ACCA P2 - Corporate Reporting - Mapit Accountancy

P2 Corporate Reporting www.mapitaccountancy.com

ACCA P2 - Corporate Reporting

Workbook - Questions & Solutions

�1


Group Accounts

�2


Illustration 1

Additional Information

Almeria today acquired all the shares in Murcia for $300m.

The Fair Value of the NCI at acquisition was 0.

Required

Prepare the consolidated statement of financial position for the Almeria group

Almeria Murcia

Non Current Assets

Tangible 100 100

Investment in Murcia 300

Current Assets

Inventory 40 200

Receivables 60 100

Cash 200 200

700 600

Ordinary Shares 160 100

Accumulated Profits 240 200

Equity 400 300

Non Current Liabilities 100 200

Current Liabilities 200 100

700 600

�3


Pro-Forma

Working 1 - Group Structure

Working 2 - Equity Table

Working 3 - Goodwill

Almeria

Murcia

Date Acquired

Parent Share

NCI

At Acquisition At Year End

Share Capital

Accumulated Profits

Cost of Parent Investment

Fair Value of NCI at acquisition

Less net assets at acquisition (W2)

Goodwill

�4


Working 4 - NCI

Working 5 - Accumulated Profits

$


NCI% of Sub Post-Acq Profits

Value of NCI at Year End

$

Parent’s Accumulated Profits

Add: Parent % of the subsidiary’s post acquisition profits

�5


SFP for Almeria Group

Almeria Murcia Group

Non Current Assets

Goodwill

Tangible 100 100

Investment in Murcia 300

Current Assets

Inventory 40 200

Receivables 60 100

Cash 200 200

700 600



Non Controlling Interest

Equity 400 300



700 600

�6


Solution

Working 1 - Group Structure



Almeria

↓100%

Murcia

Date Acquired TODAY

Parent Share 100%

NCI 0%


Share Capital 100 100


300 300

Cost of Parent Investment 300

Fair Value of NCI 0

Less net assets at acquisition (W2) -300

Goodwill 0

�7


Working 4 - NCI


$

Fair Value of NCI at acquisition 0

NCI% of Sub Post-Acq Profits 0

Value of NCI at Year End 0

$

Parent’s Accumulated Profits 240

Add: Parent % of the subsidiary’s post acquisition profits Nil

240

�8


SFP for Almeria Group

Almeria Murcia Group

Non Current Assets

Goodwill None (W3) Nil

Tangible 100 100 100 + 100 200

Investment in Murcia 300 Cancel out Nil

Current Assets

Inventory 40 200 40 + 200 240

Receivables 60 100 60 +100 160

Cash 200 200 200 + 200 400

700 600 1000

Ordinary Shares 160 100 Parent 160

Accumulated Profits 240 200 W5 240

Non Controlling Interest W4 Nil

Equity 400 300 400

Non Current Liabilities 100 200 100 + 200 300

Current Liabilities 200 100 200 + 100 300

700 600 1000

�9


Illustration 2


Ant today acquired 160m of the 200m shares in Dec.

The Fair Value of the NCI was 50.

Required

Prepare the consolidated statement of financial position for the Ant group

Ant Dec

Assets 500 500

Investment in Dec 350

850 500



Equity 350 300

Liabilities 500 200

850 500

�10


Illustration 2 Pro-Forma

Working 1- Group Structure

Working 2- Equity Table


↓

Date Acquired

Parent Share

NCI


Share Capital

Accumulated Profits




Goodwill

�11


Working 4 - NCI


$




$



�12


Statement of Financial Position for Ant Group

Illustration 2 Solution

Ant Dec Group

Goodwill

Assets 500 500

Investment in Dec

350

850 500

Ordinary Shares

100 200

Accumulated Profits

250 100

NCI

Equity 350 300

Liabilities 500 200

850 500

�13



Working 2- Equity Table


Working 4 - NCI

Ant

↓80%

Dec

Date Acquired TODAY

Parent Share 80%

NCI 20%

100%




300 300




Goodwill 100

�14



Statement of Financial Position for Ant Group

$


NCI% of Sub Post-Acq Profits 0


$


Add: Parent % of the subsidiary’s post acquisition profits Nil

250

�15


Illustration 3

Ant Dec Group

Goodwill W3 100

Assets 500 500 500 + 500 1000

Investment in Dec

350 Cancelled in Goodwill W3

Nil

850 500 1100

Ordinary Shares

100 200 Parent Only 100

Accumulated Profits

250 100 W5 250

NCI W4 50

Liabilities 500 200 500 +200 700

850 500 1100

�16



Evan acquired 150m shares in Dando one year ago when the reserves of Dando were $40m. The Fair Value of the NCI on the date of acquisition was $100m.

Required

Prepare the consolidated statement of financial position for the Evan group.

Solution

Evan Dando

Assets 200 350

Investment in Dando 500

Current Assets 200 300

900 650

Ordinary Shares ($1) 200 200


Equity 450 300


Liabilities 170 150

900 650

�17





↓

Date Acquired

Parent Share

NCI


Share Capital

Accumulated Profits




Goodwill

�18


Working 4 - NCI


Statement of Financial Position for Evan Group

$




$



�19


Solution

Evan Dando Group

Goodwill

Assets 200 350

Investment in Dando

500


900 650

Ordinary Shares ($1)

200 200

Accumulated Profits

250 100

NCI

Equity 450 300

Non Current Liabilities

280 200

Liabilities 170 150

900 650

�20





Working 4 - NCI

Evan

↓75%

Dando

Date Acquired 1 Year Ago

Parent Share 75%

NCI 25%

100%




240 300




Goodwill 360

�21



Statement of Financial Position for Evan Group

$


NCI% of Sub Post-Acq Profits (25% x 60m) 15


$


Add: Parent % of the subsidiary’s post acquisition profits (75% x 60m) 45

295

�22


Illustration 4

Evan Dando Group

Goodwill W3 360

Assets 200 350 200 + 350 550

Investment in Dando

500 Cancelled out in W3.

Nil

Current Assets 200 300 200 + 300 500

1410


Parent Only 200

Accumulated Profits

W5 295

NCI W4 115

570


280 200 280 + 200 480

Liabilities 170 150 170 + 150 320

1410

�23



Virtual acquired 60m shares in Insanity one year ago when the reserves of Insanity were $60m. The Fair Value of the NCI at that date was $120m.

Required

Prepare the consolidated statement of financial position for the Virtual group

SolutionWorking 1- Group Structure

Virtual Insanity

Assets 1000 800

Investment in Insanity 600


2000 1000



Equity 1550 500


Liabilities 200 200

2000 1000

�24




Working 4 - NCI

Virtual

↓60%

Insanity


Parent Share 60%

NCI 40%

100%




160 500




Goodwill 560

�25



Statement of Financial Position for Virtual Group

$


NCI% of Sub Post-Acq Profits (40% x (500 - 160))

136


$


Add: Parent % of the subsidiary’s post acquisition profits (60% x (500 - 160)

204

954

�26


Illustration 5

Virtual Insanity Group

Goodwill W3 560

Assets 1000 800 1000 + 800 1800

Investment in Insanity

600 Cancelled in W3

Nil

Current Assets 400 200 400 + 200 600

2000 1000 2960



Accumulated Profits

750 400 W5 954

NCI W4 256

Equity 1550 500 1954


250 300 250 + 300 550

Liabilities 200 200 200 + 200 400

2000 1000 2960

�27


Jabba acquired 100% of the shares in Hutt two years ago.

The consideration was as follows:

1. Cash of $36,000.2. 2000 Shares in Jabba (the share price is currently $3).3. $30,000 to be paid four years after the date of acquisition. The relevant

discount rate is 12%4. If the group meets certain targets there will be a further payment with fair

value of $60,000 at a later date.

Required:

(i) Calculate the fair value of the consideration which Jabba has given in purchasing the investment in Hutt.

(ii)Show the value of the liability in the Statement of Financial Position for the deferred consideration at the end of the current year.

(iii)What is the charge to the Statement of Profit or Loss in the current period related to the deferred consideration?


�28


Illustration 6

On 1 October 2012, Paradigm acquired 75% of Strata’s 20,000 equity shares by means of a share exchange of two new shares in Paradigm for every five acquired shares in Strata. In addition, Paradigm issued to the shareholders of Strata a $100 10% loan note for every 1,000 shares it acquired in Strata. The share price of Paradigm on the date of acquisition was $2.

Calculate the consideration paid for Strata.

Solution

Share exchange ((20,000 x 75%) x 2/5 x $2) $12,00010% loan notes (15,000 x 100/1,000) $1,500

Illustration 7

$

Cash Amount 36,000

Shares Market Value (2000 x 3) 6,000

Deferred Consideration 30,000 x (1 / (1.124) 19080

Contingent Consideration Fair Value 60,000

Total 121080

Year O’Bal Unwind (12%) C’Bal

1 19,080 2,290 21,370

2 21,370 2,564 23,934

�29


Jimmy acquired 80% of Gent 1 year ago. The following information relates to Gent at the date of acquisition.

An item of plant was valued at $200 in the Gent’s Financial Statements but had a Fair Value of $300, the plant had a remaining life of 5 yrs at the date of acquisition. Goodwill is to be calculated gross.

Solution

Accumulated profits at

acquisition

Cost of investment Fair Value of NCI at acquisition

$ $ $

150 800 160

Jimmy Gent

Investment in Gent 800

Assets 700 700

1500 700



Equity 1200 600

Liabilities 300 100

1500 700

�30





Jimmy

↓80%

Gent


Parent Share 80%

NCI 20%

100%




Fair Value Adjustment 100 100

Additional Depreciation -20

500 680

�31


Alternative working

Working 4 - NCI

Cost of Parent’s investment 800

Fair value of NCI at acquisition (Market Value) 160

960

Less 100% net assets at acquisition in W2 -500

Gross Goodwill 460

$


Less Parent % of the net assets at acquisition (W2)

500 x 80% -400

Goodwill attributable to Parent 400


Less NCI% of the net assets at acquisition (W2)

500 x 20% -100

Goodwill attributable to NCI 60

Gross Goodwill on Acquisition 460

�32


Working 5 - Group Accumulated Profit

Statement of Financial Position for Jimmy Group


Plus NCI share of post acquisition profits 2200 x 25% 550

850

$


Add: Parent % of the subsidiary’s post acquisition profits 80% x (680 - 500) (W2)

144

644

�33


Illustration 8

Jimmy Gent Group

Goodwill W3 460

Investment in Gent

800 Cancelled Nil

Assets 700 700 700 + 700 + 100 - 20

1480

1500 700 1940


700 250 Parent only 700

Accumulated Profits

500 350 W5 644

NCI W4 196

Equity 1200 600 1540

Liabilities 300 100 300 + 100 400

1500 700 1940

�34


Devil acquired 90% of Detail 2 years ago. The following information relates to Gent at the date of acquisition.

An item of plant was valued at $300 in the Gent’s Financial Statements but had a Fair Value of $200.

The plant subject to the fair value adjustment had a remaining life of 4 yrs at the date of acquisition. Goodwill is to be calculated Gross.

