired companies were allowed to continue withmost of the elements of their accounting systems, even after they became part ofPROSPECT Plc. The accounting policies set at corporate Head Office tended to describeminimum reporting requirements and every general accounting policy rather than

detailed instructions that had to be followed, for example, the accounting policymanual specified that the operating units were to follow the full absorption method ofaccounting „whereby most fixed and variable costs are recognized in inventory andcost of sales accounting‟ but it did not provide further description as to how the fullabsorption method was to be accomplished.

In specific terms, each division was expected to achieve a net return on sales of atleast six percent. Operations were planned on an annual basis, linked to a financial

year end of December 31. Prior to the beginning of each financial year, divisionalmanagers were required to submit budgets showing the net profit, in excess of the six

per cent sales revenue, that they expect to earn. At this stage, adjustments were oftenmade to the budget as a result of consultation and negotiation between divisionalmanagers and Head Office. Once agreed, the budget formed the basis for evaluatingperformance in the ensuing year.

However, the Head Office required each division to maintain an elaborate budget andcontrol system. The following points summarize the budget and control system in eachdivision:

First, one, three, and five year budgets were prepared each year. Second, the

Executive Director overseeing the division looked for three and five years‟ budgets thatstretched the division‟s capabilities, that is, divisions were pushed to devise programsthat increased value. Three, these budgets were developed and approved first at thedivisional level, then by the Executive Director at the Head Office assigned to the



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division and then by Corporate Head Office. Four, every three months, the divisionmust reconcile actual performance to budget and write detailed reports on thecorporate actions taken.

Five, each Executive Director assigned to the division visited each division quarterly

for three days of meetings that involved extensive reviews of the budgets andoperating results. These meetings involved all the senior managers in the division. Six,divisional senior managers are neither compensated nor rewarded for meeting budgettargets. Rather, they were evaluated on their ability to develop new markets, solveshort-run problems, add value to their organization and to PROSPECT PLC, manageand motivate their subordinates. These performance evaluation criteria were quitesubjective, but the corporate Executive Director assigned to the division had a greatdeal of in-depth personal contact with each of the senior people in his or her divisionand were able to arrive at suitable performance evaluations.

Preparing for these meetings with the corporate Executive Directors and developingthe budgets requires the involvement of all the senior managers in the division, onemanager remarked “I‟d hate to see how much money we could be making if we didn‟thave to spend so much time in budget and financial review meetings”.

It turned out that PROSPECT PLC was not unique in the amount of senior managementtime spent on budgeting and financial reviews. A survey of large publicly quotedcompanies in Nigeria supports the PROSPECT PLC system. Researchers found thatinnovative firms in complex environments characterized by high uncertainty andchange used much more elaborate formal financial control (budgeting systems thandid firms in more stable, mature industries) innovative companies seemed to employ

more financial controls than less innovative companies.

CAPITAL INVESTMENT PROCEDURES AND FINANCING

Like most companies, Prospect Group had layered levels of approval with the largestbeing approved only by the Board of Directors, each division was charged withpreparing capital budgeting requests, item by item. Routine types of expenditurecould be lumped together. However, any major expenditure had to be documented asto expected cash flow, payback, internal rate of return and a qualitative assessment ofthe risk involved. These proposals were reviewed by the corporate analysis and

control office headed by Mrs. Lalupon Adedeogun while neither she nor her boss Mr.Phillip Azika had final authority, they made recommendations on each of the largerprojects.



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Projects fell into one of two categories: profit adding and profit sustaining. The profitadding projects were those where the cash flows could be estimated and discountedcash flow methods employed. The profit sustaining projects were those that did notprovide a measurable return. Rather, they were projects necessary to keep thebusiness going. For example, environment and health control certain corporate assets.

Approximately twenty per cent of the projects proposed and accepted in Naira volume were profit sustaining in nature. For profit-adding projects, the fifteen per cent (15%)required rate of return was used as the hurdle rate.

Projects that fell below this return simply were not sent forward. The use of thediscount rate was supplemented by the financial goal of achieving growth in sales andearnings per share without undue diminution in the quality of the earnings streams.

This objective was sufficiently “fuzzy” that most did not take cognizance of it in thecapital budgeting process. Rather, the fifteen per cent return was key variable. It wassimply assumed that if projects provided return in excess of this figure, they would

have given the company a continuing growth in “quality” earnings per share.

Overall, the company has a total debt-to-equity ratio of one point four five (1.45).However, much of the total debt is represented by accounts payable and accruals. Allborrowings are controlled at the corporate level, and there is no formal allocation ofdebt or equity funds to the individual divisions. Everything is captured in theminimum hurdle rate of fifteen per cent (15%). However, some of the divisions arecharacterized by having to undertake a number of lease contracts in order to expandtheir division and departments within the division.

While the required rate of return of the company once represented a blending of debtand equity financing, this no longer was the case. In recent years, it has beenadjusted on a subjective basis, in keeping with returns earned by competitors in theindustry, Prospect Group has little difficulty financing itself; it enjoyed a highinvestment rating by many financial institutions in Nigeria. It also has ample lines ofcredit with prominent financial institutions.

Mr. Phillip Azika‟s office was charged with determining what would happen if thecompany moved from a single required rate of return to multiple hurdle rates. Hisgroup focused in using external market valuations for the required rate of return of the

various divisions. For debt capital, it proposed using the company‟s overall rate of

interest on bonds. In early 2009, the rate was approximately ten per cent. Thecompany fixed a tax rate of approximately forty per cent (40%).



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For the required return on equity capital, the study group used the capital assetpricing model (CAPM). In this context, the measure of risk in beta, the co-variability ofa stock‟s return with that of the overall market as represented by Nigerian StockExchange stock index.

The return on equity is simplyRs = Ri (Rm – Rf ) β j

Where: Rs = Return of the equity, Ri = Return on Security,Rm = Return on the market portfolioRf is the risk free rate and β j is the beta of security j.

In early 2009, three month Treasury Bills yielded approximately three point one percent (3.1%), three year treasury bills yielded approximately four point six per cent(4.6%) and long term treasury bills of five years yielded approximately five point fourper cent (5.4%). Mr. Azika‟s group proposed using five year Treasury rate as the risk -free rate in their calculations. Estimates by various Mortgage banks of the requiredreturn on the overall market portfolio of ordinary shares average eleven per cent inearly 2009.

Mr. Azika and his staff proposed the use of proxy or “pure play” companies, that is,companies that were closely identified with the business of the division, but that hadpublicly traded her shares. After extensive study, Mr. Azika and his staff proposed thelist of companies shown in appendix V. For industry products for division, there werea reasonable number of proxy companies. This was not the case for mining division orthe automotive division. Unfortunately, for the automotive division, some of the larger

companies were divisions of multi-division companies. In particular, Jacet Limited was part of Jacet International and could not be differentiated from the miningdivision. Some of the largest mining companies are either government owned orprivately owned, so that they do not appear in the sample. However, the study groupfelt that the proxy companies were representatives and that the summary information

was useful. For the betas, the group proposed using a simple average for eachcategory of proxy companies. This meant a beta of zero point nine eight (0.98) formining products, zero point eight two (0.82) for automotive and one point two seven(1.27) for industrial products.

Concerning debts employed to get blended costs of capital, Prospect Group recentlyestablished a target long-term liabilities to capitalization ratio of forty per cent (40%).Capitalization consisted of all long-term liabilities (including the current portion oflong term debt), plus shareholders‟ equity. The target of forty per cent (40%) was



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somewhat higher than existing ratio. For capital expenditure purposes, the recentfinancing vehicles were felt to be long-term liabilities and equity, not short-term debt,payables and accruals.

The mining division and the automotive divisions did not need that much in debt

funds, as their internal cash flows were sufficient to finance most capital expenditure(the mining division uses short-term debt to carry inventories). Originally, Mr. Azikaproposed that for calculation purposes, these two divisions have long-term liability tocapitalization ratio of zero point three five (0.35). Given the growth rate in demandsof the industrial product division, he proposed that this division have a ratio of zeropoint four five (0.45). The representative of the industrial products division objectedto this percentage, claiming that it should be higher. When Mr. Azogwu, the Director ofthe industrial products division learned of this, he went directly to Mr. Azika and Mrs.Adedoyin. He claimed that if the industrial division were to stand alone, it couldcommand a ratio of at least zero point six zero (0.60) based on its real estate value, in

order to have a debt-ratio consistent with the main aggressive companies in theindustry.

Mr. Azogwu threatened to take the matter directly to Mr. Kola Ikumawoyi, the GroupManaging Director, unless he got his way. Eventually, Mr. Azogwu and Mr. Azikastruck a compromise and agreed to a long-term liability to capitalization ratio of zeropoint five zero (0.50) for the industrial products division. To accommodate this change

within the overall capital structure objectives of the group, Mr. Azika cut the miningdivision ratios to zero point three zero (0.30).

In order to allow for profit-sustaining projects, Mr. Azika proposed grossing up thedivisional required returns with twenty per cent (20%) of the projects on average beingprofit-sustaining which were presumed to have a zero per cent expected return, the“gross up” multiplier was one point two five (1.25), that is, if a division were found tohave an overall after-tax required return of nine point six per cent (9.6%), it would begrossed up to be twelve per cent (12%) i.e. 9.6% (1.25) = 12%.

As profit-sustaining projects were a cost of doing business, profit-adding projects hadto earn enough to carry them. The simple gross-up was easiest to apply, and Mr. Azikaproposed that it be the same for all the divisions.

