CPA(U) FR Exam 1

Goodwill on acquiring Lugazi Oilseed Crushers Ltd (Shs million)

• Fair value of the share consideration: 12 million x Shs 160 = shares 1,920; plus cash 1,000 = consideration of 2,920
• Non-controlling interests at fair value: 12 million x Shs 75 = NCI 900
• Total of consideration and NCI = 2,920 + 900 = 3,820
• Retained earnings at 1 July 2025: 2,040 + 6/12 x 880 (440) = 2,480
• Identifiable net assets at acquisition: share capital 480 + retained earnings 2,480 + fair value uplift on plant 480 = 3,440
• Goodwill at acquisition = 3,820 less 3,440 = 380
• Carrying amount at 31 December 2025 = 380 less impairment 60 = 320

The 12 million new shares are measured at their fair value (market price) at the acquisition date, not at their nominal value. Because non-controlling interests are measured at fair value, this is full goodwill covering both the parent's and the NCI's share.

📋 Objective: 22.5 (Fair value of consideration and of net assets acquired)

Bugolobi Edible Oils Ltd group: consolidated statement of profit or loss for the year ended 31 December 2025 (Shs million)

Workings (Lugazi is consolidated for six months, July to December 2025)

• W1 Revenue: 14,200 + 6,400 x 6/12 (3,200) less intra-group sales 750 = 16,650
• W2 Cost of sales: 8,520 + 4,160 x 6/12 (2,080) less intra-group purchases 750 + unrealised profit 50 (250 x 20%) + additional depreciation 30 (480 / 8 x 6/12) = 9,930
• W3 Distribution costs: 1,150 + 420 x 6/12 (210) = 1,360; administrative expenses: 1,380 + 500 x 6/12 (250) + goodwill impairment 60 = 1,690
• W4 Finance costs: 260 + 80 x 6/12 (40) = 300; income tax: 870 + 360 x 6/12 (180) = 1,050
• W5 Non-controlling interests: Lugazi's post-acquisition profit 440 less unrealised profit 50 (Lugazi was the seller) less additional depreciation 30 = 360; 25% x 360 = 90, less 25% of the impairment (15) = 75

📋 Objective: 22.4 (Preparing group financial statements for a simple structure)

Bugolobi Edible Oils Ltd group: consolidated statement of financial position at 31 December 2025 (Shs million)

Workings

• Goodwill from part (a): 380 less impairment 60 = 320
• Property, plant and equipment: 9,800 + 3,260 + fair value uplift 480 less additional depreciation 30 = 13,510
• Inventories: 1,860 + 980 less unrealised profit 50 = 2,790
• Intra-group current account of 150 cancelled: trade receivables 1,420 + 760 less 150 = 2,030; trade payables 1,950 + 650 less 150 = 2,450
• Bank: 340 + 210 = 550; loan notes 2,000 + 800 = 2,800; current tax 870 + 360 = 1,230
• Group retained earnings: Bugolobi 6,820 plus 75% of Lugazi's adjusted post-acquisition profits 360 (2,920 less 2,480 less 50 less 30), which is 270, less the parent's share of impairment 45 (75% x 60) = 7,045
• Non-controlling interests: 900 at acquisition + 25% x 360 (90) less 25% x 60 (15) = 975
• The investment of 2,920 is eliminated against Lugazi's equity at acquisition and replaced by goodwill.

📋 Objective: 22.4 (Preparing group financial statements for a simple structure)

Fair value measurement of NCI. Measuring non-controlling interests at fair value (900) gives full goodwill: the 380 includes goodwill attributable to the non-controlling interests as well as to the parent. Under the alternative proportionate share of net assets method, NCI would be 25% x 3,440 = 860 and goodwill only the parent's 340. Because goodwill belongs to both owner groups, the impairment of 60 is split 75:25 in the subsidiary's ownership ratio (45 to the parent, 15 to NCI); under the proportionate method all of it would fall on the parent.