Solution

Accumulated profits at

acquisitionCost of

investmentFair Value of NCI

at acquisition

$ $ $

250 1000 55

Devil Detail

Investment in Detail 1000

Assets 600 800

1600 800



Equity 900 600

Liabilities 700 200

1500 700

�35



Working 2 - Net Assets Subsidiary


Devil

↓90%

Detail

Date Acquired 2 Years Ago

Parent Share 90%

NCI 10%

100%




Fair Value Adjustment -100 -100

Additional Depreciation (2yrs) 50

250 550

300

�36


Working 4 - NCI


Statement of Financial Position for Devil Group



1055


Gross Goodwill 805


Plus NCI share of post acquisition profits 10% x 300 (W2) 30

85

$


Add: Parent % of the subsidiary’s post acquisition profits 90% x 300 (W2)

270

520

�37


Illustration 9

Devil Detail

Goodwill 1000 W3 805

Assets 600 800 600 + 800 - 100 + 50

1350

1600 800 2155


650 100 Parent 650

Accumulated Profits

250 500 W5 520

NCI W4 85

Equity 900 600

Liabilities 700 200 700 + 200 900

1500 700 2155

�38


Evaro Co. Acquired 80% of Stando Co. one year ago and the following detail is relevant:

At the date of acquisition the following was relevant:

i) An item of plant was valued at $100m in the Gent’s Financial Statements but had a Fair Value of $50m, the plant had a remaining life of 10 yrs at the date of acquisition.

ii)Stando Co. owns an internally generated brand worth $20m on the date of acquisition that has a useful economic life of 20 years.

iii)At the date of acquisition a court case against Stando Co. is in process which has resulted in a contingent liability of $25m being disclosed in their financial statements. By the year end Stando Co. had won the court case resulting with no payment as a result.

Required

Compete the Equity Table (W2) based on the above information for Stando. Co.

Solution

At Acquisition$m

At Year End$m



�39


Illustration 10

At Acquisition$m

At Year End$m



Fair Value of Plant -50 -50

Remove Depreciation (50/10) 5

Brand 20 20

Amortization on Brand -1

Contingent Liability -25 0

295 574

�40


Brad acquires 80% of Angelina’s share capital in a share for share exchange. Brad gives Angelina 2 shares for every one in Angelina. Angelina has 100 shares in issue with a nominal value of $1 Angelina’s share price is $8. Brad’s share price is $5. At the date of acquisition the net assets of Angelina are $600.

Calculate the gross goodwill and the NCI.

�41


Solution

Consideration

Brad is purchasing 80% of 100 shares = 80 shares

He is issuing 2 shares for each of the 80 he is purchasing (80 x 2) = 160

Each of the 160 shares is worth $5 so consideration is (160 x 5) = $800

Goodwill

Alternative working

Illustration 11



960


Gross Goodwill 360

$



600 x 80% -480


Fair Value of NCI at acquisition (100 x 20%) x $8 160


(20% x 600) -120

Goodwill attributable to NCI 40

Gross/Full Goodwill 360

�42


Brad acquires 80% of Angelina’s share capital in a share for share exchange. Brad gives Angelina 2 shares for every one in Angelina. Angelina has 100 shares in issue with a nominal value of $1. Brad’s share price is $5. At the date of acquisition the net assets of Angelina are $600 and by the year end they were $800.

Calculate the goodwill arising using the proportionate method and the NCI.

�43



Consideration

Brad is purchasing 80% of 100 shares = 80 shares

He is issuing 2 shares for each of the 80 he is purchasing (80 x 2) = 160

Each of the 160 shares is worth $5 so consideration is (160 x 5) = $800

Goodwill

NCI


NCI Value at acquisition (600 x 20%) 120

Net assets at acquisition (W2) -600

Goodwill 320

NCI at acquisition 600 x 20% 120

NCI% Post Acquisition Profit (800 - 600) x 20% 40

160

�44


Illustration 12

(i)Archie acquires 60% of Mitchell’s share capital with consideration of $900. Mitchell has 200 shares in issue with a share price is $5. At the date of acquisition the net assets of Mitchell were $800 and are $950 at the year end. At the year end the retained earnings of Archie were $1,000.

An impairment review has been carried out on the goodwill at the year end which has found it to be impaired by $40.

Calculate the gross goodwill, the retained earnings and the NCI at the year end.

�45


Solution

Goodwill

NCI


Fair value of NCI at acquisition (200 x 40% x $5) 400

1300


Gross Goodwill 500

Impairment -40

Post Impairment Goodwill 460

Dr W4 16

Dr W5 24

Fair Value of NCI at Acquisition 400


NCI Share of Impairment -16

444

�46


Retained Earnings

Parent 1000


Parent Share of Impairment -24

1066

�47


Illustration 12 (ii)

French acquired 75% of Shambles several years ago.

If French has $1500 of retained earnings at the year end, calculate the gross goodwill, retained earnings for the group and the NCI at the year end.

Cost of Investment

Fair Value of NCI at

acquisition

Net assets at acquisition

Net assets at year end

Goodwill Impairment at

Y/E

$ $ $ $ $

1,000 300 800 3,000 200

�48


Solution

Goodwill

NCI

Cost of Parent’s investment 1,000


1300


Gross Goodwill 500

Impairment -200

Post Impairment Goodwill 300

DR W4 50

DR W5 150



Impairment -50

800

�49


Retained Earnings

Parent 1500

NCI% Post Acquisition Profit 2200 x 75% 1650

Parent Share of Impairment -150

3000

�50


Illustration 12 (iii)

Pinky acquired 80% of Brain 4 years ago. The following information is relevant:

Goodwill is calculated gross and is subject to an annual impairment review.

Net Assets at year end

Net Assets at acquisition

Cost of investment

Fair Value of NCI at

acquisition

Recoverable amount at year end

$ $ $ $ $

150 100 175 25 230

Pinky Brain

Investment in Pinky 175

Assets 100 100

Inventory 140 200

Receivables 160 100

Bank 125 200

700 600



Equity 400 150

Non current liabilities 100 250

Liabilities 300 100

700 600

�51


Solution



Pinky

↓80%

Brain

Date Acquired 4 Years Ago

Parent Share 80%

NCI 20%

100%


Share Capital 50 50


100 150

�52



Impairment

Working 4 - NCI



200


Gross Goodwill 100

Impairment Review

Carrying Value of asset Net Assets + Goodwill (150 + 100) 250

Less Recoverable amount -230

Impairment Loss 20

Goodwill after impairment

Gross Goodwill 100

Impairment Loss -20

Goodwill after impairment 80

�53





Less Goodwill Impairment 20 x 20% -4

31

$


Less Goodwill Impairment 20 x 80% -16


40

264

�54


Statement of Financial Position for Pinky Group

Pinky Brain Group

Goodwill W3 80

Assets 100 100 100 + 100 200

Inventory 140 200 140 + 200 340

Receivables 160 100 160 + 100 260

Bank 125 200 125 + 200 325

700 600 1205



Accumulated Profits

240 100 W5 264

NCI W4 31

Equity 400 150 455

Non current liabilities

100 250 100 + 250 350

Liabilities 300 100 300 + 100 400

700 600 1205

�55


Illustration 13 (i)

George owns 80% of the subsidiary Bungle. During the impairment review it was found that the carrying value of Bungle’s net assets were $250 and the goodwill $300. The recoverable amount of the subsidiary is $500 and goodwill is calculated on a proportionate basis.

What amount of goodwill will appear on the group SFP?

�56


Solution

Gross up proportionate goodwill

Proportionate Goodwill 300

Gross this up (300 x 100/80) 375

We will use this grossed up value for goodwill in the impairment review.

Impairment Review

Carrying Value of asset 250

Grossed up Goodwill 375

Less Recoverable amount -500

Impairment Loss 125

Goodwill on Balance Sheet

Proportionate goodwill 300

Share of Impairment (125 x 80%) -100


�57


Illustration 13 (ii)

Event owns 90% of the subsidiary Horizon. During the impairment review it was found that the carrying value of Horizons net assets were $5,000 and the goodwill $2,337. The recoverable amount of the subsidiary is $6,000 and goodwill is calculated on a proportionate basis.

What amount of goodwill will appear on the group SFP?

�58


Solution

Gross up proportionate goodwill

Proportionate Goodwill 2,000

Gross this up (2,337 x 100/90) 2,597

We will use this grossed up value for goodwill in the impairment review.

Impairment Review

Net Assets of Sub 5,000

Grossed up Goodwill 2,597

Less Recoverable amount -6,000

Impairment Loss 1,597

Goodwill on SFP

Proportionate goodwill 2,000

Share of Impairment (1,597 x 90%) -1,437


�59


Illustration 14A Parent company has recorded an asset of $300 goods receivable with a subsidiary.

The subsidiary had recorded this as an initial liability payable of $300 but has just recorded and sent a cheque payment to the parent of $50 leaving the payable balance of $250.

How should this be adjusted for on consolidation?

�60


SolutionWhen cross casting assets & liabilities:

Less Payables $250 (DR)

Plus Cash at bank $50 (DR)

Less Receivables $300 (CR)

�61


Illustration 15Parent has been selling goods to subsidiary. The parent has recorded an asset of $500 receivable from the subsidiary.

The $500 includes goods worth $100 sent prior to the year end to the subsidiary who has not received them. As a result the subsidiary has a balance of $400 recorded as a liability in payables.

How should this be treated on consolidation?

�62


SolutionWhen cross casting assets & liabilities:

Less Payables $400 (DR)

Plus Inventory $100 (DR)

Less Receivables $500 (CR)

�63


Illustration 16Arctic is the parent of a subsidiary Monkeys. Extracts of their SFPs are below

The trade payables of Monkeys includes $35m due to Arctic. This was after the deduction of $10m in respect of cash sent by Monkeys but not yet received by Arctic.

The receivables of Arctic at the year end include $70m due from Monkeys. $25m of these goods had been dispatched by Arctic, but were not yet received by Monkeys.

Show the treatment on consolidation.

Arctic Monkeys

Current Assets

Inventory 300 100

Receivables 200 250

Bank 100 50

600 400


�64


SolutionRemember!

Add the goods/cash in transit

Subtract the inter company current accounts

+/- Item Where? $m

+ Cash in transit Cash at Bank 10

+ Goods in transit Inventory 25

- Inter Company Current Account Payables 35

- inter Company Current Account Receivables 70

Arctic Monkeys Group

Current Assets

Inventory 300 100 300 + 100 + Goods in transit of 25

425

Receivables 200 250 200 + 250 - 70 inter company current account

380

Bank 100 50 100 + 50 + cash in transit 10

160

600 400 965

Current Liabilities 420 220 420 + 220 - inter company current account 35

605

�65


Illustration 17Sea is the parent of a subsidiary Lion. Extracts of their SFPs are below

The trade payables of Lion includes $20m due to Arctic. This was after the deduction of $15m in respect of cash sent by Lion but not yet received by Sea.

The receivables of Sea at the year end include $50m due from Lion. $15m of these goods had been dispatched by Sea, but were not yet received by Lion.

Show the treatment on consolidation.

Sea Lion

Current Assets

Inventory 400 250

Receivables 100 100

Bank 150 100

650 450


�66


SolutionRemember!

