Question Tag: Divestment Options

Despite the global recession, demand for the company’s products has recently increased and is expected to grow over the next two years.

As part of a recent strategic review, the directors made the following projections for the years ending March 31, 2018, and March 31, 2019:

1. An anticipated annual revenue increase of 8% for each year.
2. Operating costs (excluding depreciation) expected to rise by 4% per year.
3. Tax rate to remain at 21%, payable in the year liability arises.
4. The trade receivables/revenue and trade payables/operating costs ratios will stay the same.
5. Inventory levels to increase by 10% in the year ending March 31, 2018, and then remain stable.
6. Non-current assets, including Lekki Plc.’s headquarters and factory, are not depreciated, and capital allowances are negligible.
7. Dividend growth rate to remain at 6% annually, with dividends declared at the year-end and paid the following year.
8. Purchase of new machinery at N8 million, financed through existing overdraft facilities. Machinery to be depreciated straight-line over 8 years with a N1 million residual value; capital allowances will apply at 18% reducing balance.
9. Finance costs are projected to increase by 50% in the year ending March 31, 2018, and remain stable thereafter.

Financial Statement Extracts (March 31, 2017):

• Income Statement:
  • Revenue: N60,240,000
  • Operating Costs: N49,500,000
  • Operating Profit: N10,740,000
  • Finance Costs: N800,000
  • Profit before Tax: N9,940,000
  • Tax: N2,286,000
  • Profit after Tax: N7,654,000
• Statement of Financial Position:
  • Assets:
    • Non-current Assets: N28,850,000
    • Current Assets:
      • Inventories: N9,020,000
      • Trade Receivables: N9,036,000
      • Cash and Equivalents: N396,000
  • Equity and Liabilities:
    • Ordinary Share Capital: N16,700,000
    • Retained Earnings: N12,482,000
    • Non-current Liabilities: N8,000,000 (6% Debentures)
    • Current Liabilities: N10,120,000 (Trade Payables, Dividends)

Assume today is April 1, 2017.

a. Prepare a Forecast Financial Statement (Income Statement, Statement of Financial Position, and Cash Flow Statement) for each of the years ending March 31, 2018, and March 31, 2019.
(24 Marks)

Note: All calculations should be rounded up to the nearest N’000.

b. Beyond March 31, 2019, the directors are considering the disposal of a smaller subsidiary due to poor performance. The Finance Director suggests avoiding liquidation to minimize industrial relations issues.

Required: Discuss three non-liquidation methods to divest the subsidiary.
(6 Marks)