Intra-group trading. IFRS 10 treats the group as a single economic entity, so the 750 of sales is internal: it is removed from revenue and cost of sales, and the margin on oil still held (50) is unrealised until sold outside the group. Lugazi was the seller, so the adjustment cuts the subsidiary's profit and the NCI bears its 25%. The 150 current account is cancelled because the group cannot owe itself.

📋 Objective: 23.4 (Consolidation procedure)

Athi River Polypipes Ltd: statement of cash flows for the year ended 30 June 2026 (KES million)

Cash flows from operating activities

Cash flows from investing activities

Cash flows from financing activities

Net decrease in cash 60; cash at 1 July 2025 420; cash at 30 June 2026 360.

Workings

• Working capital: inventories fell by 170 (cash inflow); receivables rose by 390 (outflow); payables fell by 55 (outflow): inventories 170, receivables 390, payables 55
• Interest paid: opening accrual 40 + finance costs 200 less closing accrual 65 = 175
• Tax paid: opening current tax 440 + charge 620 less closing current tax 520 less deferred tax increase 50 (410 less 360) = 490
• PPE additions: closing 8,790 less opening 6,180 + depreciation 760 + carrying amount of disposal 230 = 3,600
• Shares for cash: share capital rose by 500, of which 200 was the non-cash bonus issue, so 300 + share premium 450 = 750
• Dividends: opening retained earnings 3,140 + profit 1,440 less bonus issue 200 less closing 3,860 = 520

📋 Objective: 3.6 (Determining cash flows from statements and notes)

The operating activities generated 2,010, comfortably more than profit after tax of 1,440, so profits are backed by cash. The business was able to pay interest (175), tax (490) and the dividend (520) from internal funds, leaving about 1,500 of operating cash towards reinvestment. Working capital management is mixed: inventory was run down by 170, but receivables rose by 390 much faster than revenue, which suggests slower collection from county water companies and contractors; credit control needs attention.

Capital expenditure of 3,600 is almost five times depreciation (760), so the company is expanding capacity rather than merely replacing worn-out lines. This was funded partly by 1,750 of new external finance (shares 750 and loan notes 1,000). The extra borrowing raises gearing and future interest, so returns from the new lines must come through.

Overall cash fell by only 60 to 360, but the closing balance is thin for a business of this size. If the expansion continues at this pace while receivables keep growing, the company may need further borrowing, so the board should match the dividend and investment plans to the cash the operations produce.

📋 Objective: 3.8 (Interpreting a statement of cash flows)

IAS 23 requires borrowing costs directly attributable to a qualifying asset to be capitalised. The plant takes a substantial period to get ready, so it is a qualifying asset. Capitalisation starts when expenditure, borrowing costs and construction activity are all taking place, which is 1 March 2025, not 1 January. It ceases when the asset is substantially complete on 31 October 2025, so the capitalisation period is 8 months (eight months). The April stoppage is a normal, expected delay for the area, so capitalisation is not suspended.

• Interest for the capitalisation period: 6,000 x 12% x 8/12 = 480
• Less investment income earned on the specific borrowing in the same period 45: borrowing costs capitalised = 435
• Interest for January, February, November and December (4 months) is expensed: 6,000 x 12% x 4/12 = interest expense of 240; the 20 earned before construction started is investment income in profit or loss
• Cost of the plant: 8,565 + 435 = 9,000
• Depreciation for November and December: 9,000 / 10 x 2/12 = depreciation of 150; carrying amount 8,850

📋 Objective: 15.4 (Accounting treatment of borrowing costs)

IAS 20 recognises a grant once there is reasonable assurance that the conditions will be met and the grant received; the directors do not plan to sell the plant, so the repayment condition is a contingency only. A grant related to an asset is recognised in profit or loss on a systematic basis over the asset's useful life, so that the income is matched with the depreciation it helps fund.

Deferred income method: credited to profit or loss for 2025: 3,000 / 10 x 2/12 = grant income 50. Deferred income at 31 December 2025 = 3,000 less 50 = 2,950, split into a current liability of 300 (next year's release) and a non-current liability of 2,650.

