83) HOPE CO.
You are a manager in Boyle & Co. One of your audit clients is Hope Co which operates commercial real estate properties typically comprising several floors of retail units and leisure facilities such as cinemas and health clubs, which are rented out to provide rental income.
Your firm has just been approached to provide an additional engagement for Hope Co, to review and provide a report on the company’s business plan, including forecast financial statements for the 12-month period to 31 May 20X3. Hope Co is in the process of negotiating a new bank loan of $30 million and the report on the business plan is at the request of the bank. It is anticipated that the loan would be advanced in August 20X2 and would carry an interest rate of 4%. The report would be provided by your firm’s business advisory department and a second partner review will be conducted which will reduce any threat to objectivity to an acceptable level.
Extracts from the forecast financial statements included in the business plan are given below:
Statement of profit or loss (extract)
Note FORECAST UNAUDITED
12 months to 12 months to
31 May 20X3 31 May 20X2
$000 $000
Revenue 25,000 20,600
Operating expenses (16,550) (14,420)
–––––– ––––––
Operating profit 8,450 6,180
Profit on disposal of Holt Retail 1 4,720 –
Finance costs (2,650) (1,690)
–––––– ––––––
Profit before tax 10,520 4,490
–––––– ––––––
Statement of financial position
Note FORECAST UNAUDITED
12 months to 12 months to
31 May 20X3 31 May 20X2
Assets $000 $000
Non-current assets
Property, plant and equipment 2 330,150 293,000
Current assets
Inventory 500 450
Receivables 3,600 3,300
Cash and cash equivalents 2,250 3,750
––––––– –––––––
6,350 7,500
––––––– –––––––
Total assets 336,500 300,500
––––––– –––––––
Equity and liabilities
Equity
Share capital 105,000 100,000
Retained earnings 93,400 92,600
––––––– –––––––
Total equity 198,400 192,600
––––––– –––––––
Non-current liabilities
Long-term borrowings 2 82,500 52,500
Deferred tax 50,000 50,000
Current liabilities
Trade payables 5,600 5,400
––––––– –––––––
Total liabilities 138,100 107,900
––––––– –––––––
Total equity and liabilities 336,500 300,500
––––––– –––––––
Notes:
1 Holt Retail is a retail park which is underperforming. Its sale is currently being negotiated, and is expected to take place in September 20X2.
2 Hope Co is planning to invest the cash raised from the bank loan in a new retail and leisure park which is being developed jointly with another company, Kestrel Co.
Required:
In respect of the engagement to provide a report on Hope Co’s business plan:
a) Identify and explain the matters that should be considered in agreeing the terms of the engagement.
Note: You are NOT required to consider ethical threats to objectivity.