ACCO342 Financial Reporting Project Question 2 On 1 April 20X5, Princethorpe Co acquired 80% of the equity share capital of Stowe Co, gaining control from that date

Question

ACCO342 Financial Reporting Project Question 2

On 1 April 20X5, Princethorpe Co acquired 80% of the equity share capital of Stowe Co, gaining control from that date. At the date of acquisition, shares in Stowe Co had a market value of $1.90 each. Princethorpe Co paid cash consideration of $2.25 per share purchased in Stowe Co. In addition to this, Princethorpe Co agreed to pay consideration of $0.15 per share on 31 March 20X6. Princethorpe Co has a cost of capital of 8% per annum.

Princethorpe Co has recorded the investment at the cost of the consideration paid in its individual financial statements

Below are the summarised draft financial statements of both companies.

STATEMENTS OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME FOR THE YEAR ENDED 31 DECEMBER 20X5

	Princethorpe Co $’000	Stowe Co $’000
Revenue	156,500	75,000
Cost of sales	(114,500)	(63,450)
Gross profit	42,000	11,550
Distribution costs	(5,000)	(3,640)
Administrative expenses	(8,750)	(4,500)
Finance costs	(500)	-
Profit before tax	27,750	3,410
Income tax expense	(7,750)	(1,026)
Profit for the year	20,000	2,384

STATEMENTS OF FINANCIAL POSITION AS AT 31 DECEMBER 20X5

	Princethorpe Co $’000	Stowe Co $’000
ASSETS
Non-current assets
Property, plant and equipment (not i)	38,500	21,200
Investments	32,400	-
	70,900	21,200
Current assets
Inventories (note(iii))	14,300	3,650
Trade receivables	10,700	7,000
Cash and cash equivalents	3,510	800
	28,510	11,450
Total assets	99,410	32,650

	Princethorpe Co $'000	Stowe Co $'000
EQUITY AND LIABILITIES
Equity
Equity shares of $1 each	20,000	18,000
Equity reserve – convertible loan	500
Retained earnings	63,150	8,750
	83,650	26,750
Non-current liabilities
Convertible loan	4,500
Loan	1,800	-
Current liabilities
Trade payables	2,460	4,700
Current tax payable	7,000	1,200
	9,460	5,900
Total equity and liabilities	99,410	32,650

The following information is relevant:

(i) At the date of acquisition, it was assessed that Stowe Co's main storage warehouse had a fair value of $5 million in excess of its carrying amount. Stowe Co has not incorporated the fair value increase on the warehouse into its financial statements. Additional depreciation charges (part of distribution expenses) of $80,000 would have arisen in the post-acquisition period to 31 December 20X5 had the fair value increase been recorded.

(ii) The goodwill which arose on the acquisition of Stowe Co has been impaired by $1 million as at 31 December 20X5. Goodwill impairment should be treated as an administrative expense.

(iii) Sales in the post-acquisition period to 31 December 20X5 from Princethorpe Co to Stowe Co throughout the year ended 31 December 20X5 were $800,000. Princethorpe Co applied a mark-up on cost of 20% to all of these sales. Stowe's closing inventory includes goods worth $360,000 (at cost to Stowe Co) is included in Stowe Co's inventory at 31 December 20X5 that had been supplied by Princethorpe Co in the post-acquisition period.

(iv) Princethorpe Co's policy is to value the non-controlling interest at fair value at the date of acquisition. For this purpose Stowe Co's share price at that date can be deemed to be representative of the fair value of the shares held by the non-controlling interest.

(v) The directors of Princethorpe Co believed the market had reacted favourably to its acquisition of Stowe and decided to issue new share capital whilst interest in the company was strong. On 31 October 20X5, Princethorpe Co issued an additional 5 million of ordinary shares at a premium of $0.50 per share. This issue has not yet been accounted for in the draft financial statements at 31 December 20X5.

(vi) Assume, that all items of income and expenditure accrue evenly throughout the year.

(Round any results to the nearest thousand.)

Required

(a) Calculate the goodwill arising on the acquisition of Stowe Co on 1 April 20X5.

(b) Prepare the consolidated statement of profit or loss for Princethorpe Co for the year ended 31 December 20X5 (you do not need to prepare the consolidated statement of other comprehensive income)

(c) Princethorpe Co issued a convertible loan of $5 million on 1 December 20X95. The convertible loan has been correctly accounted for in Princethorpe Co's financial statements, and the finance cost calculated includes the effective interest on the loan pro-rata, as well as the interest cost on other debt. The coupon rate on the convertible loan is 6% (with the current market rate for loans of this type currently at 15%). In order to make the loan more attractive to potential investors, the conversion to equity in two years’ time will compensate for the low interest rate. It is proposed that the conversion will be at 2 shares for every $1 of loan stock held. The directors of Princethorpe Co cannot understand why the convertible loan stock has an impact on the EPS disclosures made.

(i) Calculate the basic EPS for Princethorpe Co at 31 December 20X5. (Show your answer to two decimal places.)

(ii) Calculate the diluted EPS for Princethorpe Co at 31 December 20X5. Tax rate is 30%.

(iii) Describe how IAS 32 Financial Instruments: Presentation and |AS 33 Earnings per Share require the impact of the convertible loan to be included in EPS disclosures.