Add the goods/cash in transit

Subtract the inter company current accounts

+/- Item Where? $m

+ Cash in transit Cash at Bank 15

+ Goods in transit Inventory 15

- Inter Company Current Account Payables 20

- inter Company Current Account Receivables 50

Sea Lion Group

Current Assets

Inventory 400 250 400 + 250 + Goods in transit of 15

665

Receivables 100 100 100 + 100 - 50 inter company current account

150

Bank 150 100 150 + 100 + cash in transit 15

265

650 450 965

Current Liabilities 90 140 90 + 140 - inter company current account 20

210

�67


Illustration 18Inter company sales of $400 have occurred in Attila group at a mark up on cost of 25%. At the year end 1/4 of these goods had been sold on. Attila has an 80% interest in Hun.

I. Calculate the PURP.

II. Show the accounting treatment if the parent company is the seller.

III. Show the accounting treatment if the subsidiary company is the seller.

IV. Do parts I - III if the goods had been sold at a margin of 30%.

�68


Solution (Mark-up)

Parent is seller

Subsidiary is seller

Unsold Inventory Mark-up PURP

(400 x 3/4) = 300 25/125 60

DR/CR Account $ $

DR Accumulated Profits (W5) to decrease 60

CR Inventory to decrease 60

DR/CR Account $ $

DR Accumulated Profits (W5) with parent share to decrease (60 x 80%)

48

DR NCI (W4) with subsidiary share to decrease 12


�69


Solution (Margin)

Parent is seller


Unsold Inventory Margin PURP

(400 x 3/4) = 300 30% 90

DR/CR Account $ $



DR/CR Account $ $


72



�70


Illustration 19Argentina owns an 80% share of Messi which it purchased one year ago.

The information below relates to Messi at the date of acquisition.

The income statements for both are:

Other information

I. Argentina sold goods to Messi during the year at a margin of 40% and worth $100m. Half of these goods have been sold on by Messi by the year end.

II. The fair value of Messi’s net assets were equal to their book value at the date of acquisition, with the exception of some machinery which had a useful life of 5 years.

III. Calculate goodwill using the fair value of the NCI at the date of acquisition. At the year end an impairment review has found that the goodwill has been impaired by 10%.

Produce a consolidated Income Statement for the Argentina group.

Ordinary Share Capital

Reserves Fair Value of the net assets

Fair value of the NCI

Cost of the investment

$m $m $m $m $m

200 400 800 200 1900

Argentina Messi

Revenue 8000 3000

Cost of Sales -4000 -1000

Gross Profit 4000 2000

Operating Costs -1500 -1500

Finance Costs -1000 -200

Profit Before Tax 1500 300

Tax -700 -100

Profit for the year 800 200

�71


Illustration 19 SolutionWorking 1- Group Structure

Working 2 - Inter Company

PURP

As the Parent is seller

Remember to remove the total amount of the sales also from sales and cost of sales

Argentina

↓80%

Messi

Date Acquired 1 Year Ago (No time apportionment)

Parent Share 80%

NCI 20%

100%


(100 x 1/2) = 50 40% 20

DR/CR Account $ $

DR Cost of sales to increase 20


DR/CR Account $ $

DR Revenue to decrease 100

�72



We don’t need the net assets at the year end, but we do need them at acquisition to calculate goodwill. Be careful - we are given the total and told that the difference is machinery - this will lead to an additional depreciation expense.

The $200m asset has a useful life of 5 years so the extra depreciation will be $200m x 1/5 = $40m. The treatment for this is:

We can then use this to calculate the goodwill on acquisition

CR Cost of sales to decrease 100

DR/CR Account $ $


Share Capital 200 N/A

Accumulated Profits 400 N/A

Fair Value Adjustment (Balancing figure)

200 N/A

800 N/A

DR/CR Account $ $


CR Non current assets to decrease 40



2100


Gross Goodwill 1300

Goodwill impairment

Gross Goodwill 1300

Impairment Loss (1300 x 10%) 130

�73


The treatment for this is:

Working 4 - Cost of Sales

Working 5 - NCI

DR/CR Account $ $


CR Goodwill Intangible Asset to decrease 130

$m

Parent 4000

Subsidiary 1000

Less Inter Company Sales -100

Plus the PURP 20

Plus additional depreciation 40

Plus impairment loss 130

5090

$

NCI % of the subsidiary’s profits in question 200 x 20% 40

Less NCI share of additional depreciation 40 x 20% -8

Less NCI share of Impairment of goodwill 130 x 20% -26

6

�74


Income statement for Argentina Group

Statement of Changes in Equity Pro-forma

Argentina Messi Group

Revenue 8000 3000 8000 + 3000 - 100 inter company sales

10900

Cost of Sales -4000 -1000 W4 -5090

Gross Profit 4000 2000 5810

Operating Costs -1500 -1500 1500 + 1500 -3000

Finance Costs -1000 -200 1000 + 200 -1200

Profit Before Tax 1500 300 1610

Tax -700 -100 700 + 100 -800

Profit for the year 800 200 810

Attributable to Parent (Balancing Figure) 804

Attributable to NCI (W5) 6

810

�75


Share Capital

Share Premium

Revaluation Reserve

Accumulated Profits

NCI Total

O’Balance X X X X X X

Share Issues X X X

Revaluation Gains

X X X

Profit for period

X X X

Less Dividends

(X) (X) (X)

Cl’Balance X X X X X X

�76


Illustration 20Nadal is a 90% subsidiary of Federer. It was acquired one year ago for $4000m. At that time the accumulated profits were $800m.Income Statements

Statements of Financial Position

Federer Statement of changes in Equity

Federer Nadal

Revenue 20000 4000

Cost of Sales -12000 -2000

Gross Profit 8000 2000

Distribution Costs -2100 -300

Admin Expenses -1400 -500

Operating Profit 1500 1200

Exceptional Gain Nil 580

Investment Income 90 Nil

Finance Costs -600 -150

Profit Before Tax 3990 1630

Tax -700 -130

Profit for the year 3290 1500

Federer Nadal

Investment in Nadal 4000

Assets 20000 5000

24000 5000



Equity 20690 3200

Liabilities 3310 1800

24000 5000

�77


Nadal Statement of changes in Equity

Other Information:

In the year Federer sold goods to Nadal at a margin of 20%. The total amount sold was $100m, of which a quarter remain in inventory at the year end.

Also during the year Nadal sold $180m of goods to Federer. These goods were sold at a mark up of 50%. Half of the goods remain in inventory at the year end.

At the date of acquisition the fair values of Nadal’s net assets were equal to their book value with the exception of an item of plant that had a fair value of $200m in excess of its carrying value and a remaining useful life of 4 years. Goodwill is to be calculated on a proportionate basis.

Federer paid a dividend during the year of $200m while Nadal paid a dividend of $100m. Federer has recognised the dividend received from Nadal as investment income.

Required

Prepare the consolidated Income Statement, consolidated Statement of Changes in Equity and the consolidated Statement of Financial Position for the Federer group.

Share Capital Accumulated Profits

Total Equity

Opening Balance 5000 12600 17600

Profits for the year 3290 3290

Less Dividends -200 -200

Closing Balance 5000 15690 20690


Total Equity

Opening Balance 1000 800 1800

Profits for the year 1500 1500

Less Dividends -100 -100

Closing Balance 1000 2200 3200

�78


SolutionWorking 1- Group Structure & PURP

PURP

Parent is seller


Federer

↓90%

Nadal


Parent Share 90%

NCI 10%

100%


(100 x 1/4) = 25 20% 5

DR/CR Account $ $




(180 x 1/2) = 90 50/150 30

DR/CR Account $ $


27



�79



Remember to take the $50m extra dep’n to the income statement!


Working 4 - NCISFP

Income Statement




Fair Value Adjustment 200 200

Additional Dep’n (200 x 1/4) -50

2000 3350

$



2000 x 90% -1800

Goodwill 2200

$

NCI % of the subsidiary’s net assets at the year end (W2) 3350 x 10% 335

PURP W1 -3

332

$

NCI Percentage of profit from question 1500 x 10% 150

Additional Depreciation 50 x 10% -5

PURP W1 -3

142

�80



Income Statement

$


PURP 5 + 27 -32


1215

16873

Federer Nadal Group

Revenue 20000 4000 20000 + 4000 - 100 - 180

23720

Cost of Sales -12000 -2000 12000 + 2000 - 100 - 180 - 35 - 50

-13805

Gross Profit 8000 2000 9915

Distribution Costs -2100 -300 2100 + 300 -2400

Admin Expenses -1400 -500 1400 + 500 -1900

Operating Profit 1500 1200 5615

Exceptional Gain Nil 580 580

Investment Income 90 Nil Nil

Finance Costs -600 -150 600 + 150 -750

Profit Before Tax 3990 1630 5445

Tax -700 -130 700 + 130 -830

Profit for the year 3290 1500 4615

Attributable to Parent (Balancing Figure) 4473

Attributable to NCI W4 142

4615

�81


Statement of Financial Position

Statement of changes in Equity

Federer Nadal Group

Goodwill W3 2200

Investment in Nadal 4000 Cancelled Nil

Assets 20000 5000 20000 + 5000 + 200 - 50 -35

25115

24000 5000 27315

Share Capital 5000 1000 Parent Only 5000

Accumulated Profits 15690 2200 W5 16873

NCI W4 332

Equity 20690 3200 22205

Liabilities 3310 1800 3310 + 1800 5110

24000 5000 27315


NCI Total Equity

Opening Balance

5000 12600 200 17800

Profits for the year

4473 142 4615

Less Dividends -200 -10 210

Closing Balance

5000 16873 332 22205

�82


Associates(IAS 28)

�83


Illustration 1

3 years ago Star Ltd. bought 25% of the share capital of Wars Ltd. for consideration of $400,000. Since that time Wars Ltd.has had the following results:

Due to poor trading results and customer service issues, Star Ltd feel that in the current year the investment in Wars Ltd. has been impaired by $20,000.

Show the treatment of War Ltd. in the statement of financial position of Star Group and in the Income statement for the 3 years of the investment.

Solution

Year Profit Dividend Paid By Associate

1 $200,000 0

2 $160,000 $150,000

3 $30,000 0

Year 1 Investment In Associate (SFP)

Initial Investment 400,000

Parent Share of Post Acquisition Profit (200,000) x 25% 50,000

Investment in Associate 450,000

Year 1 Income From Associate (Income Statement)

Parent share of Current Year Income (200,000 x 25%) 50,000

�84




Parent Share of Post Acquisition Profit (200,000 + 160,000) x 25% 90,000

Share of Dividend (150,000 x 25%) -37,500



Parent share of Current Year Income (160,000 x 25%) 40,000



Parent Share of Post Acquisition Profit (200,000 + 160,000 + 30,000) x 25% 97,500

Share of Dividend (150,000 x 25%) -37,500

Impairment -20,000



Parent share of Current Year Income (30,000 x 25%) 7500

Impairment -20,000

Loss From Associate -12500

�85


Illustration 2

Inter company sales of $1,300 have occurred in Attila group at a mark up on cost of 30%. At the year end 1/2 of these goods had been sold on. Attila has an 30% interest in Hun.

I. Calculate the PURP.

II. Show the accounting treatment if the parent company is the seller.

III. Show the accounting treatment if the Associate company is the seller.

�86


Solution (Mark-up)

Parent is seller


Unsold Inventory Mark-up PURP Group %

(1300 x 1/2) = 650 30/130 150 45

DR/CR Account $ $


CR Investment in Associate 45

DR/CR Account $ $


CR Group Inventory 45

�87


Illustration 3

On 1 April 2009 Picant acquired 75% of Sander’s equity shares in a share exchange of three shares in Picant for every two shares in Sander. The market prices of Picant’s and Sander’s shares at the date of acquisition were $3·20 and $4·50 respectively.

