Question 1 (10 marks)

Read the following scenario and answer the questions that follow:

Funky Coffee (Pty) Ltd is a chain of coffee shops focusing on sustainably sourced coffee beans. It serves ready-made coffee, and it also sells the beans. It is loved by the local communities, as it provides flavoured coffees, for example, cinnamon, vanilla, chocolate etc. It has five retail outlets around South Africa. To fund the opening of two further shops, the company received a five-year loan from its bank. This is in addition to its existing debt. The bank has put some debt covenants in place to secure the companys debt. Below is Funky Coffees forecast Statement of Profit or Loss and Other Comprehensive Income for the year ended 31 March 2024:2024 RProfit before interest and tax950 000Interest expense200 000Profit before tax750 000Taxation210 000Profit after tax540 000

Additional information:

Existing borrowings are R1 million and forecast to be in place all year.

New borrowings of R2 million are forecast to be raised from 1 October 2023.

The interest rate charged on all the loans was forecast to be 10% per annum.

The tax rate is 28%.

Ordinary shares in issue all year were 1 200 000

Required:

1.1 Identify and explain one (1) possible loan covenant in the context of Funky Coffee. Also provide an example of how such a covenant could be applied to Funky Coffee. (2)

1.2 Interest rates are expected to rise to 12% per annum on all the companys bank loans. Restate Funky Coffees forecast Statement of Profit or Loss and Other Comprehensive Income for the year ending 31 March 2024, assuming the new interest rates are in effect all year. (4)

1.3 When working with the accounting equation, one must determine whether a debit entry is an asset or an expense. Explain the difference between an asset and an expense and provide an example of each within your explanation. (4).