Contents

• This report is based on the following case study -
• Kitchen Utensils Limited
• Background
• Location The Conference Room, Mirabel Grand Hotel, Scarborough
• Personnel Paul Murray: Managing Director, Kitchen Utensils Limited
• Sally Olowu: Chief Financial Accountant, Kitchen Utensils Limited
• Synopsis
• Paul Murray, the Managing Director of Kitchen Utensils Limited was a great believer incommunication. He tried very hard to make certain that his employees knew everythingthat was going on in the company. He insisted that every now and then groups ofemployees attended a conference in order to discuss the company’s progress.
• Kitchen Utensils was primarily a distribution company. It employed a large number ofsales personnel who were very good at selling. However, most of them found it difficultto translate sales into profit. Like many non-accountants they believed that an increaseof cash in the bank was the same as profit.
• Paul thought that it was about time that the sales people found out what profit reallymeant. Sally Olowu, the Chief Financial Accountant, had warned him that it was likelyto be a difficult and lengthy process. As a result, Paul had arranged a three-dayresidential conference for the sales force at the Mirabel Grand Hotel in Scarborough andthe accounting staff had been asked to prepare a series of lectures.
• Sally had drawn the short straw as she was required to give the main talk on thedetermination of accounting profit. She was keen to make sure that the sales people didnot get the idea that it was a matter of simple arithmetic. Based on the company’sresults, therefore, she extracted some data (which are summarized in the Appendix) thatwould enable her to demonstrate how different levels of profit could be calculated byusing different assumptions. Her major objective was to do so while still followingstatutory and professional requirements.
• As Sally had suspected, her lecture caused consternation among the sales staff. They didnot really understand what she was talking about. However, they did grasp one basicpoint: accounting profit could be manipulated (or ‘fiddled’ as they preferred to call it).In other words, by adopting different accounting policies and methods it was possible for a company to determine the level of profit that it wanted to report.
• This point was particularly annoying to the sales staff; indeed, they were more thanannoyed. Not only were they relentlessly driven to achieve higher and higher sales but itnow appeared that their quarterly bonus depended upon an arbitrary definition of profit!A bunch of very angry, bitter and frustrated sales personnel left Scarborough at the end of the conference feeling that they had been duped by the Directors of Kitchen UtensilsLimited.
• Appendix One
• Miscellaneous data for the year to 31 December 2011
• (1) Sales
• £’000
• Value of sales enquiries received during the year 7500
• Value of orders received during the year 6000
• Value of goods invoiced during the year 4800
• Value of goods delivered during the year 4400
• Cash received from customers during the year 5000
• Amounts owed by customers at 31 December 2010 4800
• Amounts owed by customers at 31 December 2011 640
• Note: The company operates a highly favourable sales policy that offers customers their money back within three months of a ‘sale’ taking place if they are not completelysatisfied with the goods. Experience shows that only about 1% of customers ever takeadvantage of this policy.
• (2) Purchases
• £’000
• Value of enquiries made during the year 4000
• Total amount invoiced by suppliers during the year 3000
• Total amount of goods received during the year 2800
• Cash paid to suppliers during the year 3500
• Amounts owing to suppliers at 31 December 2010 200
• Amounts owing to suppliers at 31 December 2011 240
• (3) Inventories
• The cost of goods in inventory at 31 December 2010 was £280 000, their net realizable value was £300 000 and the replacement cost £320 000. The cost of goods in inventory at 31December 2011 was £360 000, their net realizable value was £400 000 and thereplacement cost £430 000.
• (4) Expenses
• £’000
• General expenses (excluding advertising):
• paid during the year 1600
• amounts owing at 31 December 2010 120
• amounts owing at 31 December 2011 160
• amounts prepaid at 31 December 2010 40
• amounts prepaid at 31 December 2011 30
• Advertising expenditure paid during the year* 200
• * Market research indicates that the impact of an advertisingcampaign has a positive benefit on sales over a two yearperiod.
• (5) Fixed assets
• Buildings Furniture Vehicles
• £’000 £’000 £’000
• Purchased at:
• 1. 12.03 2000 40 30
• 1. 12.04 — — 160
• 30. 6.05 — — 40
• 31.12.06 — 10 400
• 31.12.07 — — 50
• There were no disposals of any fixed assets during the period 1 January 2003 to 31December 2011.
• The buildings are likely to have a life in excess of 50 years although it is expected that,the maintenance costs will increase as the buildings become older. It is estimated thatthe furniture could last for at least 20 years. The vehicles are subject to much misuse bythe company’s personnel and after a few months’ use; they spend more time in thegarage and less time on the road.
• The gross replacement cost and the net realizable value of the respective fixed assets at31 December 2011 was as follows:
• Gross replacementcost Net realizable value
• £’000 £’000
• Buildings 720 600
• Furniture 100 10
• Delivery vans 700 200
• (6) Bad and doubtful debts
• The company estimates that on average about 5% of the amounts owed to it bycustomers each year will prove to be uncollectible. However, depending upon generaleconomic circumstances, the figure has fluctuated between 2% and 10% over the lastten years.
• Appendix Two
• 2011 2010
• Return on capital employed 26.5% 24.1%
• Asset turnover 0.93 times 0.96 times
• Gross profit percentage to sales 45% 40%
• Debtors days 44 days 58 days
• Creditors days 14 days 14 days
• Stock days 94 days 123 days
• Current ratio 0.86 1.05
• Quick ratio 0.40 0.47
• Gearing 25% 24%
• Interest cover 6.6 times 4.7 times
• Dividend cover 1.5 times 1.2 times

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