Financial Analysis: CGU, Investment in Woolworths, Currency Issues

This document presents a comprehensive financial analysis, addressing three key areas: Cash Generating Units (CGU), investment analysis of Woolworths Limited, and foreign currency translation. The first part provides a letter explaining the concept of CGU and factors for its identification, focusing on impairment testing and AASB 136 guidelines. The second part is a report evaluating Woolworths Limited as a potential investment, analyzing profitability, debt ratios, and return on equity. The report highlights improvements in financial metrics and suggests the company is a good investment option. The final part discusses the scenario where a company's functional and presentation currencies differ, explaining foreign exchange differences and their impact on the financial statements, specifically the Foreign Currency Translation Reserve (FCTR).

Solution-1
Letter
To,
The Chief Financial Officer,
The Wentnor Dairy Company Ltd.
Dear Sir,
Subject: Explaining CGU and factors for identification of CGU
The required explanations regarding CGU and its impairment are as below:
A. A CGU or cash generating unit (or CGU) is a group of assets which can be separately identified
from other assets, and is capable of generating cash inflows on its own, meaning thereby the
cash inflows generated from such group of assets is independent of cash inflows generated by
other assets.
B. As per AASB 136 para 66, the impairment testing should be conducted on single asset basis, but
sometimes the testing cannot be done on single asset if the recoverable amount or value in use
for that asset is not available. In such a case, the impairment testing is conducted on a CGU
basis.
C. You should consider the following factors in determining the CGU for the company.
a. To ensure that whether the identifiable group of assets which generate independent
cash flows is available.
b. Whether an active market exists for the milk produced. Since, as per AASB 136, para 70,
if an active market exists for the produced product, than that division will be treated as
CGU irrespective of the fact that whether the milk produce is used internally or
externally.
So, on the basis of above factors, we conclude that the milk production section is a separate CGU.
Thanks,
With Regards,
XYZ

Solution-2
Part – B – Report
Report
This report is prepared for the potential investors to help them in analyzing the investment options in
Woolworths Limited’s.
Our observations are as below:
(i) The company’s profitability has been improved as compared to last year which is evident by
GP margin ratio which has been improved by 1.86%.
(ii) Further, the declining debt ratio and debt to equity ratio indicate that the debt portion has
been reduced from past year resulting in higher equity stake in the company, which makes it
a good investment option.
(iii) The company’s return on net sales ratio and return on total assets ratio has been
significantly improved as compared to past year.
(iv) The rate of return on ordinary shareholders equity has been tremendously improved this
year and is increased by 40.66%.
(v) The dividend payout has been reduced comparing the last year, meaning thereby company
is trying to accumulate the profits for future plans.
Considering the above factors, we conclude that the Woolworths Limited is a growing company and
is a good investment option for the investors.

Part – C
The ideal current ratio and quick ratio are 2:1 and 1.5:1 respectively. But a company’s ratio higher and
lower than this does not necessarily mean that the company is not performing well as these ratios highly
vary from company to company basis.
The Woolworths Limited is having the current ratio of 0.79:1 and quick ratio of 0.33:1. This means that
the company’s current assets are 79% of its current liabilities and similarly, the company's quick assets
are 33% of its current liabilities.
This situation may lead to temporary liquidity crunches for the company as the company’s current and
quick assets are not sufficient for paying off its current liabilities. However, it may be possible that the
company has some liquidity plans in back up of this.
So, it is advised to the company to maintain at least a ratio of 1:1 for current assets so that at any point
of time, the company is able to pay off its current liabilities.

Solution-3
The stated situation arises when a company’s functional currency and presentation currency is different,
this can be because of foreign operations. As the company is required to translate its entire operations
and transactions from functional currency to presentation currency for preparation of financials at the
reporting date, the company needs to translate its incomes, expenses, assets and liabilities to the
presentation currency.
So, when the items of financial statements are converted from the functional currency to presentation
currency, the differences arises due to change in exchange rates of the two currency and these
differences are known as foreign exchange difference. These differences are shown under statement of
changes in equity as changes in FCTR (Foreign Currency Translation Reserve).