CAMBRIDGE INTERNATIONAL EXAMINATIONS JUNE 2002 GCE ADVANCED SUBSIDIARY AND ADVANCED LEVEL MARK SCHEME SYLLABUS/COMPONENT : 9706/4 ACCOUNTING University of Campeince Local Examinations SyndiestePage 1075 Mark Scheme Syllabus | Paper ‘AS and A Lavel Examinations - June 2002 9706 4 Question 1 Oitar ple (a) (interest cover: 1000/a5'= 4 times QS, ) (8) dividend cover: 7-787 = 1.8 times &) {ii} earnings per share: 69000 /aps doo = S1.575) (114-5 ota wuiattend') (iv) price earnings ratio: #/.8E = 19 {2} ; a ty 1) (e} dividend yield : 8:75 x 9735 ~ 2.9% (4) vi} gearing: [debentures = $250k x 190/12. = $2 000K) (1) 2000 000+ 1 $0 00074 999 a00« 9.690 + sve 000% 100 = 41.7% By alternatively . - TK 200000 + 0009/9 000» sen ona = 71.4% C2) x {i Interest cover shows how many tites interest payments are covered by ‘operating profit{))It is an indication of the risk that future profits may be insufficient to cover interest payments. {The risk that interest payments men z= ‘a small profit into a loss;(I) that future dividends might be at risk, (ii) Dividend cover shows how many times the ordinary dividend is covered by profit available for the dividend. ())A low cover might indicate that future dividends are at risk if profitability declines (I) Dividend cover may reflect the directors’ dividend policy (1)\ high cover usually indicates a conservative policy.(17) (iii) Earnings per share shows how much profit after tax and preference dividends is attributable to each ordinary share {J) All profits after tax and preference dividends belong to the ordinary sharcholders(f} It is a more informative measure of ordinary shareholders’ fortunes than dividend cover, (\}Investors usually regard EPS as a convenient measure of the success of a company. (1) (iv) Price earnings ratio relates the market price of a share to the earnings per share.(\) It may be regarded as the number of years’ earnings that investors are prepared to pay for in the purchase price of a company’s shares. (|) ‘the higher the PER, the greater the confidence of investors in the abilify of the company to maintain the EPS. (I’) (v) Dividend yield expresses the dividend as a percentage of the market price of a share. ({'This is should be of more interest to investors than dividend expressed as a percentage of the nominal value of each share, or the number of cents per share. (1°) v (vi) Gearing is calculated as Sed cox cxrtat/ SD ntact coneapis whens fixed cost, ital jgcludes long term loans (usually debentures} and preference share capitaahd equity incindes ordinary share capital plus all reserves.. (J ) ORIf the alternative answer is given to (al(vif: Fao! emt caritl/agiy Gearing is expressed as a percentage. (I) Calculated in this way, 50% is regarded as neutral gearing, > 50% isBrtenating (7. other Pour noe Page 2 of Mark Schome “Syllabus | Paper ‘AS and A Level Examinations - June 2002 ‘9708 4 considered as high and < 50% as low. (1) Alternatively, gearing is sometimes calculated as tet wx pital jeauiny. Cadets in this way 100% is ‘neutral’, > 100% is ‘high’ and < 100% is tow’. Cl Highly ware companies may pose greater risk to ordinary shareholders. because fixed cost capital must be rewarded in priority to holders of ‘equity'() The risk is that profits may decrease.(+ D Q) (esc 2 Aaa) ris (b) (i) Interest cover has fallen by 27%(I)Itis stil satisfactory but if it —_— falls too far the shareholders’ dividends may be at risk. (1 Dividend cover has fallen from 2.5 x to 1.8x())if profits aré not at least maintained, the shareholders’ dividends could be at risk. ( Price earnings ratio has declined from 22 to 1944) This seems to indicate that investors are less confident that the company will maintain its present profitability in furure. {4} Gearing has increased by 5% ({) It is still low but shows that the = propordoa of loan capital has increased. 0) (Qefea to vempouae. 1 Parcios) 8 (i) Other evidence: Rect G) Investigate prior years (before 2001) to ascertain trends. (I) inmates Check inter-firm comparisons if possible (1) Unless Qnkad 4 See direccors' report for recommended dividends, @) overview of Weeotages — company’s performances bositions(|)future trading etc) Ceenyoreon| ‘See the auditors’ report for any quelifications arising from audit: (1) opinions as to company’s ‘going concern’ status (1) dependence upon continuation of bank loans /overdrafts or provision of additional finance. {1} QUESTION 2 fe) Joloss ple Balance Sheet immediately after capital reduction on 1 May 2002 oO) yy, B0008 $0008 . ‘Fongibte Hiked assets ( 650 ~180) 500 (1, (Rerticrver Current assets DG Corrupted a Gut, 2 mS" ebtors - Bene CSD a2 Creditors: amounts falling due within one year 420. 50 . Stat jh net, Ordinary shares of $0.55 (44 iE ngtoncs 550 715 BEE creas tio a graces) crease) LO (i) ‘The net asset value of Joloss plc's shares before capital reduction was 1090. 459/ 960 = $0.55. C1’) ‘The capital reduction itierely recognises the reality of the situation.( | Reduction in the nominal value of cack share does not entail any fubthfer loss to the shareholders. (1) ‘The shareholcers will stand to receive dividends equal to $0.25 per share as soon as the company realises the profits forecast by the directors. (1 ithe shareholders had rejected the scheme, they would have had to wait for over three years before the expected profits would have eliminated the debit balance on the P & L account to enable dividends to be paid. (4) (Other pointe may be acoeptabiel C4, _ One ne Simrastn) Ss