When Hajia Lemu Awawu, Deputy Group Managing Director and Financial Controller,Prospect Group, was talking with Mr. Azika, she reminded him that the question ofsimple versus simple required return was not resolved yet, therefore it would be useful



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INDUSTRIAL PRODUCTS DIVISION

In 2009, the court approved the scheme of reconstruction and recapitalization broughtto it by PROSPECT PLC relating to its industrial products distribution division. Thescheme was to take effect in January 2010. The draft balance sheet of the division is

set out in Appendix VI.

Particulars of the re-organization were as follows: The ordinary shares were to be written down to fifty kobo each; the preference dividend was three years in arrears,the preference shareholders were to waive their rights to these dividends and in return

were to choose whether they wish to convert their holdings to a new issue of nine percent cumulative preference shares or ordinary shares of fifty kobo each on a four toone basis. Fifty percent of the preference shareholders have elected to take this latteralternative.

The debentures were secured on the freehold buildings, the entire debenture beingheld by Trans Bank Plc. Arrears of debenture interest were to be paid at once. TransBank Plc agreed to conversion of the existing issue of debentures to a new issue withan interest rate of ten per cent and to take up a further ten million naira (10,000,000)of these debentures in view of the increased value of the collateral. The bank overdraft

would be repaid in full and amounts totaling twenty million naira (N20,000,000) would be paid to the trade creditors once.

The Directors would waive half of the loans owed to them while the balance would bemet by the issue to them of ordinary shares of fifty kobo each. Goodwill, deferred

development expenditure and the balance on the profit and loss account would be written off in full. Whilst plant would be revalued at eighteen million eight hundredand eleven thousand naira (N18,811,000). The land and buildings would be revaluedat fifty million naira (N50,000,000) and trade investment is to be sold for fifty millionnaira (N50,000,000). Sixteen million naira (N16,000,000) would be written off thestocks and provision of ten percent for doubtful debts would be made.

Globalization embodied integration of international markets for goods, services,technology, finance and to some extent labour, improves on the process of structuralchange, underpinned by transformation from an agricultural to an industrial economy,

with critical implication for growth, equity and poverty. In this context, structuraladjustment or liberalization policies, symbolizing measures to stimulate structuralchange by re-organising production, focus on shifting emphasis from national to theglobal market and forging closer interaction between the national (domestic) and the



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global economy. In fact, shrinking global economic frontiers have createdopportunities and opened new markets.

Dramatic reforms and remarkable economic recovery and growth in some developingcountries particularly in Latin America, South and East Africa have kindled foreign

interest and confidence, encouraging new investments and enabling domesticcompanies to access international equity capital directly as well as seeking listing onforeign stock markets. The 1990s was a decade of widespread policy reforms in manyemerging economies, a trend which has continued into the 2000s. Such policies, tradeliberalization, deregulation etc were common place.

The progress made by some emerging economies particularly in Africa has shown thatgood and consistent macro-economic policies impacted positively on investment flowsand the capital market. In essence, economic policy fundamentals must be right andstable to strengthen investors‟ confidence and stimulate participation in the economy.

Indeed, good and stable macro-economic policies aimed at reducing inflations to atolerable level, strengthening the local currency and bringing down public sectordeficit among others are beneficial, as foreign investors are usually concerned abouthigh rates of inflation which reduce investment value while depreciating localcurrency rate, thereby reducing foreign currency value of domestic investments.

Economic reforms in Nigeria and some African countries incorporated policies which were specifically aimed at improving the foreign investment climate. These includethe elimination of policies which discriminated against foreigners, simplification ofinvestment and remittance procedures, as well as the provision of special incentives

for foreign investors. To enhance the attractiveness of the local market many countriesincluding Nigeria also abolished capital gains taxes while withholding taxes werereduced and in a few cases abolished.

The adequacy and efficiency of social and economic infrastructure such as electricity,roads, water, communication facilities, transport, health care etc., are crucial todomestic and foreign direct investment. Countries with these facilities have thereforetended to attract more direct foreign investments than countries with inefficientinfrastructural facilities.

One fundamental issue which was addressed by emerging economies in the quest forforeign investment was the establishment of appropriate legal and regulatoryframeworks to achieve the most effective system of investor protection. The system ofprotection has to be such that ensures fairness, efficiency, transparency and to



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minimize abuses. Improvement in the quality of information about many emergingeconomies enhanced their transparency and stimulated foreign interest in them.

Political stability is one of the most crucial factors in ensuring economic and securitiesmarket development. Investors both domestic and foreign, understandably consider

the safety of their funds in deciding whether or not to invest or retain theirinvestments in any country. Political instability exposes investment to high risks andencourages capital flight and inhibits economic growth. Evidently, many emergingeconomies instituted economic reforms alongside political reform in the 2000s and aretoday important recipients of foreign investment capital.

It is well known that the foreign investment climate in Nigeria in the recent past hasnot been conducive leading to a spate of divestments even by the nation‟s traditionaland long standing investors, who have perhaps moved to more favourableenvironments. Although, more measures are desirable and are already being

considered by government to “win the hearts” of foreign investors into Nigeria, therepeal of the Exchange Control Act 1962 and the Nigerian Enterprises Promotion Act1989 are laudable and should be seen as the first step towards setting up a conduciveinvestment environment. There is no doubt that with the right economic and politicalclimate, Nigeria with its size, huge resources and vantage position in Africa, stands agood chance of attracting significant resource inflows and even serving as a “feeder”to less developed countries in the sub-region.

By the repeal of both Acts, the major restrictions to easy flow of foreign investmentshave been removed. Foreign investors can now access the Nigerian market fully and

freely without having to seek the approval of the Minister and without requiring alocal partner to do so. In effect, no distinction now exists between local and foreignentrepreneurs in respect of investments in the country as both classes of investors arenow treated equally.

With these and other restrictions removed, the country should ultimately witness animpressive flow of direct and portfolio investments.

Under sound and stable economic environment, foreign investments could flow in viathe following avenues:

(i) foreign firms establishing wholly owned subsidiaries or entering into joint ventures/partnerships with Nigerians firms;



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(ii) return of some traditional investors who have exited the Nigerian market;

(iii) commitment of new funds by existing foreign investors into enterprisesdomiciled in Nigeria

(iv) Investment in the Nigerian Stock Market, and

(v) domestic companies sourcing funds in the global capital market.

If the economic environment improves reasonably well, Nigeria‟s country risk ratingshould improve, which could in turn stimulate new capital inflows as confidence isrekindled.

Prospect Group used these challenges to its advantage by consolidating its presence inthe Western sub-region. Today, the company is looking globally, not merely into

exports but also for establishing manufacturing bases. The company is to commitcorporate resources in areas where it is or can become leaders. In the currentfinancial year, the company aims to make inroads into new markets, bothindependently and through strategic business alliances. Ghana and Angola units

would be operational in the current financial year. Cameroun, Sao Tome and Liberiaare some of the areas that the company will be focusing on in the future. Like in thepast, in the coming years too, the company will launch new products, strengthen andconsolidate existing markets.

Alongside this marketing thrust is a constant upgrading of manufacturing technology

and a commitment to research technology and development. It is however importantto sustain these catalysts of growth through dedicated manpower. To this, ProspectGroup attracts professionals of high caliber while constantly upgrading the skills andknowledge of existing employees. It is this optimum utilization of corporate resourcesat all levels that is sustaining the company‟s leadership profile.

The second phase of expansion and modernization has been completed successfullyduring the year. Manufacturing capacity, and expansion of projects have also beencompleted for products like reagents, chemicals, sprayers and DSM Agro. Totalinvestments in machines and land and buildings were N25.87 million and N11.65

million respectively. In Ikeja Industrial Estate, the second unit for manufacturing of apopular brand of the products has also been set up and production has commenced inthe current year.



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A new plant in Ikeja Industrial Estate is under construction for food processing to meetthe requirements of growing demand for popular fruit juices. An integrated facilityhas also been designed at Ilesa for the housewives range which was found to be verypopular and encouraging among consumers. At the same site, in Ilesa, a joint venturealong with Andex Nigeria Limited is being commissioned to extend the different range

of natural gum into profitable speciality products. Besides this, the company hassuccessfully launched many new products. These products have been well received inthe market.

Prospect Finance Limited, a subsidiary of the company has recorded an impressivegrowth of 168% in the profits during 2007-2008 and is actively pursuing the activitiesof leasing, hire purchase and investments. The company‟s industrial products divisionhad successfully launched its new range of products in 2006 and the products haveshown encouraging response from the market.

Growth in the demand of the products of the company in the Nigerian market issatisfactory, particularly, with the sale of chemical reagents among the range ofproducts. The turnover of the division recorded an impressive growth of 25%.

The company has an ambitious plan to extend their range of consumer products toinclude domestic products like shaving foam, hair creams, shampoos, variants ofherbal toothpaste. By adding these new products, the company hopes to achieve a35% growth in export to other West African countries. In this context, it may bepointed out that the Prospect Group has floated two companies: a manufacturing unitin Sierra Leone in the name of Prospect Limited and another company Prospect

International Limited in Liberia.

In Sierra Leone, Prospect Group has taken seventy six per cent (76%) equity and thebalance of twenty four per cent (24%) has already been contributed by Healey Limited,London.