In addition to this Picant agreed to pay a further amount on 1 April 2010 that was contingent upon the post-acquisition performance of Sander. At the date of acquisition Picant assessed the fair value of this contingent consideration at $4·2 million, but by 31 March 2010 it was clear that the actual amount to be paid would be only $2·7 million (ignore discounting). Picant has recorded the share exchange and provided for the initial estimate of $4·2 million for the contingent consideration.

On 1 October 2009 Picant also acquired 40% of the equity shares of Adler paying $4 in cash per acquired share and issuing at par one $100 7% loan note for every 50 shares acquired in Adler. This consideration has also been recorded by Picant.

Picant has no other investments. The summarised statements of financial position of the three companies at 31 March 2010 are:

Picant Sander Alder

Property, plant & equipment 37,500 24,500 21,000

Investments 45,000

82,500 24,500 21,000

Inventory 10,000 9,000 5,000

Receivables 6,500 1,500 3,000

Total Assets 99,000 35,000 29,000

Ordinary Shares 25,000 8,000 5,000

Share Premium 19,800 0 0

Ret. Earnings B/F 16,200 16,500 15,000

For year to 31/3/10 11,000 1,000 6,000

72,000 25500 26000

7% Loan Notes 14,500 2,000 0

Contingent Consideration 4,200 0 0

Current Liabilities 8,300 7,500 3,000

Total Equity & Liabilities 99,000 35000 29000

�88


(i) At the date of acquisition the fair values of Sander’s property, plant and equipment was equal to its carrying amount with the exception of Sander’s factory which had a fair value of $2 million above its carrying amount. Sander has not adjusted the carrying amount of the factory as a result of the fair value exercise. This requires additional annual depreciation of $100,000 in the consolidated financial statements in the post-acquisition period.

(ii)Also at the date of acquisition, Sander had an intangible asset of $500,000 for software in its statement of financial position. Picant’s directors believed the software to have no recoverable value at the date of acquisition and Sander wrote it off shortly after its acquisition.

(iii)At 31 March 2010 Picant’s current account with Sander was $3·4 million (debit). This did not agree with the equivalent balance in Sander’s books due to some goods-in-transit invoiced at $1·8 million that were sent by Picant on 28 March 2010, but had not been received by Sander until after the year end. Picant sold all these goods at cost plus 50%.

(iv)Picant’s policy is to value the non-controlling interest at fair value at the date of acquisition. For this purpose Sander’s share price at that date can be deemed to be representative of the fair value of the shares held by the non-controlling interest.

(v)Impairment tests were carried out on 31 March 2010 which concluded that the value of the investment in Adler was not impaired but, due to poor trading performance, consolidated goodwill was impaired by $3·8 million.

(vi)Assume all profits accrue evenly through the year.

�89



Consideration for Sander

Consideration for Alder

Picant

↓75% ↓40%

Sander Alder

Sander

Date Acquired 1 April 2009 (1 Yr ago)

Parent Share 75

NCI 25

100

Item $‘000

Share Exchange No. Shares Purchased (8000 x 75%) = 6000

Picant Shares Issued ((6000 / 2) x 3) = 9000

Total Value (9000 x 3.20) = $28,800 28,800

Contingent Consideration Fair Value 4,200

Total Consideration 33,000

Item $‘000

Cash Fair Value (4 x (5000 x 40%)) 8,000

Loan Notes (5000 x 40%) / 50 x 100 4,000

Total Consideration 12,000

�90



Working 3 - Goodwill in Sander


Share Capital 8,000 8,000

Accumulated Profits 16,500 17,500

Fair Value of Factory 2,000 2,000

Additional Dep’n -100

Software -500

26000 27400

$‘000 $‘000

Cost of Parent Investment 33,000

Fair Value of NCI at acquisition (8,000 x 25%) x $4.5

9,000

Less net assets at acquisition (W2) -26,000

Gross Goodwill on Acquisition 16,000

Impairment -3,800

Goodwill at year end 12,200

Impairment to Parent in W5 (3,800 x 75%) 2,850

Impairment to NCI in W4 (3,800 x 25%) 950

�91


Alternative Working

Working 4 - NCI

$‘000 $‘000

Cost of Parent Investment 33,000


26,000 x 75% 19,500

Goodwill attributable to Parent 13,500

Fair Value of NCI at acquisition (8,000 x 25%) x $4.5

9,000


26,000 x 25% 6,500

Goodwill attributable to NCI 2,500

Gross Goodwill on Acquisition 16,000

Impairment -3,800

Goodwill at year end 12,200

Impairment to Parent in W5 (3,800 x 75%) 2,850

Impairment to NCI in W4 (3,800 x 25%) 950

$

Fair Value of NCI at Acquisition 9,000

NCI Share of Post Acq. Profit (25% x 1,400) 350

Goodwill Impairment to NCI (W3) -950

8400

�92


Alternative Working

Working 5 - PURP & Group Accumulated Profit

PURP

Group Accumulated Profit

$

NCI % of net assets at the year end (W2) 27,400 x 25% 6,850

Goodwill Attributable to NCI (W3) 2,500

Goodwill Impairment to NCI (W3) -950

8400

Total Unsold Goods Profit on Goods PURP

1,800 1,800 /150 x 50 600

DR Retained Earnings (W5) 600

CR Inventory (SFP) 600

$

Parent’s Accumulated Profits 27,200

Add: Parent % of Sub’s post acquisition profits (W2) (27,400 - 26,000) x 75%

1050

Add: Parent % of Associate post acquisition profits (6,000 x 6/12) x 40% 1,200

PURP -600

Parent Share of goodwill impairment W3 -2850

Gain on contingent consideration 4,200 - 2,700 1,500

27500

�93


Working 6 - Associate

SFP

$‘000

Cost of Parent’s Investment (W1) 12,000

Post Acquisition Profits ((6000 x 6/12) x 40%) 1,200

13,200

Picant Sander Group

Goodwill W3 12,200

Property, plant & equipment

37,500 24,500 37,500 + 24,500 + 2,000 - 100

63,900

Associate Investment W6 13,200

Investments 45,000 0

82,500 24,500 89,300

Inventory 10,000 9,000 10,000 + 9,000 - 600 +1,800

20,200

Receivables 6,500 1,500 6,500 + 1,500 - 3,400 4,600

Total Assets 99,000 35,000 114,100

Ordinary Shares 25,000 8,000 Parent Only 25,000

Share Premium 19,800 0 19,800

Ret. Earnings B/F 16,200 16,500

For year to 31/3/10 11,000 1,000 W5 27,500

NCI W4 8,400

72,000 25500 80,700

7% Loan Notes 14,500 2,000 14,500 + 2,000 16,500

Contingent Consideration

4,200 0 4,200 - 1,500 2,700

Current Liabilities 8,300 7,500 8,300 + 7,500 - 1,600 14,200

Total Equity & Liabilities 99,000 35000 114,100

�94


Increasing/Decreasing Holding

�95


Illustration 1Vic purchased 10% of the shares in Bob several years ago. The investment cost $17,000 and Vic currently carries the investment at cost in the accounts. Vic has subsequently purchased 45% of the shares in Bob for $120,000. The net assets of Bob have a fair value of $60,000 and the fair value of the original investment is $45,000. The fair value of the NCI is $90,000.

Calculate the gain or loss arising on the subsequent acquisition of shares

Solution 1

Fair value of original investment 45,000

Less the cost of the original investment -17,000

Gain taken to income statement 28,000

�96


Illustration 2Vic purchased 10% of the shares in Bob several years ago. The investment cost $17,000 and Vic currently carries the investment at cost in the accounts. Vic has subsequently purchased 45% of the shares in Bob for $120,000. The net assets of Bob have a fair value of $60,000 and the fair value of the original investment is $45,000. The fair value of the NCI is $90,000.

Calculate the gross goodwill arising on the acquisition of Bob.

Solution 2


Working 2 - Revaluation

Vic

↓10% ↓45%

Bob

Date 10% Acquired Years Ago

Date 45% Acquired Now

Parent Share 55%

NCI 45%

1




�97




Fair value of consideration for second investment 120,000

165,000

Fair value of NCI at acquisition 90,000

Less 100% net assets at acquisition -60,000

Gross Goodwill 195,000

�98


Illustration 3Aldo purchased 15% of the shares in Giro several years ago. The investment cost $85,000 and they currently carry it at cost in the accounts. Aldo has subsequently purchased 75% of the shares in Giro for $700,000. The net assets of Giro have a fair value of $750,000 and the fair value of the original investment is now $145,000. The fair value of the NCI on acquisition was $180,000.

Calculate the gross goodwill arising on the acquisition of Giro.

Solution 3


Working 2 - Revaluation

Aldo

↓15% ↓75%

Giro

Date 15% Acquired Years Ago

Date 75% Acquired Now

Parent Share 90%

NCI 10%

1




�99




Fair value of consideration for second investment 700,000

845,000

Fair value of NCI at acquisition 180,000

Less 100% net assets at acquisition -750,000

Gross Goodwill 275,000

�100


Illustration 4A parent has owned 70% of a subsidiary for a long period of time. The NCI in the subsidiary is currently measured at $500,000. If the parent buys another 10% what will the value of the NCI fall to?

Solution 4

$

Current NCI value (30% holding) 500,000

Proportion being purchased (500,000 x 10/30) 166,667

New Value of NCI (500,000 - 166,667) 333,333

�101


Illustration 5A parent has owned 90% of a subsidiary for a long period of time. The NCI in the subsidiary is currently measured at $300,000.

I. The parent acquires all of the remaining shares for consideration of $250,000.

II. The parent acquires 3% of the shares for $200,000 reducing the NCI to 7%.

What is the difference taken to equity in both situations?

Solution 5

I.

II.

$

Amount of cash paid for subsequent investment 250,000

Decrease in the NCI 300,000

Difference to an equity reserve 50,000

$

Amount of cash paid for subsequent investment 200,000

Decrease in the NCI 300,000 x 3/10 90,000

Difference to an equity reserve -110,000

�102


Illustration 6Inter purchased 70% of the shares in Milan several years ago. At that time goodwill of $80,000 arose. The net assets of Milan are currently $100,000 and the NCI is $18,000.

I. Calculate the gain arising on disposal if Inter sells it’s entire holding for $350,000.

II. Calculate the gain arising on disposal if Inter sells 30% for $250,000 and the fair value of the residual value is $30,000

�103


Solution 6I.

II.

$

Sale Proceeds 350,000

Less net assets of sub at date of disposal -100,000

Less all goodwill remaining at disposal -80,000

Plus all NCI at date of disposal 18,000

Plus fair value of any residual holding Nil

Gain to group 188,000

$

Sale Proceeds 250,000

Less net assets of sub at date of disposal -100,000

Less all goodwill remaining at disposal -80,000

Plus all NCI at date of disposal 18,000

Plus fair value of any residual holding 30,000

Gain to group 118,000

�104


Illustration 7For several years Jeremy has owned 70% of Richard. The net assets of Richard at this time are $250,000. The NCI is $68,000 and the gross goodwill is $200,000.

