Question 11.SE.6: Pisces plc produced the following statement of financial pos...
Pisces plc produced the following statement of financial position and income statement at the end of the third year of trading:
| Statement of financial position as at the end of the third year | |
| £m | |
| ASSETS Non-current assets |
|
| Property | 40.0 |
| Machinery and equipment | 80.0 |
| Motor vans | 18.6 |
| Marketable investments | 9.0 |
| 147.6 | |
| Current assets | |
| Inventories | 45.8 |
| Receivables | 64.6 |
| Cash | 1.0 |
| 111.4 | |
| Total assets | 259.0 |
| EQUITY AND LIABILITIES Equity |
|
| Share capital | 80.0 |
| Retained earnings | 36.5 |
| 116.5 | |
| Non-current liabilities | |
| Loan notes | 80.0 |
| Current liabilities | |
| Trade payables | 62.5 |
| Total equity and liabilities | 259.0 |
| Income statement for the third year | |
| £m | |
| Sales revenue | 231.5 |
| Cost of sales | (143.2) |
| Gross profit | 88.3 |
| Wages | (43.5) |
| Depreciation of machinery and equipment | (14.8) |
| R&D costs | (40.0) |
| Allowance for trade receivables | (10.5) |
| Operating loss | (20.5) |
| Income from investments | 0.6 |
| (19.9) | |
| Interest payable | (0.8) |
| Ordinary loss before taxation | (20.7) |
| Restructuring costs | (6.0) |
| Loss before taxation | (26.7) |
| Tax | – |
| Loss for the year | (26.7) |
An analysis of the underlying records reveals the following:
- R&D costs relate to the development of a new product in the previous year. These costs are written off over a two-year period (starting last year). However, this is a prudent approach and the benefits are expected to last for 16 years.
- The allowance for trade receivables was created this year and the amount is very high. A more realistic figure for the allowance would be £4 million.
- Restructuring costs were incurred at the beginning of the year and are expected to provide benefits for an infinite period.
- The business has a 7 per cent required rate of return for investors.
- The capital employed at the end of the year fairly reflects the average capital employed during the year.
Required:
Calculate the EVA® for the business for the third year of trading.
Pisces plc
| Adjusted NOPAT | ||
| £m | £m | |
| Operating loss | (20.5) | |
| EVA® adjustments | ||
| R&D costs (40 – (1/16 × 80)) (Note 1) | 35.0 | |
| Excess allowance | 6.5 | 41.5 |
| Adjusted NOPAT | 21.0 | |
| Adjusted net assets (or capital invested) | ||
| £m | £m | |
| Net assets per statement of financial position | 196.5 | |
| Add | ||
| R&D costs (Note 1) | 70.0 | |
| Allowance for trade receivables | 6.5 | |
| Restructuring costs | ||
| (Note 2) | 6.0 | 82.5 |
| 279.0 | ||
| Less Marketable investments | (9.0) | |
| Adjusted net assets | 270.0 | |
Notes:
- The R&D costs represent a writing back of £40 million and a writing off of 1/16 of the total cost of the R&D as the benefits are expected to last 16 years.
- The restructuring costs are added back to the net assets as they provide benefits over an infinite period. EVA® can be calculated as follows:
EVA® = NOPAT – (R × C)
= £21 m – (7% × £270 m)
= £2.1 m
Thus, the EVA® for the period is positive even though an operating loss was recorded. This means that shareholder wealth increased during the third year.
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