The land for the manufacturing activity has been procured, the company hasappointed legal and liaison consultants and the construction of the factory building isin progress. The expected date of commencement of commercial production is April2011. The other company, Prospect International Limited is appraising the possibilityof setting up a pharmaceutical and bulk drug plant overseas either on its own or with

a collaborator. The company has successfully developed an anti cancer drug, namely,Lactuxel. The response to the drug in Nigeria and abroad is very encouraging. Thecompany therefore plans to set up a manufacturing facility for the product in Canadato cater for the US market. In this context, the company, entered into a joint venture



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agreement with Lawry International Limited, an affiliate of Lawry Incorporation, USA. The joint venture company will be named as Prosivough Incorporated with fifty percent (50%) equity holding by each collaborator. The commercial production atProsivough Incorporated is expected to commence in April 2011.

During the years 2008 and 2009, the sales at the West African sub-region markets hasbeen satisfactory. New markets were established in Sao Tome, Cameroun and Ghana.Further entry is planned for South Africa and Angola. The company has set up atrading office in Algeria with the necessary permission from the Government of theFederal Republic of Nigeria.

Prospect Gabon Limited, a joint venture subsidiary company set up in Gabon, in itssecond year of commercial production has completed the installation of the plant forthe extraction of the Texas baccatta leaves and will commence production shortly. Thecompany is in the process of implementing an expansion programme for

manufacturing of herbal toothpaste, shampoo and shaving cream. The company has been promoting research and development activities through theefforts of Prospect Foundation. The Prospect Foundation is gaining more and morerecognition because of the research work and successful completion of the researchprojects which have helped in providing the necessary research and developmentinputs in the area of company‟s business both in health care and in consumer nondurables. Successful completion of the clinical trials and other product. Development

works were done on many new herbals and Ayurvedic products in 2008-2009. Thecompany launched new products like TOLAC, TADEN and TIKARA. A high fibre, sugarfree nature care variant has also been developed which is currently undergoing a

market research and is likely to be introduced in the current financial year. A numberof cosmetic products are under development both for domestic and export markets.Many of these products are in their final stages of approval and are likely to becommercialized next year.

The company has been able to successfully complete the clinical trials on human volunteers of the novel anti-cancer drug Lactuxel. Two more bulk drug technologies were developed, scaled up and commercial production of these products, “vixFlucanozole” (anti-fungal, anti-biotic) and “citizen dihydrochloride” (a secondgeneragion anti-histamine) were started.

Active management of business and disciplined execution of growth strategies by thecompany have delivered seven consecutive years of earnings growth and excellentreturn to shareholders.



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Mr. Popoola Ajayi, the Executive Director in the industrial products division expectsthat the 2010 net sales for the division should be four hundred and forty five millionNaira (N445m) and believes that the division will continue to market aggressively itsproducts as it has done in the past. Before making these sales forecasts for 2010,

Popoola analyzed the impact of high interest costs on the firm‟s debt. He began withthe firm‟s 2009 and 2008 balance sheet of the division as prepared by the financedepartment. He did not ask for a pro forma income statement because he was likely toprepare it himself. In addition to knowing the forecasted sales figure, Popoola knewthat the firm is to budget three relatively stable items for 2010. Office and marketingsalaries, fifteen million Naira (N15m), sales expenses and promotion, twenty onemillion Naira (N21m) and miscellaneous overheads is ten million Naira (N10m).Popoola knew that if the firm did not borrow any additional funds, the industrialdivision would be incurring an annual interest of twelve million Naira (N12m) in 2010.

Having gathered this data, Popoola had a look at collection costs and bad debt lossesthat were included in the general and administrative expenses above, he decided toforecast these items using data from the division‟s risk class category that wasreviewed on a regular basis. The finance manager normally prepared an estimate ofthe collection costs and bad debt losses to be allocated to each category of customers.

These estimates were compared against actual data at the end of each year and for thelast five years, the estimates proved to be fairly accurate. The bad debts losses werebased on actual losses over the past seven years and collection costs well allocatedbased on the routine expenses and special collection efforts required for each categoryof customers. Appendix VII shows the result from this process.

Popoola decided to have a meeting with A. J. Aaron, the division‟s finance manager,after receiving this data on industrial product division. Aaron supported four monthsback that the Company should change its credit policy from 2 / 10 net 30 to 2 / 10 net 60.He argued the new policy would increase receivables, collection costs and bad debtlosses but would provide additional sales and profits to the group. Aaron estimatedthat though selling expenses would rise but the level of receivables would alsoincrease. If the additional profits were high enough, it would make sense to borrowmoney at fifteen per cent (15%) to finance these receivables. Popoola asked Aaron tocheck out the changing terms of trade to 2 / 10 net 15. This would reduce receivables

and allow the firm to pay off a portion of the fifteen per cent (15%) notes, Aaronindicated that selling expenses would probably drop by one point two five (1.25), butthis savings would probably be more than offset by the loss of sales and profits. Fromthis discussion, it appeared that Aaron was willing to make another appraisal of both



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The standard has been based on the capacity of the equipment i.e. ten thousand(10,000) units per annum. The marketing department, in conjunction with theindustrial products distribution division has signed a five year contract to take all thebudgeted production at a price of three thousand, five hundred naira (N3,500). Theindustrial product distributors would pay the Automation division for the machine

annually in arrears i.e. first payment would be made in one year and one day after thestart of production. The automation division holds one month‟s stock of materials, andon average, pays suppliers one month nine days after delivery.

A trainee accountant, attached to the division, has been asked to prepare a cashflowand Net Present Value (NPV) calculations for the five years during which the machinemight be produced. Additional information provided to aid his calculations are thatthe equipment is to be financed by a loan at the going interest rate of ten percent perannum, the company will thus pay annual interest charges of two hundred thousand(N200,000) on the loan; the division allocated fixed overheads on the basis of direct

labour hours. The general overheads present allocations of the division‟s existing fixedoverheads to produce the machine. The specific overhead charge is an allocation, on astraight line basis of the depreciation of the new equipment over its useful life of five

years.

Skilled labour is in short supply. During the first year of the machine production,skilled labour would have to be diverted from existing product lines. Currently, theaverage cash contribution generated per skilled labour hour is fifty naira. Skilledlabour could be made available for the remaining three years of the machinesproduction by carrying out a recruitment and training during the first year. This

programme would entail a one-off cost of one million and five hundred thousand naira(N1,500,000) and if undertaken, would enable the diverted labour to return to itsusual work after one year of manufacturing the machine.

The current rates of company tax are forty percent on taxable profits over seven millionand five hundred thousand (N7,500,000) and a sliding scale for profits is betweenthese levels. The plant attracts a written – down allowance of twenty five per cent atcost or a written–down allowance of twenty five per cent at cost or written-down

value. The figures and notes produced by the trainee accountant are contained inAppendix IX.

The automotive division is considering investing in the production of an electronicsecurity device and the manufacturing of lazer printer AZ2000Q. The finance and themarketing departments have undertaken an analysis of the proposed projects.



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The eighty five Naira price Mrs. Makinwa was prepared to charge for service wasbased on last year‟s thirty five Naira. The Service Manager thought that using last

year‟s cost was conservative since field service had been downsizing and she expectedthe cost to go down not up. The thirty five Naira cost still did not yield the sixty percent (60%) margin on service that was the standard for other Prospect‟s divisions.

Makinwa had difficulty justifying the higher costs without significantly reducing sales.Given the higher cost of the division, field technicians and the prices charged formaintenance by the competitors, she will not be able to make the profit target in herplan. The lazer printers being introduced by Prospect is an innovation over existinglazer printers by the competitors. In particular, they have specialized paper transfermechanism to handle the customized heavier paper, varying paper sizes and highspeed paper flow rates. With such high paper flow rates, printers require regularadjustments to prevent paper jams and misalignments. Prospect‟s nationwide fieldservice department for its automotive decision, has about 300 employees whomaintain these printers and other related products.

The standard automotive division sales contract contains two parts: the purchase priceof the equipment and maintenance contract for the equipment. All automotivedivision printers are maintained by the Field Service personnel, and the maintenancecontract specifies the price per hour that was charged for routine and unscheduledmaintenance. Most of the profit in the automotive division comes from printermaintenance. Printers have about five to ten per cent mark-up over manufacturingand selling costs, but the mark-up on maintenance has historically averaged aboutsixty per cent.

The printers manufactured by Prospect‟s Automative division have substantial amountof built-in-intelligence to control the printing and for self-diagnostics. Each printerhas its own microcomputer with memory to hold the data to be printed. These internalmicro-computers also keep track of printing statistics and can alert operator toimpending problems (low toner, paper alignment problems, form breaks). Whencustomers change their operating system or computer, this often necessitates aProspect service call to ensure that the new system is compatible with the printer. Thestandard service contract calls for normal maintenance after a fixed number ofimpression (pages) for example AZ2000Q requires service after every five hundredthousand pages are printed. Its micro-computer is programmed to call Prospect Plc`s

central computer to schedule maintenance whenever the machine has produced threehundred and seventy five thousand (375,000) pages since the last servicing.



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The Automotive division is organized into engineering, manufacturing, marketing,field service and administrative departments. Engineering designs the new printersand provides consulting services to marketing and field service regarding systeminstallation and maintenance. Engineering department is evaluated as a cost centre.

Manufacturing department produces the printers, which are assembled frompurchased parts and sub-assemblies. Prospect Plc`s comparative advantage is qualitycontrol and design. Manufacturing also provides parts for field service maintenance.Manufacturing is treated as a cost centre and evaluated based on meeting cost targetsand delivery schedules. Manufacturing‟s unit cost is charged to marketing for eachprinter sold.