Jeremy has just sold 15% to take the holding to 55% for consideration of $150,000. Calculate the difference arising that will be taken to equity.

�105


Solution 7

$

DR Amount of cash received for sale of subsequent investment 150,000

CR Increase in the NCI (% of net assets & goodwill)

15% x (250,000 + 200,000) 67,500

CR Difference to an equity reserve (Gain) 82,500

�106


Vertical Groups

�107


Illustration 1Consider a group with the following structure and detail:

Required

Calculate the Goodwill & the NCI at the acquisition date.

P

↓80% - 1 Year Ago

S

↓60% - 1 Year Ago

S1

Cost of Investment

Net Assets on Acquisition

FV NCI on Acquisition

S 250 200 60

S1 220 150 100

�108


Working 1 - Effective Interest in S1

Working 2 - Goodwill in S

Working 3 - Goodwill in S1

Working 4 - NCI

Working Total

P’s Direct Interest in S 80%

Non Controlling Interest in S 20%

100%

P’s indirect interest in S1 (80% x 60%) 48%

Non Controlling Interest in S1 (Balancing figure) 52%

100%

$



Less net assets at acquisition -200


$

Cost of Investment 220

Less indirect holding adjustment 220 x 20% -44


Less net assets at acquisition -150


�109


$

Fair Value of NCI at Acquisition in S 60

Fair Value of NCI at Acquisition in S1 100

Less indirect holding adjustment -44

116

�110


Illustration 2Ozzy acquired a 70% holding in Sharon 2 years ago. Sharon purchased a 60% shareholding in Jack one year ago. The following financial statements relate to the Ozzy group.

Statements of Financial Position Ozzy Sharon Jack

$ $ $

Investment in Sharon 50

Investment in Jack 17

Other assets 25 18 20

75 35 20

Ordinary Shares 50 20 8

Accumulated profits 20 12 8

Equity 70 32 16

Liabilities 5 3 4

75 35 20

Income Statements Ozzy Sharon Jack

$ $ $

Revenue 400 60 85

Operating Costs -395 55 -83

Operating Profit 5 5 2

Tax -3 -2 -1

Profit for Year 2 3 1

Accumulated Profits Sharon Jack

One year ago 3 4

Two years ago 2 3

�111


Goods worth $8m were sold in the year by Jack to Sharon and by the year end all of these had been sold to a third party.

An impairment review at the year end found the goodwill of Sharon to be impaired by $3m, goodwill is to be calculated gross.

Prepare the consolidated statement of financial position and consolidated income statement for the Ozzy group.

Fair Value of NCI based on effective shareholdings Sharon Jack

One year ago 8 10

Two years ago 7 6

�112


SolutionWorking 1- Group Structure

Ozzy’s effective Interest in Jack

Ozzy

↓70% - 2 Years Ago

Sharon

↓60% - 1 Year Ago

Jack

Working Total

Ozzy’s direct interest in Jack 0%

Ozzy’s indirect interest (via Sharon) (70% x 60%) 42%

Ozzy’s effective interest in Jack 0.42

Non Controlling Interest in Jack (Balancing figure) 0.58

100%

Ozzy’s Direct Interest in Sharon 70%

Non Controlling Interest in Sharon 30%

100%

�113



Working 3 - Goodwill in Sharon



Sharon Jack

Share Capital 20 20 8 8

Accumulated Profits 2 12 4 8

22 32 12 16



57


Gross Goodwill 35

Impairment -3

Goodwill after Impairment 32

�114


Working 3 - Goodwill in Jack

Working 4 - NCI



Less indirect holding adjustment -5.1


21.9


Gross Goodwill 9.9

Fair Value of Sharon’s NCI at acquisition 7

Fair Value of Jack’s NCI at acquisition 10

Less indirect holding adjustment -5.1

Plus Sharon NCI share of post acquisition profits (32-22) x 30% 3

Plus Jack NCI share of post acquisition profits (16-12) x 58% 2.32

Less NCI share of Sharon Goodwill Impairment 3 x 30% -0.9

16.32

$


Less Goodwill Impairment 3 x 70% -2.1

Add: Parent % of Sharon’s post acquisition profits 10 x 70% 7

Add: Parent % of the Jack’s post acquisition profits 4 x 42% 1.68

�115


Working 6 - NCI (Income Statement)

Financial Statements for Ozzy Group

26.58

$

Sharon Jack

NCI % of Profit in Question (30% x 3) 0.9 (1 x 58%) 0.58

NCI Share Goodwill Impairment (30% x 3) -0.9

NCI Share Group Profit -0.00 0.58

Total 0.58


Ozzy Sharon Jack Group

$ $ $

Goodwill W3 41.9

Other assets 25 18 20 25 + 18 +20 63

104.9

Ordinary Shares 50 20 8 50

Accumulated profits 20 12 8 W5 26.58

NCI W4 16.32

Equity 70 32 16 92.9

Liabilities 5 3 4 5 + 3 + 4 12

104.9

�116


Income Statement Ozzy Sharon Jack

$ $ $

Revenue 400 60 85 400 + 60 + 85 - 8 (inter company)

537

Operating Costs 395 55 83 395 +55 + 83 - 8 + 3 (G’will Imp)

528

Operating Profit 9

Tax -3 -2 -1 3 + 2 + 1 -6

Profit for Year 3

Attributable to parent (Balancing figure) 2.42

Attributable to NCI (W6) 0.58

3

�117


Indirect Associates

�118


Illustration 1

The parent has an 60% holding in the subsidiary. The subsidiary has an associate in which it holds 40%. The following information is relevant.

Show the treatment for the associate in the group financial statements.

Subsidiary’s cost of investment in associate 200

Fair value of net assets in associate at acquisition 120

Fair value of net assets in associate at year end 300

�119


Solution 1

Effective interest & NCI

Parent’s’s indirect interest (via Sub) (60% x 40%) 24%

NCI (Balancing figure) 16%

Parent’s effective interest 40%

Post Acquisition Profits

Fair value of net assets in associate at year end 300

Fair value of net assets in associate at acquisition -120

Post acquisition profits 180

Carrying Value of Associate $


Subsidiary share of post acquisition profits (40% x 180) 72

Carrying Value of Associate 272

Treatment

DR Investment in Associate 40% x 180 72

CR Equity W5 (Parent share of post acquisition profits)

24/40 x 72 43.2

CR NCI W4 (NCI share of post acquisition profits) 16/40 x 72 28.8

�120


Mixed Groups

�121


Illustration 1The statements of financial position for 3 companies are as follows:

Other information:

I. John acquired a 60% holding in Paul for $600

II. Paul acquired a 60% holding in Ringo for $200

III. John acquired a 30% holding in Ringo for $75

IV. All of the investments were made on the same date

V. Goodwill is to be calculated gross and no impairment has been recorded

VI. The carrying value of assets & liabilities were the same as the fair values on the date of acquisition

VII. On the date of acquisition the following information was correct:

Prepare the consolidated statement of financial position for John Group.

John Paul Ringo

Investments 675 200

Assets 900 700 400

1575 900 400

Share Capital 300 200 100

Accumulated Profits 700 400 100

Equity 1000 600 200

Liabilities 575 300 200

1575 900 400

Paul Ringo


Fair value of the effective NCI 100 60

�122


Solution 1


Effective interest & NCI

Indirect Holding Adjustment

Use this to reduce the cost of investment in W3 and the NCI in W4.

John

↓ ↓60%

30% ↓ Paul

↓ ↓60%

Ringo

Control

John Controls Paul.

Paul controls Ringo and in addition John controls another 30% of Ringo.

Ringo is therefore a subsidiary of John group.

John’s direct interest in Ringo 30%

John’s indirect interest in Ringo (60% x 60%) 36%

John’s effective interest in Ringo 66%

Effective NCI in Ringo 100% - 66% 34%

NCI in Paul Paul’s investment in Ringo

40% X 200 = 80

�123



Working 3 - Goodwill in Paul

Working 3 - Goodwill in Ringo



Paul Ringo

Share Capital 200 200 100 100

Accumulated Profits 250 400 60 100

450 600 160 200



700


Gross Goodwill 250

Cost of Paul’s investment 200

Cost of John’s investment 75



255


Gross Goodwill 95

�124


Working 4 - NCI


Fair Value of Paul NCI at acquisition 100

Fair Value of Ringo NCI at acquisition 60


Plus Paul NCI share of post acquisition profits (600-450) x 40% 60

Plus Ringo NCI share of post acquisition profits (100 - 60) x 34% 13.6

153.6

$


Add: Parent % of Paul’s post acquisition profits 150 x 60% 90

Add: Parent % of Ringo’s post acquisition profits 40 x 66% 26.4

816.4

�125


Statement of financial position for John Group

John Paul Ringo Group

Goodwill W3 (95 + 250)

345

Assets 900 700 400 900 + 700 + 400

2,000

2,345

Share Capital 300 200 100 Parent 300

Accumulated Profits

700 400 100 W5 816

NCI W4 154

Equity 1,270

Liabilities 575 300 200 500 + 300 +200

1,075

2,345

�126


Changes in Mixed Groups

�127


Solutions to Lecture Illustrations

Working Total

A’s direct interest in C 25%

A’s indirect interest (via B) (90% x 70%) 63%

A’s effective interest in C 0.88

Non Controlling Interest in C (Balancing figure) 12%

100%

Working Total

D’s direct interest in F 30%

D’s indirect interest (via E) (70% x 40%) 28%

D’s effective interest in F 0.58

Non Controlling Interest in F (Balancing figure) 0.42

100%

Action Result

D invests in E in 2008 D owns 70% of E making it a subsidiary

D invests in F in 2009 D owns 30% of F making it an associate

E invests in F in the current year This makes D’s effective interest in F 58% as per our working.

F has gone from an associate to a subsidiary.This is a step-acquisition so we need to revalue the current investment in F and take the gain or loss to the income statement.

�128


Action Result

D invests in E in 2008 D owns 70% of E making it a subsidiary

E invests in F in 2009 E owns 40% of F making it an associate as E has significant influence and D controls that influence.

D invests in F in the current year This makes D’s effective interest in F 58% as per our working.

F has gone from an associate to a subsidiary.This is a step-acquisition so we need to revalue the current investment in F and take the gain or loss to the income statement.

Working Total

G’s direct interest in I 80%

G’s indirect interest (via H) (90% x 10%) 9%

G’s effective interest in I 0.89

Non Controlling Interest in I (Balancing figure) 0.11

100%

Action Result

G invests in H in 2008 G owns 90% of H making it a subsidiary

G invests in I in 2009 G owns 80% of I making it a subsidiary

H invests in I in the current year This makes G’s effective interest in I 89% as per our working.

I was a subsidiary before with an 80% holding.It is now still a subsidiary with an 89% holding.This is a decrease in the NCI of 9% and will be a transaction within equity.

�129


Action Result

G invests in H in 2008 G owns 90% of H making it a subsidiary

H invests in I in 2009 I is a simple investment of 10%

G invests in I in the current year This makes G’s effective interest in I 89% as per our working.

I was an investment before.It is now a subsidiary with an 89% holding.This is a step acquisition.

�130


IAS 21 Foreign Currency I & II

�131


Illustration 1Which of the following statements relating to IAS 21 The effects of changes in foreign exchange rates is correct?