Alternative (netting) method: the grant is deducted from the asset's cost, giving a net cost of 6,000; depreciation is 6,000 / 10 x 2/12 = 100 and the carrying amount at 31 December 2025 is 5,900. Profit is the same under both methods, but the deferred income method shows the full asset cost and the liability gross.

📋 Objective: 14.3 (Accounting treatment of grants and forgivable loans)

Building. Carrying amount at 31 December 2024: 5,000 less 9 years x 100 = 4,100. Revaluation to 4,920 gives a surplus of 820, credited to other comprehensive income and accumulated in the revaluation surplus. The revalued amount is depreciated over the remaining 41 years: 4,920 / 41 = depreciation 120 for 2025, so the building is carried at 4,800 at 31 December 2025.

Historical-cost depreciation would have been 100, so the excess depreciation 20 (120 less 100) is transferred from the revaluation surplus to retained earnings in the statement of changes in equity (not through profit or loss). Closing revaluation surplus = 820 less 20 = revaluation surplus 800.

Land. The land falls from 1,200 to 1,050, a revaluation deficit of 150. There is no earlier surplus on the land to absorb it, so the deficit of 150 is charged to profit or loss. A surplus on one asset cannot be used to offset a decrease on another, even in the same class. Land is not depreciated.

📋 Objective: 9.4 (Accounting treatment of property, plant and equipment)

Ratios for 2026 (2025 in brackets). Capital employed = equity + long-term bank loan: 29,342 (17,822); current liabilities 8,994 (5,508).

• Gross profit margin: 13,440 / 48,000 = 28.0%, about 28% (33.0%)
• Operating profit margin: 4,800 / 48,000 = 10.0%, about 10% (12.0%)
• Return on capital employed: 4,800 / 29,342 = 16.4% (24.2%)
• Asset turnover: 48,000 / 29,342 = 1.64 times (2.02 times)
• Quick ratio: 2,400 / 8,994 = 0.27 times, about 0.3 times (0.55 times)
• Inventory holding period: 9,936 / 34,560 x 365 = 104.9 days, about 105 days (79.9 days)
• Trade payables payment period: 6,614 / 34,560 x 365 = 69.9 days, about 70 days (65.4 days)
• Interest cover: 4,800 / 1,200 = 4.0 times, or 4 times (12.0 times)

📋 Objective: 21.2 (Computing and interpreting ratios)

Growth and margins. Revenue grew by 33.3% (from 36,000 to 48,000), driven by the fourteen new branches and the HMO contracts. Profit after tax nevertheless fell, from 2,772 to 2,520. The gross margin dropped from 33.0% to 28.0%: the weaker naira raised the cost of imported medicines, and the price war stopped the company from passing those costs on to customers. HMO business is usually priced on negotiated tariffs, which also dilutes margin. Operating margin fell less (12.0% to 10.0%), so overheads were well controlled despite the new branches.

Returns. ROCE fell from 24.2% to 16.4% and asset turnover from 2.02 to 1.64 times. New branches opened during the year have not yet traded for a full year and take time to build footfall, so the fall partly reflects immature branches; returns should recover as they mature.

Working capital and liquidity. The inventory holding period lengthened from 79.9 to 104.9 days. Some build-up is needed to stock new branches and to buy ahead of further currency falls, but medicines held longer risk passing their expiry dates, causing write-offs. The quick ratio halved from 0.55 to 0.27 and cash of 1,850 turned into an overdraft of 1,300. Receivables doubled because HMOs pay in arrears. Payables days rose from 65.4 to 69.9, a sign that suppliers are being stretched, which could threaten supply of essential lines.

Financing risk. Interest cover fell from 12.0 to 4.0 times as the loan rose from 3,000 to 10,000; any further rise in interest rates or another margin squeeze would erode this headroom, and loan covenants should be checked.

Conclusion. The expansion has diluted profitability and strained liquidity. The board should consider hedging or local sourcing to reduce exposure to the exchange rate, cut slow-moving stock, chase HMO settlements, and convert part of the overdraft into longer-term funding.

📋 Objective: 21.1 (Meaning, purpose and techniques of ratio analysis and interpretation)