Marketing department is responsible for designing the marketing campaign, pricingthe printers and managing the Field sales staff. The Automotive division sells sixdifferent printers, each has a separate Marketing Program Manager. The sixth

Marketing Manager thought that using last year‟s cost was conservative since FieldService had been downsizing and she expected the cost to go down not up. The thirtyfive Naira cost still did not yield the sixty per cent (60%) margin on service that wasthe standard for other Prospect‟s divisions. Makinwa had difficulty justifying a highercost without significantly reducing sales. Given the higher cost of the division fieldtechnicians and the prices charged for maintenance by the competitors, she will not beable to make the profit target in her plan.

Field sales is organized around four regional managers responsible for the sales officeof their region. Each of the sales offices has a direct sales force that contacts potential

customers and sells the six programs. Sales people receive a salary and a commissiondepending on the printer and option sold. The sales person continues to receivecommissions from ongoing revenues paid by the account for service. Since ongoingmaintenance forms a significant amount of a printer‟s total profit, the sales peoplehave an incentive to keep the customers with Prospect Plc.

Field service contains the technical people who install and maintain the printersheaded by Ayobami Gbenga, a General Manager. Field service is a cost centre and itsdirect and indirect costs are charged to programs when the printers are serviced. Theprice charged is based on the budgeted rate set at the beginning of the year. Any

difference between the actual amount charged to the programs and the total costincurred by the Field service group is charged to the division overhead account andnot to the marketing programs.



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Administration manages human resources, finance, accounting and field leases. Ithandles customer billings and collections, payroll and negotiating office space for thefield service people. Administration is evaluated as a cost centre while local officespace is managed by administration, the cost of the office space is allocated to thefield service and service group and included in their budgets and monthly operating

statements.

Each Prospect Plc`s printer sold requires a service contract. The AZ2000Q‟s servicecontract calls for normal maintenance every five hundred thousand (500,000) pages ata price of fifty kobo per one thousand pages. Normal maintenance requires threehours, the typical AZ2000Q prints twelve million pages per year. Besides normalmaintenance, (sometimes called preventive maintenance) unscheduled maintenanceoccurs due to improper operator set ups, paper jams, system upgrades and harshusage of the equipment. Past statistical studies shows that each normal maintenancehour generates zero point five zero (0.50) unscheduled maintenance hours.

Unscheduled maintenance is billed to the customer at the service contract rate ofeighty five Naira (N85) per hour.

When maintenance is performed on a particular machine, the service revenues lessfield service costs are credited to the Marketing Manager for that program. All theprograms actual service profits are compared with the plan, they form part of MM‟sperformance evaluation. The field sales person receives a commission based on thetotal service revenue generated by the account. In evaluating each new printerprogram, Prospect Plc uses the following procedures: profits from service are expectedto create an annuity that will last for five years at 18% interest; to evaluate a proposed

new printer, the one-year maintenance profit is multiplied by 3.127 to reflect thepresent value of the future service profits each printer is expected to generate over itslife (about five years).

Any parts used during service are charged directly to the customer and do not flowthrough field service budgets or operational statements. Automotive divisionpurchases most of the printers‟ parts from outside suppliers and the customer paysonly a token mark-up. Marketing department does not receive any revenue nor is itcharged any costs when customers use parts in the service process. The reason for notcharging customers a larger mark-up on parts stems from an antitrust case filed

against Prospect Plc and other printer companies six years ago. A third-party servicecompany, Salawu Limited sued the printers manufacturers for restraint of tradeclaiming they prevented Salawu Limited from maintaining the printers by only sellingreplacement parts at very high prices. To prevent other such claims, Prospect sells



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parts at a small mark-up over costs, yet Salawu Limited and other third party servicefirms have never been able to penetrate Prospect Plc service markets, because theirlazer printing technology changes rapidly and an outside company cannot keep a

workforce trained to fix the latest products. Besides, each printer usually has at leasttwo engineering modifications each year to fix problems or upgrade the printer or its

microcomputer hardware and/or software. An outside service company cannot learn ofthese changes and provide the same level of service as Prospect Plc.

The automotive division of Prospect Group had two types of technicians, Tech 1s and Tech 2s. Both were trained to repair electromechanical problems but Tech 2s hadmore training in electronics and computers to work on the latest, most sophisticatedprinters.

Field service had been trying to reduce the size of the service workforce in the last few years through voluntary retirements and attrition. As the printers became more

sophisticated, they became more reliable, the newer systems had self diagonisingsoftware that allowed a service technician to call up a customer‟s printer and run adiagnostic program. Often, the problem was solved over the phone line having aProspect technician handling the repair in the software. If a mechanical problem wasdetected, the technician dispatched a repair person (often a tech 1s) with the rightpart. Also, past customers replaced their older printers with newer ones that requiredless maintenance. The result was excess capacity in the field staff.

The voluntary retirements over the past few years did not produce the reductionsnecessary to eliminate the excess capacity. In 2009, field service went through a very

large involuntary reduction of its workforce through attrition, early retirements andterminations. Prospect Group reduced the number of technicians in the automotivedivision by 75% in 2010. The company simultaneously improved the skill level of itsremaining field force substantially.

Makinwa‟s 2010 sales plan for the AZ2000Q calls for 120 placements that year and aprogrammed profit projection of about N2.5 million based on capitalizing the serviceincome using the 3.127 annuity factor. If she were to raise the service price muchabove N0.51 per 1,000 pages, they would lose sales, which are already ambitious. Shecalled Ayobami and raised “phil,” she began, “explain to me how you downsized your

field personnel, cut some office allocations, consolidated inventories and reducedother fixed costs yet the price I‟m being charged for service increased from N35 toN38. I thought the whole purpose of the field service reorganization was to streamline



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and make us more cost competitive. You know that our service costs were out of line without competitors.

We were planning to charge N85 an hour for the AZ2000Q maintenance contract.Even at N85 per hour I would be violating the corporate policy of maintaining a 60%

mark up on service rule, I would have to charge N87.63 per hour if you had kept yourcost to me at N35.05. But with your cost of N38.25 and my price of N85 the marginfalls to 55%. I already had to get special permission to lower the margin to 59% withthe N35.05.”

Ayobami replied, “well, there are a number of issues that you have just raised. Let merespond to a few over the phone now and suggest that we meet to discuss this morefully when I‟m back in the office. In the meantime, I‟ll send you our budget for next

year that derived the N38.35 rate.

Regarding the key question as to how our hourly rate could go up after downsizing itis really quite simple. We had a lot of idle time being built into the numbers withpeople just pretending to be busy. Had we not downsized, the hourly charge wouldhave gone up even more than it did. For example, on the AZ2000Q that youmentioned, we would have used 3.25 hours per normal servicing had we kept ourlabour force mix of Tech 1s and 2s, the same as in 2009 and our variable costs for Tech1s and 2s would have increased to the 2010 amounts because of wage increase andinflation. Let me get you our numbers, so you can see for yourself how much progress

we have been making.” That afternoon, Mrs. Makinwa received a fax from Ayobami(see appendix XI).

MINING DIVISION

PROSPECT PLC is also thinking whether to purchase or lease an automatic castingmachine in its mining division. The machine will cost one million and five hundredthousand Naira (N1,500,000) and for tax purposes, will be depreciated towards a zerosalvage value over a five-year period to 2013. However, at the end of the fifth year,the machine actually has an expected salvage value of two hundred and ten thousandnaira (N210,000), since the machine is depreciated toward a zero book value at theend of the five years. The salvage value is fully taxable at the firm‟s marginal tax rate

of forty percent (40%); hence, the after-tax salvage is only one hundred and fivethousand naira (N105,000). PROSPECT PLC utilized the straight line depreciationmethod to the one million and five hundred thousand naira (N1,500,000) toward azero salvage value. Furthermore, the project is expected to generate annual cash



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revenues of five hundred thousand naira (N500,000) per annum over the next five years (net of cash operating expenses but before depreciation and taxes). PROSPECTPLC has a target debt ratio of forty percent for projects of this type which is imposed onits after-tax cost of capital of twelve percent (12%). Also PROSPECT can borrow funds ata cost before tax rate of ten percent. The operating expenses associated with the asset

that will be paid by the lessor, if PROSPECT PLC leases generally consist of certainmaintenance expenses and insurance. PROSPECT PLC estimates them to be onehundred thousand naira (N100,000) per year over the life of the project. The annuallease payments are given and equal to four hundred and twenty thousand Naira(N420,000).

HUMAN RESOURCES, ACCOUNTING AND INFORMATION SYSTEMS

Underlying PROSPECT PLC‟s operational capabilities is an employee relationsphilosophy aimed at closely linking each employee with the company‟s short-and-

long-term goals. It‟s management feels that mission-oriented employees are moreproductive. Employees are asked to put out more effort in return for higher pay, yettheir efforts go beyond a straight work-harder-for-more-money arrangement. Theirefficiency and commitment allow PROSPECT PLC to hold down overall costs whilepaying higher wages.

PROSPECT PLC looks for special people to fill its vacant positions. “We draft greatattitudes”, according to the Managing Director, Mr Kola Ikumapayi, “If you don‟t havea good attitude, we don‟t want you no matter how skilled you are. We can change skilllevels through training, we can‟t change attitudes. We are fanatics about hiring the

right people. We want to give them latitude to be individuals on their job. We wantthem to be good-natured and have a good-humoured approach to life and have fundoing their job”.

Unlike many of its competitors, PROSPECT PLC`S employees are unionized. Bymaintaining a favourable relationship with the unions, management has been able tonegotiate flexible work rules for its employees. Relationships throughout the companyare cooperative, and people take pride in their organization. Even though PROSPECTPLC`S workforce is ninety percent unionized, its employees own ten per cent of thecompany, the highest in the industry. Annual employee turnover was a mere seven per

cent (the industry‟s lowest) and eighty per cent of promotions came from within. In2009, five thousand people applied for jobs in PROSPECT PLC, only two hundred werehired, based on their ability, among other things, to work hard, to have fun, and to bea part of the company‟s extended family.