A. The functional currency of a foreign subsidiary is the currency that the group financial statements are presented in.

B. A foreign subsidiary must present it’s financial statements in the presentational currency of the parent.

C. Consideration will be given to the currency of the costs and sales of the entity when determining it’s functional currency.

D. The more autonomous a subsidiary, the more likely it’s functional currency is that of the parent entity.

Answer C

Illustration 2Bulldog Ltd has a year end of 31 January.

On 13th October Bulldog Ltd buys goods from Eagle Inc. a US supplier for $250,000.

On 24th November Bulldog settles the transaction in full.

Exchange rates

13th October £1 : $1.45

24th November £1 : $1.55

Show the accounting entries for these transactions.

�132



Agreeing Transaction Working £

On date of agreeing the transaction use the spot rate to record it

250,000 / 1.45

172,414

DR Purchases 172,414

CR Payables 172,414

On Settlement Working £

On date of agreeing the transaction use the spot rate to record it

250,000 / 1.55

161,290

DR Payables 172,414

CR Cash with amount actually paid 161,414

CR FX Gain with the difference 11,000

�133


Illustration 3Jeff Ltd. purchases an item of plant on 1st June from a foreign supplier on one month’s credit for €100,000. Jeff is a US company.

Exchange rates

1st June $ = €1.50

21st June $ = €1.40

How will this transaction be dealt with in the accounts for the year to 21st June?

�134


Solution to Illustration 3

At Purchase Date Working $

The rate at the time of purchase is $ : €1.50 €100,000 / 1.50 66,666

DR Asset 66,666

CR Payables 66,666

At 21st June Working $

The rate at this time is $ : €1.40 €100,000 / 1.40 71,429

The payable must be retranslated at the year end as it is a monetary balance. So........

DR FX Loss (71,429 - 66,666) 4,763

CR Payables (71,429 - 66,666) 4,763

The $4,763 is unrealised so is included in Other Comprehensive Income.

�135


Illustration 4

Big Ltd. acquired 80% of Cahoona Inc. on 1st July 20X1.Cahoona Inc are based in Burgerland where the functional currency is Francs (Fr). The financial statements for the year to 30 June 20X2 are below.

SFP Big$

CahoonaFr

Investment in Cahoona 5000

Non Current Assets 10,000 3,000

Current Assets 5,000 2,000

20000 5,000


Retained Earnings 4,000 2,500

Liabilities 10,000 1,000

20,000 5,000

Income Statement Big$

CahoonaFr

Revenue 25,000 35,000

Operating Costs -15,000 -26,250

Profit Before Tax 10,000 8,750

Tax -5,000 -7,450

Profit for the Year 5,000 1,300

�136


There was no other comprehensive income for either entity in the period.

Other information:

I. The fair value of the net assets of Cahoona was Fr6,000 on the date of acquisition with any increase being attributable to land held at historic cost.

II. Big sold goods to Cahoona during the year for $1,000 cash.

III.The NCI is valued using the Fair Value method at FR 2000 at acquisition.

IV. The Goodwill in Cahoona was impairment tested at the year end and was impaired by FR200. The impairment was deemed to have accrued evenly over the year so the average rate should be used to treat it.

Exchange rates to $1:

Fr1 July 2001 1.5Average rate 1.751 June 1.930 June 2

Prepare the group statement of financial position and statement of other comprehensive income.

�137




Working 2 - Equity Table in Functional Currency

Big

↓80%

Cahoona


Parent Share 80%

NCI 20%

100%

At AcquisitionFr

At Year EndFr


Accumulated Profits 1,200 2,500

Fair Value Adjustment on land (Balancing figure)

3,300 3,300

6,000 7,300

Translate at 1.5 2

Total Net Assets in $ 4000 3650

Post acquisition Loss including FX movements -350

�138


Working 3 - Goodwill in Functional Currency

Working 4 - NCI

Fr Fr

Cost of Parent Investment (5,000 @ 1.5) 7,500

Fair Value NCI 2,000

Less net assets at acquisition (W2) -6,000

Goodwill 3,500

Translated at closing rate (3500 / 2) $1,750

Impairment -$114

Remaining Goodwill To SFP $1,636

Add Back Impairment (200 / 1.75) $114

Goodwill at Opening Rate (3500 / 1.5) -$2,333

FX Loss on Goodwill for Year -$583

$

Fair Value of NCI at Acquisition Rate (2000 / 1.5) 1,333

NCI% Post Acquisition Loss (W2) (20% x -350) -70

NCI % Goodwill Impairment in Year (20% x -114) -22.8

NCI% Goodwill FX Loss (20% x -583) -117

1,124

�139




$

Parent’s Accumulated Profits 4,000

Share of Sub Post-Acq Loss (80% x -350) -280

Parent% Goodwill Impairment in Year (80% x -114) -91

Parent% Goodwill FX loss (80% x -583) -466

3,162

SFP Big Cahoona $

Non Current Assets 10,000 ((3,000 + 3,300) / 2) = 3,150

13,150

Goodwill (W3) 1636

Current Assets 5,000 (2000 / 2) 6000

20786

Share Capital 6,000 Parent 6,000

Retained Earnings 4,000 W5 3162

NCI W4 1124

Liabilities 10,000 ((1,000 / 2) 10500

20,000 0 20786

�140


FX Gains/Losses for year

NCI Share Profit/Loss for Period

Closing Net Assets at Cl. Rate (W2) (7300 / 2) 3650

Comprehensive Income for Year at Ave. Rate (1300 / 1.75)

-743

Opening Net Assets at Op. Rate (6000 / 1.5) -4000

FX Loss for Year on Net Assets -1,093

FX Loss for Year on Goodwill (W3) -583

Total FX Loss for the year -1,676

NCI Share Profit in Period 20% x 1300 260

NCI Share Goodwill Impairment 20% x 200 -40

Share of Profit in FR 220

Translate at Ave. Rate (220 / 1.75) 126

�141


Statement of Comprehensive Income

Big Cahoonas Adjustment $

Revenue 25,000 (35,000 / 1.75) Inter Co-1,000

44,000

Operating Costs -15,000 (26,250 / 1.75 Inter Co-1,000

-29,000

Profit Before Tax 15,000

Tax -5000 (7,450 / 1.75) -9,257

Profit for the Year 5,743

Profit Attributable to:

Parent (Balance) 5,617

Non Controlling Interest 126

5,743

Comprehensive Income

Profit for the Year 5,743

FX differences on translation of foreign operations (W6) -1,676

4,067

�142


Ethics

�143


Illustration 1Jocatt operates in the energy industry and undertakes complex natural gas trading arrangements, which involve exchanges in resources with other companies in the industry. Jocatt is entering into a long-term contract for the supply of gas and is raising a loan on the strength of this contract. The proceeds of the loan are to be received over the year to 30 November 2011 and are to be repaid over four years to 30 November 2015. Jocatt wishes to report the proceeds as operating cash flow because it is related to a long-term purchase contract. The directors of Jocatt receive extra income if the operating cash flow exceeds a predetermined target for the year and feel that the indirect method is more useful and informative to users of financial statements than the direct method.

(i) Comment on the directors’ view that the indirect method of preparing statements of cash flow is more useful and informative to users than the direct method. (7 marks)

(ii) Discuss the reasons why the directors may wish to report the loan proceeds as an operating cash flow rather than a financing cash flow and whether there are any ethical implications of adopting this treatment. (6 marks)

Professional marks will be awarded in part (b) for the clarity and quality of discussion. (2 marks)

Solution to Illustration 1�144


i.

Many companies use the indirect method for preparing the statement of cash flow on the grounds of cost.

The indirect method is essentially a reconciliation of the net income reported in the statement of financial position with the cash flow from operations whereas the direct method shows the inflows and outflows of cash under different categories.

The method of reconciliation in the indirect method is confusing to users and not easy to match to the rest of the financial statements with the only real information being the difference between net profit before tax and cash from operations.

The direct method allows for reporting operating cash flows by understandable categories as they can see the amount of cash collected from customers, cash paid to suppliers, cash paid to employees and cash paid for other operating expenses. Users can gain a better understanding of the major trends in cash flows and can compare these cash flows with those of the entity’s competitors.

An issue in the use of the indirect method for users is the abuse of the classifications of specific cash flows such as cash outflows which should have been reported in the operating section being classified as investing cash outflows with the result that companies enhance operating cash flows.

A problem for users is the fact that entities can choose the method used and there is not enough guidance on the classification of cash flows in the operating, investing and financing sections of the indirect method used in IAS 7.

�145


ii.

The directors main reason for wishing to do this is to manipulate the income of the firm.

The complex nature of the indirect method as discussed previously means that the directors are attempting to confuse users who do not have a detailed understanding of cash flow accounting.

The information provided by directors should be a faithful representation which is unbiased so that information disclosed is truthful and neutral. They have a responsibility to perform in an ethical manner.

The reliance of users on the information provided for investment decisions means that the directors must put aside their own self interest to provide information that is true and fair.

They may be tempted to manipulate the income of the firm for several reasons:

i. To gain performance related bonuses.ii.To protect the share price of the firm.iii.To ensure that their jobs are safe and reputations enhanced.

Regardless of the personal impact on the directors they must act independently and objectively in the application of the accounting standards reporting the loan as cash flows from financing activities.

�146


IFRS 8 & IAS 33Operating Segments & EPS

�147


Illustration 1Norman, a public limited company, has three business segments which are currently reported in its financial statements. Norman is an international hotel group which reports to management on the basis of region. It does not currently report segmental information under IFRS8 ‘Operating Segments’. The results of the regional segments for the year ended 31 May 20X8 are as follows:

There were no significant inter company balances in the segment assets and liabilities. The hotels are located in capital cities in the various regions, and the company sets individual performance indicators for each hotel based on its city location.

Required:

Discuss the principles in IFRS8 ‘Operating Segments’ for the determination of a company’s reportable operating segments and how these principles would be applied for Norman plc using the information given above.

RegionRevenue Segmental

Profit/LossSegmental

AssetsSegmentalLiabilitiesExternal Internal

$m $m $m $m $m

European 200 3 -10 300 200

South East Asia 300 2 60 800 300

Other 500 5 105 2,000 1,400

�148


Solution

Requirements of IFRS 8

IFRS 8 requires operating segments to be identified based on the management structure and reporting system in the entity. The components that are reviewed regularly by the CEO in order to allocate resources and assess performance will form the segments.

The standard seeks to enable users to view information on the business operations which fully discloses the financial effects of the different areas and types of operations undertaken.

Under the standard an operating segment is defined as a component:

I. That engages in business activities from which it may earn revenues and incur expenses (even if the revenues & expenses are with other components in the entity).

II. Whose operating results are reviewed regularly by the entity’s chief operating decision makers to make decisions about resources to be allocated to the segment and assess its performance; and for which discrete financial information is available

An operating segment will be a reportable segment if it meets the following criteria:

I. Revenues (internal & external) are more than 10% of combined revenue.

II. Profit or loss is more than 10% of combined total.

III. Assets are more than 10% of combined total.

75% or more of the entities external revenue must be reported by operating segments. If not then, other segments must be identified even if they do not meet the criteria for reportable segments until 75% is reported.

Application to Norman

The KPIs used by the management of Norman are based on city so it may well be that the operating segments of Norman could be split further on a city basis.

