BKAR3033 FINANCIAL ACCOUNTING AND REPORTING III A231

COMPREHENSIVE CASE 2
Due date : 17 December 2023

Cahaya Group has two subsidiary companies, Setia Perkasa Bhd and Mutiara Bhd, which
were acquired in business combination exercises fifteen years ago. In line with Cahaya Group
diversification business strategy, both subsidiary companies operate in two different
industries. Setia Perkasa Bhd, which operates in an industrial product sector, manufactures
special containers for transporting chemical substance. One of the features of the container is
an in-built insulation device that will keep the content of the containers cold. Meanwhile,
Damai Bhd, a company that committed with renewable and green energy, has produced a
device which, when attached to the outside of a container, could display the actual
temperature of the liquid inside. However, the appropriate way to attach the device to the
containers yet to be specifically determined. As Setia Perkasa Bhd was concerned that its
competitors may acquire the device from Damai Bhd, Setia Perkasa Bhd paid RM1.1 million
for the exclusive rights to use the device with containers. With regard to the issue in attaching
the device to the containers, Setia Perkasa Bhd believed that its research and development
team had the skills that would enable the company to determine the best way to do so.

Meanwhile, as part of the group diversification strategy, in the fourth quarter of 2019, Setia
Perkasa Bhd acquired Pertiwi Sdn Bhd, a small and unlisted company that specialised in
providing distribution service for chemical related products. The current return to
shareholders for a company in the same industry as Pertiwi Sdn Bhd is 8% although it is
expected that an additional risks premium of 2% will be applicable to Pertiwi Sdn Bhd due to
its smaller size and unlisted status. Meanwhile, a similar listed company to Pertiwi Sdn Bhd
has recently floated on the share market. The company has earnings per share of RM0.70 and
a current share price of RM12. Pertiwi Sdn Bhd recorded profit after tax for year 2017 and
2018 of RM298,000 and RM336,000 respectively. Meanwhile, based on several available
data such as Pertiwi Sdn Bhd historical performance and cash flows as well as its market
prospect, Pertiwi Sdn Bhd’s estimated cash flow for the next four years are as shown in Table
1 with the cash flow of Pertiwi Sdn Bhd beyond year four is expected to be indefinite.

Table 1: Pertiwi Sdn Bhd’s estimated cash flows

Year Net cash flow before tax

(RM)
2020 256,000

2021 273,000

2022 286,000

2023 310,200

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On the other hand, Mutiara Bhd produces silver and silver coated jewelry and products.
Mutiara Bhd anticipated that it needs to purchase 12,000 grams of silver in March 2020 for
jewelry to be sold for festival season. Due to uncertainty of the market, Mutiara Bhd
concerned that the price of silver may increase significantly due to shortage of silver supply.
Hence, on 1 October 2019 Mutiara Bhd entered into a silver forward contract, which will
expire on 31 March 2020, to hedge the risks of increased silver prices. The contract is
designated as a cash flow hedge of the anticipated silver purchase. The notional amount of
the contract is 12,000 grams of silver and the terms of the contract gave Mutiara Bhd the right
and the obligation to purchase silver at a price of RM550 per gram. The prices of silver
during the hedging period were as shown in Figure 1.

RM580
RM575 RM575
RM570
RM565 RM565
RM560 RM560
RM555
RM550 RM550 RM551

RM545
RM540
RM535
1-Oct-19 31-Dec-19 31-Mar-20

Spot price per gram

Forward price per gram maturing on 31 March 2020

Figure 1: Prices of silver during the hedging period

On 31 March 2020, Mutiara Bhd purchased 12,000 grams of silver for RM551 per gram and
made settlement on the forward contract. Mutiara Bhd processes the silver into silver coated
jewelry and products and the total cost of the finished products excluding the silver inventory
purchased in March 2020 is RM638,000. Mutiara Bhd managed to sell all its silver coated
jewellery and products in June 2020 for RM10,540,000.

Both Setia Perkasa Bhd’s and Mutiara Bhd’s accounting year ends on 31 December.

2
REQUIRED:

(a) Based on the FOUR (4) procedures stated in MFRS 13 Fair Value Measurement
discuss the process of determining the fair value of the asset acquired by Setia Perkasa
Bhd.

(b) Assume the effective company tax rate remains unchanged at 24% for 2020 to 2024.
Calculate the fair value of Pertiwi Sdn Bhd, in the fourth quarter of 2019, by using the
following valuation techniques (Round up your answer to the nearest RM):

(i) P/E or earnings valuation.

(ii) Discounted cash flow method.

(c) Prepare journal entries with regard to the hedging instrument, the purchase of silver
inventory and the sale of the finished products. (ignore the time value of money)

(d) “As the coronavirus pandemic spreads further, Asia's stocks were poised to plunge as
panic gripped world financial markets and even safe-haven assets such as gold were
ditched to cover losses in the wipeout. It was also reported that currency trading was
erratic amid poor liquidity and a rush to secure financing in dollars” (The Star, 13
March 2020).

Assume that Cahaya Group investment portfolio was also affected by the significant
drop in market shares price as reported above.

(i) Discuss whether hedging will be effective to minimize the impact of the sharp
decrease in market share price of its investment portfolio.

(ii) Based on your discussion in (d-i) determine the effect on Cahaya Group’s
ability to apply hedging accounting as per MFRS 9 Financial Instruments:
Recognition and Measurement.