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The finance, information systems, and human resources divisions report to theManaging Director‟s office. The reporting requirements for the company has beenrecently streamlined by implementation of an IBM AS400 computer system in January2009. This new system allowed for a reduction of five people in administrative office.

The new staff and system have resulted in streamlined financial reporting andextended reporting to the field sales force and to PROSPECT PLC`S customers.Improved order and cost tracking, as well as the automating of many previouslymanual reports have also resulted. PROSPECT PLC recently awarded the contract forthe computerization of its wages, billing, shipping and accounts receivable. Thecomputer company sent the following information about the system installation toPROSPECT PLC (see appendix XII).

After the installation, the new system was test run to ensure it works effectively andmeets the expectation of the company, there was a parallel running of the old system

with the new one. In 2009 financial year audit exercise, Mr Oshinbolu Rotimi, who isthe partner in charge of the audit of PROSPECT PLC during the interim work assignedan audit assistant, Mr. Arowele Ojo to review the accounting system and the internalcontrol. The assistant determined the following information concerning the new ITsystem and the processing and control of shipping notices and customer invoices.

Each of the major computerized functions – wages, shipping, billing, accountsreceivable and so on – is permanently assigned to a specific computer operator, who isresponsible for making program changes, running the program, and reconciling thecomputer log. Responsibility for the custody and control of the magnetic tapes and

system documentation is randomly rotated among the computer operators monthly toprevent any one person from having access to the tapes and documentation at alltimes. Each computer programmer and operator has access to the computer room via amagnetic card and a digital code that is different for each card. The systems analystand the supervisor of the computer operators do not have access to the computerroom.

The system‟s documentation consists of the following items: program listing, errorlisting, logs, and record layout. To increase efficiency, batch totals and processingcontrols are omitted from the system. PROSPECT PLC ships products directly from two

warehouses, which forward shipping notices to its General Accounting department. The billing clerk enters the price of the item and accounts for the numerical sequenceof shipping notices and also prepares daily adding machine tapes of the units shipped



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and sales amounts. Shipping notices and adding machines tapes are forwarded to theIT department for processing. The computer output consists of

(a) A three-copy invoice which is forwarded to the billing clerk.

(b) A daily sales register showing the aggregate totals of units shipped and salesamounts that the computer operator compares with the adding machine tapes.

The billing clerk mails two copies of each invoice to the customer and retains the thirdcopy in an open invoice file that serves as a detailed accounts receivable record.

LIST OF APPENDICES

APPENDIX I: Sola Nigeria Limited Cash Flow Statement Extract

APPENDIX II: Comparative Ratio Analysis of recently acquired companies

APPENDIX III: Organisation Chart of Prospect Group

APPENDIX IV: Prospect Group: Products lines, sales and operating income

APPENDIX V: Prospect Group Financial Information on Proxy Companies

APPENDIX VI: Prospect Group Industrial Products Limited Draft Balance Sheet

APPENDIX VII: Industrial Products Division Bad Debts Losses & Collection costs bycategory of customers

APPENDIX VIII: Prospect Group – Proposed Investment in production of E-Bankingmachine

APPENDIX IX: Standard cost for the manufacturing of machine atautomation/electrical division

APPENDIX X: Proposed electrical security device project at Automotive/Electrical

division

APPENDIX XI: Automotive/Electrical division field service budgeted hourly ratesfor 2010



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APPENDIX III: ORGANISATION CHART: PROSPECT GROUP

BOARD OF DIRECTORS

CHAIRMAN

GROUPMANAGING DIRECTOR

EXECUTIVE EXECUTIVE EXECUTIVEEXECUTIVE EXECUTIVEDIRECTOR DIRECTOR DIRECTORDIRECTOR DIRECTOR

MARKETING INDUSTRIAL PRODUCTS AUTOMOTIVE PRODUCTSMINING FINANCE

INDUSTRIAL HOUSE SECURITY AUTOMATION AUTOMOTIVES APPARELQUARRY HAULAGE FINANCE PRODUCTS WARES

FASTENERS CONTROLLER



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APPENDIX IV: PROSPECT GROUP: PRODUCTS LINES, SALES AND OPERATING INCOME(Nm)

GROUP MAJOR PRODUCT LINES SALES

2009

OPERATING INCOME 2009

Industrial Products Reagents, Chemicals, DSM Agro,Sprayers, Footwears, DSMEnergy

200.5 31.8

Security Products Lock sets, Padlocks, Doorclosures, Electronic lockingsystem

112.6 12.3

Housewares Blenders, Food processors,Irons, Coffee makers, Electricknives

149.3 4.4

Apparel/fasteners Snap fasteners, rivets, burrsbrass zippers 149.1 21.7

Automation/Electrical Pneumatic valves, Cylinders,regulators, tyre valves, printingmachines

123.2 12.0

Mining Laterite, Bridge stones, Pellets 83.2 4.3



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APPENDIX VPROSPECT GROUP

FINANCIAL INFORMATION IN PROXY COMPANIES

BETALONG TERM

LIABILITIES TOCAPITALISATION

A. Industrial products

Apopo Plc 0.90 0.45

Toyed Plc 1.05 0.30

Bosco Plc 0.76 0.42

Dendo Plc 1.20 0.51

Average 0.98 0.42

B. Housewives

Vauve Plc 0.85 0.38

Aloyd Plc 0.75 0.46

Ponco Plc 0.85 0.31

Average 0.82 0.38

Automation/Automatives

C. Gee Plc 1.10 0.55

Howeg Plc 1.35 0.48

Atuka Plc 1.24 0.15

Chenco Plc 1.35 0.48

Pecaco Plc 1.10 0.30

Average 1.23 0.39



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APPENDIX VI: PROSPECT GROUP: INDUSTRIAL PRODUCTS LTD

Draft Balance Sheet, as at 31 December 2005

N‟000 N‟000 N‟000 Cost Dep.

Fixed assets

Tangible assets:Land and Buildings 40,000 - 40,000

Plant 36,315 19,284 17,031Fixtures and Fittings 3,855 1,225 2,630

80,170 20,509 59,661

Intangible assets:Goodwill 20,000Investment: trade investment(at cost) 45,000Current assetsStock 40,166Debtors 35,802Deferred Development Expenditure 15,000

90,968

Current liabilitiesBank Overdraft 15,209

Trade Creditors 63,420Director‟s Loans 10,000 (88,629)

Working Capital 2,339127,000

Long term liabilities7% Debentures 30,000Accrued Interest 4,200 (34,200)



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92,800

Capital and Reserves

Authorized share capital50,000,000 ordinary shares @ N2. 100,00040,000,000 7% cumulative preferenceShares @ N1. 40,000

140,000

Allotted share capital40,000,000 ordinary shares @ N2 80,00040,000,000 7% cumulative preferenceShares @ N1 40,000

120,000

Profit and loss account (27,200)

92,800

APPENDIX VII

INDUSTRIAL PRODUCTS DIVISIONBAD DEBTS LOSSES AND COLLECTION COSTS BY CATEGORY OF CUSTOMERS

RiskCategory

Annual Bad debtlosses as a

percentage of sales

Collection cost as apercentage of sales

1 0.5 1.02 1.0 1.53 2.0 4.0

APPENDIX VII

PROSPECT PLC – PROPOSED INVESTMENT IN PRODUCTION OF E-BANKING MACHINE



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NOTES:

1. Skilled labour.

(a) This is the scarce resource of the company. If labour is to be moved from one

area of production to another, it is necessary to ensure that the contributionearned on the new production is at least equal to that which would have beenearned elsewhere. Accordingly, the contribution forgone by switching skilledlabour to the production of the machine has been included as a cost of themachine.

(b) The option to recruit and train new labour has been rejected on the ground thatthe cost of recruitment and training exceeds the discounted value of theexpected benefits. See calculation below:

Cashflow Discount Present Value Year N factor N

1. Training cost 1,500,000 0.9091 (1,363,650)2. Additional cash contribution

10 x 1000 x N50 500,000

3. 10 x 1000 x N50 500,000 2.261 1,130,500

4. 10 x 1000 x N50 500,000

Net Present Value (233,150)

2. Taxation: This has been ignored because of the difficulty in establishing the rate oftax applicable to PROSPECT. Over the last decade, PROSPECT has sometimes paidtax at the small company rate. Sometimes at the marginal rate, and at times hashad no taxable profit.

3.

General fixed overheads. These have been excluded from cost of production, asthey are not related to the manufacturing of the machine, and will be incurred whether or not the machine is produced.



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Calculation of Net Present Value

Annual Cash Outflow:

Unit cost of production per standard cost N2,800

less general fixed overhead (see note 1) 150Unit cost directly attributable to the machine 2,650

Total annual production costN2,650 x 1000 N2,650,000plus: opportunity cost of using skilled labour (note 2)10 x 1000 x N50 500,000Interest payment on loan 200,000

Total annual cash outflow (years 1 -4) 3,350,000

Other cash flows

Purchase of equipment (year o) 1,000,000Annual cash inflow: Payment fromDistributor in arrears(years 2 – 5) 1000 x N3,500 3,500,000

Calculation of Net Present ValueYear Cash Cash D.F. P.V.