Norman should investigate their reporting structure to evaluate whether decisions about allocation and performance are made within the entity on a city basis and consider splitting the segments further.

Regarding the current segments, only the South East Asia segment passes all 3 tests for a reportable segment. The European segment meets only the criteria for 10% + of reported revenue and fails on the others.

�149


The current reported segments report only 50% of the entity’s total external revenue so they will have to identify further operating segments regardless of whether they meet the criteria until the reach 75%.

By examining the internal reports of Norman the entity can determine whether the operating segments should be further split based on the information used by management.

�150


Illustration 2An entity issued 300,000 shares at full market price on 1st July 2009. The year end of the entity is 31st December.

There were 900,000 shares in issue on 1st Jan 2009 and the profit for the year to 31st December 2009 was $1,000,000.

Calculate the EPS at 31st December 2009.

Solution

Date Shares Months Fraction Ave

1/01/09 900,000 6/12 - 450,000

1/07/09 1,200,000 6/12 - 600,000

1,050,000

EPS = 1,000,000 / 1,050,000 = 95.24c

�151


Illustration 3ABC Ltd. makes a bonus issue of 1 for 6 on 1st July 2009. The year end of the entity is 31st December.


Calculate the EPS at 31st December 2009.

Solution


1/01/09 900,000 6/12 7/6 525,000

1/07/09 1,050,000 6/12 525,000

1,050,000

EPS = 1,000,000 / 1,050,000 = 95.24c

�152


Illustration 4ABC Ltd. makes a rights issue of 1 for 3 on 1st July 2009. The current share price is $4 and the rights issue is at a price of $3 The year end of the entity is 31st December.


Last year’s earnings were $900,000

Calculate the EPS at 31st December 2009 and the new EPS for 2008.

Solution

No. Shares Price Total

3 4 12

1 3 3

4 15

THERP = (15 / 4) = $3.75 so rights fraction is: 4/3.75


1/01/09 900,000 6/12 4/3.75 480,000

1/07/09 1,200,000 6/12 600,000

1,080,000

December 2009 EPS = 1,000,000 / 1,080,000 = 92.59c

c

December 2008 EPS (900,000 / 900,000) 100

Inverted Bonus Fraction 3.75/4

Comparable EPS 93.75

�153


IAS 19 - Pensions

�154


Illustration 1A company maintains a defined benefit pension scheme for it’s employees. The following information is relevant:

The pension assets brought forward in 20X0 $1,000 with a closing balance of $2,000.

The Discount Rate is 11%.

Calculate the expected return on Pension Assets.

Solution

Pension Assets Brought Forward 1,000

Expected Return % 11%

Expected Return on Plan Assets 110

�155


Illustration 2

A company maintains a defined benefit pension scheme for it’s employees. The following information is relevant:

The liabilities of the scheme were $1,400 at the start of the period and $2,600 at the end.

The discount rate is 12%.

Calculate the Interest Cost for the period.

Solution

Pension Liabilities Brought Forward 1,400

Discount Rate 12%

Interest Cost 168

�156


Illustration 3 - Try this yourself!The following details refer to Company A’s pension scheme.

Calculate the return on assets and the interest cost.

Solution

B/F C/F

Pension Assets 1,000 2,000

Pension Liabilities 1,400 2,600

The discount rate is 11%

Pension Assets Brought Forward 1,000

Expected Return % 11%

Expected Return on Plan Assets 110

Pension Liabilities Brought Forward 1,400

Discount Rate 11%

Interest Cost 154

�157


Illustration 4A company maintains a defined benefit pension scheme for it’s employees. The following information is relevant:

The pension assets brought forward in 20X0 $1,800 with a closing balance of $2,700.

The company contributes $90 per year into the scheme.

Benefits paid out in the period were $100.

The liabilities of the scheme were $1,600 at the start of the period and $2,100 at the end.

The discount rate is 12%.

The terms of the scheme have changed meaning that past service costs have arisen of $35 and the current service costs for the period are $70.

Required:

Show the treatment for the pension scheme in the financial statements of the company.

(See Video)

�158


IFRS 2Share Based Payments

�159


Illustration 1

An entity grants 1 share option to each of its 100 employees on 1 January Year 1. Each grant is conditional upon the employee working for the entity over the next three years.

The fair value of each share option as at 1 January Year 1 is $8

At the end of each year the number of employees expected to take up the options are:

Year 1: 95Year 2: 97

When the rights are taken up in year 3, 98 employees actually receive the options.

Show the treatment for the employee benefits over the three years.

Solution

Year Total Employees expected to

qualify

Value of option

Proportion of vesting

period

Total cumulative

charge

Cost for each periodDr WagesCr equity

1 95 8 1/3 253 253

2 97 8 2/3 517 517 - 253 = 264

3 98 8 3/3 784 784 - 253 - 264 = 267

�160


Illustration 2An entity grants 1 share option to each of its 500 employees on 1 January Year 1. Each grant is conditional upon the employee working for the entity over the next three years.

The fair value of each share option as at 1 January Year 1 is $10

On the basis of a weighted average probability, the entity estimates on 1 January that 100 employees will leave during the three-year period and therefore forfeit their rights to share options.

The following actually occurs:

– 20 employees leave during Year 1 and the estimate of total employee departures over the three-year period is revised to 70 employees

– 25 employees leave during Year 2 and the estimate of total employee departures over the three-year period is revised to 60 employees

– 10 employees leave during Year 3

Solution

Year Employee Departures

Total EXPECTED to leave

TOTAL EXPECTED TO VEST AT YEAR

END

1 20 70 430

2 25 60 440

3 10 20 + 25 + 10 (Actual) 445


qualify

Value of option


period

Total cumulative

cost

Cost for each periodDr Expense

Cr equity

1 430 10 1/3 1433 1433

2 440 10 2/3 2933 2,933 - 1,433 = 1,500

3 445 10 3/3 4450 4,450 - 2933 = 1,517

�161


Illustration 3

Same question with additional information of share option price at the end of each year:

Year 1 10 Year 2 12 Year 3 14

Solution


qualify

Share Option Price


period

Total cumulative

cost

Cost for each periodDr ExpenseCr Liability

1 430 10 1/3 1433 1433

2 440 12 2/3 3520 3,520 - 1,433 = 2,087

3 445 14 3/3 6230 6,230 - 3,520 = 2,710

�162


Illustration 4At the beginning of year 1, an entity grants 1 share options to each of its 500 employees over a vesting period of 3 years at a fair value of $15

Year 140 leave, further 70 expected to leave;

Share options now repriced (as market value of shares has fallen) as the Fair Value of the options had fallen to $5. After the repricing they are now worth $8. The modification has therefore increased the Fair Value from $5 to $8.

Year 235 leave, further 30 expected to leave

Year 328 leave

Hint!

The repricing has increased the Fair Value of the Option by $3.

This amount is recognised over the remaining two years of the vesting period, along with remuneration expense based on the original option value of $15

Solution


qualify

Option Value


period

Total cumulative

cost

Cost for each periodDr ExpenseCr Equity

1 390 15 1/3 1950 1950

2 395 15 2/3 3950 3,950 - 1,950 = 2,000

3 397 15 3/3 5955 5,955 - 3,950 = 2,005


qualify

Option Value


period

Total cumulative

cost

Cost for each periodDr ExpenseCr Equity

2 395 3 1/2 593 593

3 397 3 2/2 1191 1191 - 593 = 598

�163


Year Original Charge Additional Charge Total Charge in Year

1 1950 1950

2 2000 593 2593

3 2005 598 2603

Total 5955 1191 7146

�164


IAS 16 & 36Non Current Assets and

Impairment

�165


Illustration 1A company purchases a crane with a useful economic life of 15 years for $200m with an obligation to decommission at a cost of $50m. The applicable discount rate is 8%.

Show the recognition of the asset in the financial statements and the treatment over the first accounting period.

Solution

Initial Recognition DR CR

Asset (200 + (50 x 1/1.0815) 215.75

Cash 200

Liability 15.75

Year 1 Treatment DR CR

Depreciation Charge (215.75 / 15) 14.38

Accumulated Depreciation 14.38

Finance Cost to I/S (15.75 x 8%) 1.26

Dismantling Liability 1.26

�166


Illustration 2Ashanti owned a piece of property, plant and equipment (PPE) which cost $12 million and was purchased on 1 May 2008. It is being depreciated over 10 years on the straight-line basis with zero residual value. On 30 April 2009, it was revalued to $13 million and on 30 April 2010, the PPE was revalued to $8 million. The whole of the revaluation loss had been posted to the statement of comprehensive income and depreciation has been charged for the year. It is Ashanti’s company policy to make all necessary transfers for excess depreciation following revaluation.

Solution

Balance

B/F 0.00

Initial Revaluation 2.20

Transfer to Equity -0.24

C/F 1.96

Historic Cost Revalued Am’t Revaluation Reserve

BF 12 12 0.0

Dep’n (12/10) -1.2 -1.2 0.0

Revaluation 2.2 2.2

CF 10.8 13 2.2

Dep’n -1.2 -1.44 -0.24

NBV 9.6 11.56 1.96

New Valuation 8

Total Impairment 3.56

Remove revaluation less dep’n 1.96

Income Statement 1.6

�167


Illustration 3

Property, plant & equipment with a total cost of $1m has components of a structure valued at $700,000 with a useful economic life of 20 years and plant worth $300,000 with a useful economic life of 10 years.

Show the depreciation charges in the financial statements in year 1.

Solution

Structure Plant Total

Cost 700,000 300,000 1,000,000

Depreciation (700,000 / 20) = 35,000 (300,000 /10) = 30,000 65,000

NBV 665,000 270,000 935,000

�168


Illustration 4

The carrying value of an item of plant in the financial statements is $400,000. By operating the plant the business expects to earn discounted cash-flows of $350,000 over the rest of it’s useful life. The could sell the plant now for $300,000 with costs to sell of $25,000.

What is the recoverable amount?

Solution

$m

Value in Use 350,000

Fair Value less cost to sell (300,000 - 25,000) 275,000

Recoverable amount is the higher of these two which is the Value in Use of $350,000.

�169


Illustration 5

A company has an asset for which the following information is relevant:

Carry out the impairment review for the asset.

Solution

$‘000

Carrying amount 400

Fair Value 350

Cost to sell 25

Cash flows expected in each of the next 5 years 90

Discount rate 10%

Annuity rate for 10% over 5 years 3.791

$‘000

Value in Use (90 x 3.791) 341.19

Fair Value less cost to sell (350,000 - 25,000) 325

Recoverable amount is the higher of these two which is the Value in Use of $341,190.

Carrying Value 400

Recoverable Amount 341.19

Impairment 58.81

�170


Illustration 6

A cash generating unit has the assets outlined below. It’s recoverable amount has been assessed as $1,000. Show the treatment for any impairment.

Solution

Assets Carrying Value

Goodwill 100

PPE 800

Intangible 400

1300

Impairment Test

Carrying Value of Assets 1,300

Recoverable Amount 1,000

Impairment 300

Assets Carrying Value Impairment Post Impairment

Goodwill 100 -100 Nil

PPE 800 (200 x 800/1,200) = -133 667

Intangible 400 (200 x 400/1,200) = -67 333

1300 1000

�171


IFRS 5 - Assets Held For Sale and Discontinued Operations

�172


Illustration 1 Archie Co. committed itself at the beginning of the financial year to selling a property that is being under-utilised following the economic downturn. As a result of the economic downturn, the property was not sold by the end of the year. The asset was actively marketed but there were no reasonable offers to purchase the asset. Archie is hoping that the economic downturn will change in the future and therefore has not reduced the price of the asset.