Outflow Inflow

0 (1,000,000) - 1.0 (1,000,000)1 (3,350,000) - 0.9091 (3,045,485)2 (3,350,000) 3,500,000 0.8264 123,9603 (3,500,000) 3,500,000 0.7513 112,6954 (3,500,000) 3,500,000 0.6830 102,4505 3,500,000 0.6209 2,173,150

Net Present Value (NPV) (1,533,230)

Recommendation by the trainee Accountant: Do not purchase the equipment to

manufacture the e-banking machine.

APPENDIX IXSTANDARD COST FOR THE MANUFACTURING OF MACHINE AT ELECTRICAL DIVISION



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N NMaterials 1,000

Labour:

Skilled: 10hrs @ N60 per hour 600Semi-skilled: 10 hours @ N50 per hour 500Prime cost 2,100

Overheads: Variable: 20 hours @ N20 per hour 400Fixed:Specific: 20 hours @ N7.50 per hour 150General: 20 hours @ N7.50 per hour 150 700

Total Cost 2,800

Profit Margin 25% 700Selling Price per machine 3,500

APPENDIX XPROPOSED ELECTRONIC SECURITY DEVICE PROJECT AT AUTOMATIVE/ELECTRICAL

DIVISION

Year 0(N‟000)

Year 1(N‟000)

Year 2(N‟000)

Year 3(N‟000)

Year 4(N‟000)

Year 5(N‟000)

Investment depreciablefixed assets 4,500

Cumulative investment Working capital 300 400 500 600 700 700Sales 3,500 4,900 5,320 5,740 5,320Materials 500 650 900 1,000 950Labour 1,065 1,120 1,620 1,720 1,720Overhead 200 200 200 200 200Interest 576 576 576 576 576Depreciation 900 900 900 900 900

3,241 3,446 4,196 4,396 4,346 Taxable profit 659 1,954 1,724 2,044 1,674 Taxation 264 782 690 818 670Profit after tax 395 1,172 1,034 1,226 1,004



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Total initial investment is N4,831,000. Average annual after tax profit is N966,200.

APPENDIX XI

AUTOMATIVE DIVISIONFIELD SERVICE PROJECTED HOURLY RATE FOR 2010

Variable costs N N Technician gradeSalary & benefits 42,800

Number x 105 Total direct cost of technician grade 1 4,494,000 Technician grade 2Salary & benefits 54,800

Number x 195 Total direct cost of technician grade 2 10,686,000 Total variable cost 15,180,000Fixed costsSupervision 1,200,000Occupancy costs 1,100,000Utilities 320,000Insurance 50,000Other 50,000

Total fixed cost 2,720,000 Total cost 17,900,000

Number of technician grade 1 105Number of technician grade 2 195

Total technicians 300Number of man months 3,000Average number of billable hours per month per technician 130Projected number of billable hours 468,000Cost per hour projected for 2010 N38.25Note: Cost per hour 2009 35.05

APPENDIX XIIPROSPECT GROUP: TABLE OF ACTIVITY FOR COMPUTERIZATION OF



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ACCOUNTING SYSTEM

Activity Activity Description Immediate Time Predecessor Most Most Most

optimistic likely pessimistic

A Select the computer model - 4 6 8

B Design input/output system A 5 7 15

C Design Monitoring System A 4 8 12

D Assemble computer Hardware B 15 20 25

E Develop the main programs B 10 18 26

F Dev. Input/output routines C 8 9 16

G Create data base E 4 8 12

H Install the system D,F 1 2 3

I Test and implement G,H 6 7 8

ATTEMPT ALL QUESTIONSPART I: MULTIPLE-CHOICE QUESTIONS (10 Marks)

1. Which ONE of the following best describes Gross National Product (GNP)?

A. The total value of all goods and services produced in the country during the year less taxation

B. The total value of all goods and services produced in the country during the year plus net income from abroad

C. The total of all consumption in the country during the year

D. The total of all incomes earned in the country during the yearE. Gross National Income at factor cost less capital consumption.

2. The main classes of digital computers include all EXCEPT



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A. HybridB. MiniC. SuperD. Mainframe

E. Micro.

3. On cessation of a business or a trade, a gap occurring in the basis period for thepenultimate and ultimate years for the purpose of initial allowances is deemed to form partof

A. Penultimate yearB. Ultimate year

C. Pre-penultimate yearD. Preceeding yearE. None of the above.

4. Which ONE of the statements below does NOT describe the term “Degree ofLeverage?”

A. The elasticity of earnings to change in debtB. The level of retained earnings to debentureC. The level of current assets to fixed assets

D. The sensitivity of earnings to change in capital structureE. The impact of capital structure on company performance.

5. A supplier who is able to segregate the market for his goods and charge differentialprices between the poor and the rich is called

A. Price dictatorB. MonopsonyC. Price monopolistD. Discriminating monopolist

E.

Dominating monopolist.

6. The Federal Government policies that attempt to reduce the volatility of exportprices are called



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A. Export prices volatility policiesB. Export substitution policiesC. Commodity stabilization policiesD. Commodity price monitoring policies

E. Export monitoring policies.

7. A mathematical technique used in scarce resource allocation with a view tooptimizing the decision process in a multifarious objective environment subject tocertain constraints is known as

A. Mathematical programming modelB. Pareto optimality modelC. Sensitivity Analysis modelD. Goal programming model

E. Critical path analysis model.

8. A situation where a company gains control over another company by successivepurchases of shares over a period of time is known as

A. MergerB. Backward integrationC. Piece-meal acquisitionD. Sub-subsidiary controlE. Associated company.

9. A sampling method which involves the selection of the nth item/subject from serially listedpopulation, where n is any number usually determined by dividing the population by therequired sample size is known as

A. Random sampling

B.

Cluster samplingC. Systematic samplingD. Stratified samplingE. Purposeful sampling.



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10. Monthly demand for a company‟s product is 800 units, ordering cost per order isN250, purchase cost per unit is N5 and carrying cost of 20% per annum. The EOQ is

A. 2,490 units

B. 1,550 unitsC. 1,480 unitsD. 3,020 unitsE. 1,986 units.

PART II SHORT-ANSWER QUESTIONS (30 Marks)

1. A company in distress but whose economic worth as an operating entity isgreater than its liquidation value should opt for ……………..

2. A method by which the number of outstanding shares is increased through aproportional reduction in the par value of the share is called ……………….

3. Risk capital invested in a new or young company for research and developmentand/or growth is referred to as ………………….

4. The dividend valuation model where annual dividend growth is expected isgiven by Ke = ………………..

5. Public sector audit is principally divided into ………….. and ………….

6. A lease which runs for considerably less than the useful life of the assetsconcerned is ………………….

7. Tax attributable to timing difference is known as ………………….

8. The Institute of Chartered Accountants of Nigeria Disciplinary Tribunal has thepowers of a Federal High Court and appeal against its verdicts can only go tothe …………..

9. Tangible assets are depreciated over time while wasting assets …………… andintangible assets ………………..



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10. Under PPTA, tax and royalty on gas transferred from the natural gas liquid togas-to-liquids facilities are ………..% and ………..% respectively.

11. A method of comparing one company‟s financial ratio with another within thesame industry is referred to as ……………

12. The time limit for a claim of tax credit under a double taxation agreement is………………..

13. The name of the meeting that a public company must hold within a period of six(6) months from the date of its incorporation is ………………..

14. The right of the insurer, having paid the insured to take over any right that theinsured has against the person who caused the loss is called ………….

15. System implementation is not complete without ……………..

16. A computer security system where list of authorized users of a company`snetwork are established and maintained is …………………….

17. The authority that is explicitly given by the principal in which the agreementsets out the obligations of the agent and the precise powers, he has to carry outthose obligation is called …………………

18. The accounting principle that makes distinction between the receipt of cash andthe right to receive cash, the payment of cash and the legal obligation to paycash is known as ……………….

19. Transactions occurring subsequent to balance sheet date that lend insight toamount and information disclosed in the financial statement are known as……………..

20. Communication approach involving patterns, movements and creativity aspropounded by Clampit (1991) is the …………….

21. The managerial theory that situate leadership style on maturity of subordinatesis called……………..

22. In how many ways can 5 passengers sit in a compartment having 16 vacant

seats?

23. In queuing theory, the rate of arrival over the service rate is known as ………….



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24. Given the following functions: TR = 10Q, TC = 50 + 5Q, Sa = 20. If BEP is representedby Sb, Sb is ………….. and margin of safety is ………….

25. A tax assessment where there has been a valid objection is termed ……………..

26. Portfolio that offers the lowest risk (standard deviation) for its expected returnand the highest expected return for its level of risk is called ………………

27. NEEDS is the acronym for …………………

28. The act of examining underlying documents in support of transactions or eventis known as ……………………

29. A measure of variation or dispersion among the items in a population is called…………………

30. The software that provides individual authentication and identification is

called …………………

SECTION B

QUESTION 1

(a) With reference to Appendix III and other relevant information in the case,prepare reduction and reconstruction accounts of the Industrial product divisionof PROSPECT GROUP. (6 Marks)

(b) Prepare the Balance Sheet of the Industrial product division of PROSPECTGROUP as at January 1,2006 after the recapitalization. (3 Marks)

(c) With the aid of three ratios, comment briefly on changes in the financialposition of PROSPECT GROUP consequent upon the reorganization. (3 Marks)

(Total 12 Marks)



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QUESTION 2

(a) Prepare a revised cashflow forecast and Net Present Value (NPV) for theproposed e-banking machine by the Automation division. (6 Marks)

(b) List the strengths and weaknesses of the budgeting and control system atPROSPECT GROUP. (2 Marks)

(c) Apart from cashflow, what other factors should PROSPECT GROUP managementtake into consideration in appraising the e-banking machine? (2 Marks)

(Total 10 Marks)

QUESTION 3

(a) Using Appendix VI, construct a flowchart for the programme of computerizationof some parts of the accounting system. (4 Marks)

(b) Determine the critical path and compute the expected project completion time.(3 Marks)

(c) Taking into consideration the financial condition of PROSPECT GROUP, advisethe management on whether to purchase or lease the equipment for theAutomation Division. (7 Marks)

(Total 14 Marks)

QUESTION 4

(a) In the context of the case study, define attitude and identify its componentsattitude. (2 Marks)

(b) Identify the weaknesses of the internal control in the new computerized systemand inefficiency in the procedures for processing and controlling shippingnotices and customer invoices in PROSPECT GROUP. (5 Marks)

(Total 7 Marks)



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QUESTION 5

(a) If you are engaged as the management consultant for the management audit ofPROSPECT GROUP. List and explain briefly any SIX specific steps you would taketo carry out the assignment.(6 Marks)

(b) Outline four contents of management Audit Report. (2 Marks)(Total 8 Marks)

QUESTION 6

(a) When data can be input on-line through a computer terminal, there is apossibility of unauthorized input. Discuss the various security controlcomponents that PROSPECT GROUP should put in place to prevent suchunauthorized access. (5 Marks)

(b) Evaluate the human capital management of PROSPECT GROUP by outlining keymotivating factors in the group. (2 Marks)

(c) State four reasons why company capital may be restructured. (2 Marks)(Total 8 Marks)


SOLUTIONS TO MULTIPLE CHOICE QUESTIONS

1. A

2. A

3. A

4. C

5. D

6. C

7. D



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8. C

9. D

10. B


SOLUTIONS TO SHORT-ANSWER QUESTIONS

1. Corporate or Capital Restructuring

2. Stock split

3. Venture capital

4. Ke = g Mve

g do

)(1

Where do = dividend in year 1G = growth rate.MVe = Market Value of Equity per share.

5. Pre-audit and post-audit

6. Operating

7. Deferred

8. Court of Appeal9. Depleted and amortized

10. 0% and 0% - S.10 (A) of PPTA

11. Comparative Trend Analysis

12. 2 years after Year of Assessment

13. Statutory meeting

14. Doctrine of subrogation

15. Pilot testing

16. Firewalls

17. Delegation



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18. Accrual principle

19. Post Balance sheet

20. Dance approach

21. The situational or Contingency theory22. 524,160 - This question is on arrangement of passengers where the order ofarrangement is important and it is therefore a permutation problem. i.e.

16P5=5)-(16

!16! =

11!

!16 =

11!

12.15.14.13.16 = 524,160

23. Traffic Intensity

24. 10 and 10

At BEP, TR = TC i.e. 100 = 50 + 5

5Q = 50

Q = 10.

Margin of Safety = Sa – Sb

= 20 – 10

=10

25. Revised assessment

26. Optimal

27. National Economic Empowerment Development Strategy

28. Vouching

29. Standard deviation/variance

30. Password.

EXAMINER‟S REPORT

The question in Part (a) and (b) was on Critical Path Analysis while part (c) was on

Lease or Buy Option. Only few candidates had an idea of Critical Path analysis andthe few were unable to draw the chart accurately. Consequently, they failed toidentify the path and compute the project completion time.



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In Part (c), most candidates could not calculate the Cash Flows required for evaluatingthe Lease or Buy decision.

As a result of the above, candidates‟ performance was very poor.Once again, candidates are enjoined to always remember that they need the

knowledge of previous subjects they have passed earlier to properly answer questionsin Multi Disciplinary Case Study.


SOLUTION 1

(a) REDUCTION AND RECONSTRUCTION ACCOUNT

Ordinary shareCapital (written down to 50k)

Ordinary share capital(issued to 50% preferenceshareholders)

9% cumulative Preferenceshares

Capital (issued to 50%preference shareholders)

10% Debenture

Ordinary share capital (toDirectors)

Goodwill 20,000Dev. Exp. 15,000P & L bal. 27,200

Written off

N‟000

20,000

20,000

20,000

40,000

5,000

Ordinary share capitalPreference shares7% DebentureCash – 10% DebentureDirectors‟ loan Revaluation of plantRevaluation of land andbuildingsProfit on sale of trade

investments

N‟000 80,00040,00030,00010,00010,0001,780

10,000

5,000



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Stock written down 16,000Doubtful debts 3,580

62,200

19,580

186,780 186,780

(b) BALANCE SHEET AS AT 1 JANUARY 2006

Fixed Assets N‟000 N‟000 Land and Buildings at valuation 50,000Plant at valuation 18,811

Fixtures and fittings (at written down value) 2,63071,441

Current assetsStocks 24,166Debtors (N35,802 – N3,580) 32,222Bank (see workings) 20,591

76,979Current liabilities:

Trade creditors (43,420) Working capital 33,559

105,000Long term liability10% Debenture (secured) (40,000)

65,000

Represented by:Authorized share capital:200,000,000 Ordinary shares @ 50k 100,00040,000,000 9% Pref. shares @ N1 40,000

140,000

Issued share capital

90,000,000 ord. shares @ 50k 45,00020,000,000 9% cum. Pref. shares @ N1 20,000

65,000



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WorkingsBank Account

N‟000 N‟000

Issued of Debenture 10,000 Balance b/f 15,209Sale of trade investment 50,000 Creditors 20,000

Debenture interest 4,200Balance c/f 20,591

60,000 60,000

(c)(i) The company‟s liquidity has improved from a potentially dangerous situation toone of relative comfort. Using the quick ratio (acid-test ratio) the positionbefore and after reorganization can be compared:

Before 35,802:88,629 or 0.4:1

After 52,813:43,420 or 1.2:1

Sufficient quick assets now exist with which to meet the claims of creditorsshould they demand payment simultaneously. Also, after re-organisation, thecompany has funds to finance running expenses.

(ii) The company‟s working capital ratio shows a marked improvement. Since thecompany now places less emphasis on finance from outsiders for its workingcapital, greater security may now be offered to potential creditors (and it may

be possible to negotiate more favourable terms with suppliers). The relevantratios, before and after reorganization are :

Before 90,968:88,629 or 1.03:1

After 76,979:43,420 or 1.77:1

(iii) The company‟s gearing becomes higher after reorganization. The amountrequired to service the preference share dividend and debenture interest hasrisen by N900,000 per annum and the higher gearing will tend to make theordinary shares more speculative. The reduction in the amount of equity capital

may also result in a higher earnings per share (EPS) and possibly a higherdividend than was potentially possible before reorganization. The relevantratios, before and after reorganization are:



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Before 80,000:70,000 or 1.4:1After 45,000:65,000 or 0.69:1

EXAMINERS‟ REPORT

The question tests candidates‟ knowledge of capital reduction and reconstruction.About 90% of the students attempted the question but their performance was verypoor.

The commonest pitfall, was candidates‟ failure to arrange the figures in the BalanceSheet orderly and inability to compute ratios correctly. Candidates should be aware of the need to read wide, most especially, areas they havecovered in the previous examinations in preparation for this subject such asacceptable presentation of accounts and ratio analysis.


SOLUTION 2

(a) Annual cash outflowN

Unit cost of production per standard cost 2,800Less: Specific fixed overhead 150

General fixed overhead 150

Annual production 2,500 Total annual cash outflow 1,000

N1-4Other cash outflows 2,500,000Purchase of equipment year 1 1,000,000Investment in recruitment training year 1 1,500,000Opportunity cost of using skilled labour year 1 1,500,000Payment by distributor 3,500,000

Calculation of NPV

Year Cash outflow Cash inflow DF Present value



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0 (1,000,000) - 1.0 (1,000,000)1 (4,500,000) 3,500,000 0.9091 (909,100)2 (2,500,000) 3,500,000 0.8264 826,4003 (2,500,000) 3,500,000 0.7515 751,3004 (2,500,000) 3,500,000 0.6830 683,000

351,600Decision: The company should purchase the equipment.

(b)(i) STRENGTHS

- autonomy of the managers to set budgets- performance evaluation based on profit performance- division of the budget into short and long term- the stages of the budget approval: bottom to top promote goal

congruence

- revision and monitoring of the budget on quarterly basis.

(ii) WEAKNESSES

- decentralization may weaken Head office- the 3, 5 year budget forecast may be a wasteful exercise because of

environmental uncertainties.- time and money is being wasted on budget monitoring

- managers are not compensated on budget attainment.

(c) Other factors that should be considered include the following:

(i) activities of competitors(ii) quality of the product(iii) potential life cycle of the product(iv) acceptability of the product(v) continual demand for the product(vi) availability of other components

(v) availability of raw materials.



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EXAMINER‟S REPORT

The question tests candidates‟ knowledge of Capital Budgeting. The generalperformance of candidates was extremely poor. The candidates lacked adequate

understanding of the question and parts thereof because they seemed to haveforgotten the technicalities and theoretical background behind Capital Budgeting.

The candidates failed to identify the required figures for the computation of Cash Flowforecast to calculate the Net Present Value. In part (b), they failed to identify thestrengths and weaknesses in the company‟s budgeting process as revealed in thecase. Most candidates also failed to identify other factors to be taken intoconsideration in project selection apart from Cash Flow as asked for in part (c).

Candidates need to realize that Capital Budgeting is an important area in

management and a good understanding of this is required of a competent accountant. Therefore candidates must ensure adequate knowledge of this topic in the future.

SOLUTION 3

(b) Calculation of Expected Time Activity

Activity Timea m b tei

A 1 – 2 4 6 8 6

B 2 – 3 5 7 15 8C 2 – 4 4 8 12 8D 3 – 6 15 20 25 20E 3 – 5 10 18 26 18F 4 – 6 8 9 16 10G 5 – 7 4 8 12 8H 6 – 7 1 2 3 2I 7 – 8 6 7 6 7

where tei

= a + 4m + b6



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E18 G

B 8

A 8 D 76 20 I

8 2C H

10F

Paths Durations

A – B –E – G – I 6+ 8 + 18 + 8 + 7 = 47A – C – F – H – I 6 + 8 + 10 + 2 + 7= 33A – B – D –H – I 6 + 8 + 20 + 2 + 7= 43

Therefore, the critical path is A – B – E – G – Iand expected time the Project would be completed is 47 days.

0

2

1

5

4

3

67



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(c) Step 1: Computation of NPV – should the equipment be purchased.

COMPUTATION OF PROJECT ANNUAL AFTER TAXCASH FLOW ASSOCIATED WITH EQUIPMENT PURCHASE

YEAR 1 2 3 4 5

N000 N000 N000 N000 N000 N000 N000 N000 N000 N000

Bookprofit

Cashflow

Bookprofit

Cashflow

Bookprofit

Cashflow

Bookprofit

Cashflow

Bookprofit

Cashflow

Annual cash revenues 500 500 500 500 500 500 500 500 500 500

Less depreciation 300 - 300 - 300 - 300 - 300 -

Net revenue before taxes 200 500 200 500 200 500 200 500 200 500

Less taxes 50% 100 100 100 100 100 100 100 100 100 100

Annual after tax cash flow 400 400 400 400 400




COMPUTATION OF NET PRESENT VALUE

Year Annualcash flow

D. F. Present value

0 1,500,000 1.0 (1,500,000)1 400,000 0.8926 357,0402 400,000 0.7972 318,8803 400,000 0.7118 284,7204 400,000 0.6355 254,2005 400,000 0.5674 226,960

5 Salvage 105,000 0.5674 59,577Net present value 1,377

COMPUTATION OF THE NET ADVANTAGE OF LEASE

Year After-taxoperating

expenses paidby lessor

After-taxrental

expenses

Tax shieldinterest

Tax shield ondep.

Total

1 50,000 210,000 75,000 150,000 (385,000)2 50,000 210,000 62,716 150,000 (372,716)3 50,000 210,000 49,204 150,000 (359,204)4 50,000 210,000 34,341 150,000 (344,341)5 50,000 210,000 17,991 150,000 (327,991)

Year Total D. F. Present value

1 (385,000) 0.9091 350,0042 (372,716) 0.8264 308,0133 (359,204) 0.7513 269,8704 (344,341) 0.6830 235,1855 (327,991) 0.6209 203,650

(1,366,722)

Salvage value 105,000 105,000 0.5674 59,577Initial outlay 1,500,000(Net advantage of lease) 73,701



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P. E. I EXAMINATION – NOVEMBER 2010

181

AMORTISATION SCHEDULE

Year Instalmentpayment

Interest Principalrepayment

Balance

0 - - - 1,500,000.001 395,673.96 150,000.00 245,673.96 1,254,326.042 395,673.96 125,432.60 270,241.36 984,084.683 395,673.96 98,408.47 297,265.49 686,819.194 395,673.96 68,681.92 326,992.04 359,827.155 395,673.96 35,982.72 359,691.24 135.91

Annual instalment payment =

i

nr )1(1

000,500,1

=791.3

000,500,1

= N395,673.96

Decision criteria: First the project‟s NPV of purchase of N1,377 indicating that theasset should be purchased. However, the net advantage to leasing, it was found

that the financial lease was the preferred method of financing the acquisition ofthe equipment.

EXAMINER‟S REPORT

The question tests candidates‟ knowledge of Leasing and Critical Path analysis. The question in Part (a) and (b) was on Critical Path Analysis while part (c) was onLease or Buy Option. Only few candidates had an idea of Critical Path analysis and

the few were unable to draw the chart accurately. Consequently, they failed toidentify the path and compute the project completion time.

In Part (c), most candidates could not calculate the Cash Flows required forevaluating the Lease or Buy decision.

As a result of the above, candidates‟ performance was very poor. Once again, candidates are enjoined to always remember that they need theknowledge of previous subjects they have passed earlier to properly answerquestions in Multi Disciplinary Case Study.



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SOLUTION 4

(a) Attitude can be defined as a predisposition or readiness to respond in acertain way to a person, object, idea or situation.

The three components of attitudes are: cognition, affect and behavior. The cognition component is beliefs and perceived knowledge about the subject ofthe attitude.

The affective component includes the feelings associated with the subject, oftenconveying likes and dislikes.

The behavioural component stems from the perceptions and feelings as anintention to act in a certain way.

(b) Weakness in the internal control of the new computerised system:(i) The major computerized function is permanently assigned to a

specific computer operator.

(ii) A single computer operator is responsible for program changes,running the program and recruiting the computer log.

(iii) The system analyst and supervisor of the computer operators do nothave access to the computer room.

(iv) Responsibility for the custody and control of the magnetic tapes anddocumentation is solely with the computer operators.

(v) Inconsistent policies.

Weakness in the processing and controlling shipping notices and customerinvoices:(i) The billing clerk enters the price as well as prepares daily adding

machine tapes of units shipped without anybody checking his work.

(ii) Omission of batch totals and processing controls from the system.

(iii) The shipping notice goes only to the General Accounting, not toinventory or purchasing department or other relevant units.

(iv) The daily sales show only the aggregate total of units shipped.

(v) The distribution of the invoices.



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EXAMINERS‟ REPORT

The question tests students‟ knowledge of management theory of attitude andinternal control system in auditing.Part (a) of the question asked for the definition of attitude and its components inthe context of the case while part (b) asked the candidates to identity the weaknesses in the Internal Control. Many candidates understood the question butfound it difficult to properly define attitude and its components. Also candidatesfound it difficult to identify the internal control weaknesses and inefficiency in theprocedures for processing and controlling shipping notices to aid customerinvoices.Candidates should learn how to sift through procedures and identify weaknessesinherent in a procedure.

SOLUTION 5

(a) Before commencing a management audit engagement, it is pertinent for theauditor to plan and outline briefly and concisely an audit programme as itrelates to the areas being studied. The following steps represent the realcrux of an efficient management audit programme.

Step 1: Organisation structure. The auditor should study the organization andcompare the existing structure with that shown in the company‟s organization chart(if any).

Step 2: Policies and practices. The auditor should carry out a study to find out what action must be taken to improve the effectiveness of the policies andprocedures.Step 3: Regulations. Determine whether or not due regard has been given by thecompany for full compliance with all local, state and federal regulations.

Step 4: Systems and procedures. Study the systems and procedures for possibledefects or irregularities in the elements examined and seek out methods to bringabout possible improvements.

Step 5: Operations. Evaluate operations to ascertain what is necessary for incomeeffective controls and efficient results.

Step 6: Personnel. Study the general personnel requirements and their applicationto the work in the area under appraisal.



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Step 7: Layout and physical equipment. Determine whether or not improvementcould be made in the layout and in better or greater use of physical equipment.

Step 8: Report. Prepare a report of findings with suggested recommendations forimprovement.

(b) The contents of management audit report (in outline form).

(i) Purpose and scope of engagement.(ii) Facts of major importance.(iii) Matters discussed with supervisors/managers.(iv) Details of current practices.(v) Recommandation.(vi) Appendices/exhibits.

EXAMINERS‟ REPORT

The question tests the steps to follow in carrying out a management audit.Ordinarily, the question should not pose any problem for any serious candidate.However, majority of the candidates lacked proper and in-depth understanding ofthe topic and as such most of those who attempted the question peformed poorly.

Candidates are advised to study widely in the course of preparation for futureexaminations.

SOLUTION 6

(a) There are various ways of protecting computer systems from unauthorizedassessment which include the following:

1. Operations Security:(i) to prevent unauthorized users to access or use data.(ii) to prevent authorized users from misusing the data or

damaging it through ignorance

2. Preventive and Proactive measures. These measures include:(i) precautionary measures to safeguard the system from external

threats and unauthorized persons e.g. use of passwords



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(ii) measures to obstruct, protect and defend the system fromillegal operations e.g. use of operators permissions, restrictionto certain functions.

3. Detective measures which include:(i) measure to sense and report unauthorized operations(ii) measure to discover and identify illegal operations and

intruders.

4. Physical security. This includes the following controls:(i) physical access control(ii) fire prevention and detection equipment(iii) storage of working media in fireproof stations.

(b) The key motivating factors at PROSPECT GROUP include the following:

(i) Reward for hardwork through higher pay.(ii) Cooperative attitude encouraged by management.(iii) Openness, commitment and sincerity of top management.(vi) Maintenance of favourable relationship with unions.(v) Part ownership of the company by employees.(vi) Boost of morale of employees by installation of computer system.(vii) Provision of conducive work environment.(viii) Low employee turnover due to flexible rules for its employees.

(c) A company‟s capital may be restructured for the following reasons:

(i) As a possible alternative to liquidation.(ii) To tidy up a balance sheet which might otherwise show large number

of different reserves.(iii) A capital re-organisation scheme may be used to effect a change in

the relative rights of different classes of shareholders.(iv) When operating losses are being incurred continuously.

(v) The book value of the ordinary share capital is overstated.(vi) The company is unable to meet its obligations as and when due.(vii) There is rapid labour turnover particularly loss of skilled labour.(viii) The fixed assets of the company are too weak or old to put the

company into the path of success and growth.