Can Archie Co. classify the property as available for sale under IFRS 5?

SolutionAlthough Archie has a plan to sell, it is available immediately and they are trying to locate a buyer it would appear that they are not marketing the property at a reasonable price.

They have not reduced the price even though there has been a downturn that has presumably reduced prices in general so cannot classify the property under IFRS 5.

�173


Illustration 2 A company has a machine that cost $300,000 to buy two years ago. At the time of purchase the machine had a useful economic life of 30 years and they apply the revaluation model under IAS 16 (Revaluation less depreciation).

The company has decided to sell the machine and it’s fair value at this time is $290,000 with additional costs to sell being estimated at $5,000. The value in use of the machine has been determined as $300,000.

Although the machine has not been sold at the year end as the decision was taken that day the company is confident that it will be sold quickly and is committed to selling it having begun to market the machine to potential purchasers.

How should the machine be treated at the year end in the financial statements and at what value will it be included?

�174


Solution

Cost 300,000

Depreciation Year 1 (300,000 / 30) 10,000

Depreciation Year 2 (300,000 / 30) 10,000

Carrying Value of Machine (No revaluations Yet) 280,000

IFRS 5 says to apply the appropriate standard immediately prior to classification.The machine is held under the revaluation model so revalue it before classification.

Carrying Value of Machine 280,000

Fair Value 290,000

Revaluation Reserve 10,000

This revaluation is treated under IAS 16 and creates a revaluation reserve with the movement shown in OCI.We then need to impairment test the Asset under IAS 36.

New Carrying value 290,000

Recoverable Amount = Higher ofF.V. Less Costs (290,000 - 5,000)

Value In Use (300,000) so...... 300,000

No Impairment as recoverable amount is higher than carrying value.Lastly we must revalue Asset to the lower of Fair Value Less costs or Carrying Value under IFRS 5

Carrying Value of Machine 290,000

Fair Value Less Costs (290,000 - 5,000) 285,000

IFRS 5 Impairment to P/L 5,000

The impairment will reduce the carrying value of the machine to $285,000 and the charge will be written off to the income statement.The machine will no longer be depreciated.

�175


Illustration 3A company has two divisions each of which form a major line of business, Division A and Division B.

Mid way through the current period Division A was shut down with losses of $50,000 on the sale of the fixed assets of the business and redundancy costs of $100,000.

Division B was restructured incurring losses of $85,000.

Results in the period included the following information:

Prepare a note to the accounts showing the analysis of the discontinued operation and draft the income statement for the company for the period.

Div A Div B

$‘000 $‘000

Revenue 1,000 2,000

Cost of Sales 750 1,250

Distribution 250 300

Administration 100 50

Finance costs for the business were $40,000 in the period and the tax charge was $32,000.

�176


SolutionDiscontinued Operations Analysis

$‘000

Revenue 1,000

Cost of Sales 750

Gross Profit 250

Admin Expenses 100

Distribution Costs 250

Operating Loss -100

Loss on Disposal of Fixed Assets -50

Redundancy Costs -100

Total Loss -250

�177


IAS 40 - Investment Property

�178


Illustration 1Which of the following are Investment Property?

• Building used as accommodation for staff.• Land purchased as an investment. No planning consent yet.• New office building purchased for capital appreciation.

Solution

Building used as accommodation for staff. NO

Land purchased as an investment. No planning consent yet. YES

New office building purchased for capital appreciation. YES

�179


Illustration 2A company has purchased a building for investment purposes on 1st Jan 20X0. The building cost a total of $1.5m with the land element being estimated at $500,000.

The building has a useful life of 30 years. At the 31st December 20X0 the fair value of the building (including the land) was $2m.

Show the treatment of the property for the two methods possible under IAS 40.

Solution

Cost Model

Cost of the Property $1,500,000

Depreciation in Period (1,500,000 - 500,000) / 30 $33,333

Carrying Value at 31 December 20X0 $1,466,667

Fair Value Model

Cost of the Property $1,500,000

Depreciation in Period Not Depreciated $0

Fair Value Adjustment to Income ($2m - $1.5m) $500,000

Carrying Value at 31 December 20X0 $2,000,000

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IAS 38 - Intangible Assets

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Illustration 1Which of the following should be classified as development?

1. Lion Ltd has spent $200,000 investigating whether a particular substance, drefite, found in the Arctic Circle is resistant to heat.

2. Hoey Ltd has incurred $250,000 expenses in the course of making new material for ski-equipment which will be more durable.

3. Ryan Ltd has found that a chemical compound, mallerite, is harmful to the human body.4. Lion Ltd has incurred a further $300,000 using drefite in creating prototypes of a new

heat-resistant body-suit for humans.

Solution

2 & 4 are development

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Illustration 2

Coddy Ltd is developing a new product, the fold-up bicycle. Forecasts are as follows:

Show how the development costs should be treated if:

1. the costs do not qualify for capitalisation2. the costs do qualify for capitalisation.

Solution

Expense Costs

20X5 20X6 20X7 20X8

$ $ $ $

Revenue from other activities 500 700 800 800

Revenue from Fold-up Bicycle 500 700 900

Development costs -600

1. Expense Costs

20X5 20X6 20X7 20X8 Total

Revenue from other activities

500 700 800 800 2800

Revenue from other widgets 500 700 900 2100

Development costs -600 -600

Net Profit/Loss -100 1200 1500 1700 4300

2. Amortise Development Costs

20X5 20X6 20X7 20X8 Total

Revenue from other activities

500 700 800 800 2800

Revenue from other widgets 500 700 900 2100

Development costs 0 -143 -200 -257 -600

Net Profit/Loss 500 1057 1300 1443 4300

Working for Costs 600 x 500/2100

600 x 700/2100

600 x 900/2100

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Illustration 3A company has 3 projects in development:Project A is in development and testing of the product has proved successful. Production has begun and some sales have been made to date. The costs have been measured accurately and the project looks likely to be profitable. All costs incurred so far meet the criteria to be capitalised under IAS 38.

Project B is also in development and testing of the product has proved successful. The costs have been measured accurately and the company expects to begin production and sales next year. All costs incurred so far meet the criteria to be capitalised under IAS 38.

Project C was begun in the current period and to date there has been a feasibility study carried out which was inconclusive.

Other Information:

Show how the above will be treated in the current period accounts discussing each project individually.

A B C

Total Costs to the start of the year 600 500

Costs incurred in the period 200 100 150

Total Anticipated Revenues 20,000 30,000 Unknown

Revenue in Period 5,000 0 0

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Solution

Project A

Project A is in production and meets the criteria for capitalisation. All costs to date will be capitalised and amortisation based on sales during the period will be charged

Costs Capitalised to Date 600

Costs in the period 200

Total costs to be capitalised 800

Ammortisation in Period (800 x 5,000/20,000) 200

Intangible Asset Carried Forward 600

Project B

Project B meets the criteria for capitalisation. All costs to date will be capitalised but production has not begun meaning that no amortisation will occur.

Costs Capitalised to Date 500


Total costs to be capitalised 600

Intangible Asset Carried Forward 600

Project C

Project C does not meet the criteria for capitalisation as it is purely research into the feasibility of the project and the outcome was uncertain. All costs to date will be written off to the income statement in the period incurred.


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IAS 20 - Government Grants

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Illustration 1A company purchases an item of plant on which it receives a government grant of 30% of the purchase price. The plant cost $2m and has no residual value.

The plant is to be depreciated on a straight line basis over it’s 10 year life.

Show the possible accounting treatments for the government grant in the first year.

Solution

DR CR

Plant at Cost 2,000,000

Cash 2,000,000

Income Statement Depreciation 200,000

Accumulated Depreciation 200,000

Cash for Government Grant 600,000

Deferred Income 600,000

Deferred Income Recognition in Year (600,000 / 10) 60,000

Income Statement 60,000

Total charge to Income Statement (200,000 - 60,000) = $140,000

DR CR

Plant at Cost 2,000,000

Cash 2,000,000

Cash 600,000

Plant at Cost 600,000

Income Statement Depreciation ((2m - 600k) /10) 140,000

Accumulated Depreciation 140,000

Total Charge to Income Statement = $140,000

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IAS 23 - Borrowing Costs

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Illustration 1

A company is building a qualifying asset worth $2.5m and has issued a bond of the same value to do so with an effective interest rate of 6%.

The asset will take 9 months to build and for the first 3 months the company invests the proceeds of the bond and earns interest at 3%.

What borrowing costs should be capitalised?

Solution

$

Total Interest for the Year (2.5m x 6%) 150,000

For 9 months x 9/12 112,500

Temporary Investment Income (2.5m x 3%) x 3/12 -18,750

93,750

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Illustration 2A company has a £1m 6% loan and a £2m 8% loan. It builds a building costing £600,000 and it takes 8 months.

What borrowing costs should be capitalised?

Solution

Illustration 3Company buys land on 1/12, a planning application is prepared during December and January. Permission is obtained at the end of January. Payment for the land is made on 1/2. On this date a loan is taken out to pay for the land and building constructionAdverse weather conditions meant a delay in the commencement of work until 15/3.When should interest be capitalised from?

Solution

Total Borrowing Cost Total Cost

$1m 6% 6

$2m 8% 16

$3m At total cost 22

Average Rate therefore is (22/3) = 7.33%

We can capitalise 600,000 x 7.33% x 8/12 = $29,320

Expenses start being incurred 1 December

Borrowing costs incurred 1 February

Activities started 15 March

Start Capitalising on 15 March

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Illustration 4

Davos is building an office block and issued a $10 million unsecured loan with a coupon (nominal) interest rate of 6% on 1 April 20X9. The loan is redeemable at a premium which means the loan has an effective finance cost of 7·5% per annum.

The loan was specifically issued to finance the building of the new block which meets the definition of a qualifying asset in IAS 23. Construction of the block commenced on 1 May 20X9 and it was completed and ready for use on 28 February 2010, but did not open for trading until 1 April 20X0.

During the year trading at Davos’ was below expectations so they suspended the construction of the new block for a two-month period during July and August 20X9. The proceeds of the loan were temporarily invested for the month of May 20X9 and earned interest of $40,000.

Calculate the borrowing costs that can be capitalised under IAS 23

SolutionThe effective interest rate is 7.5% which should be used to capitalise the interest as this is a qualifying asset.

The interest cost for the year to 31/03/20X0 would therefore be ($10m x 7.5%) = $750,000.

However the building only began on 1/05/20X9 and was completed on 28/02/20X0 so one month at the start and one month at the end can’t be capitalised.

In addition there were 2 months during which construction was suspended.

8 months interest ($750,000 x 8/12) = $500,000 less the temporary investment income of $40,000 should be caplitalised.

Total = $460,000

The rest of the cost should be written off to the Income statement.

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IAS 12Deferred Tax

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Illustration 1An entity has the following assets & liabilities recorded in it’s balance sheet at 31 December 2008:

The entity had made a provision for inventory obsolescence of $4m that is not allowable for tax purposes until the inventory is sold and an impairment charge against trade receivables of $2m that will not be allowed in the current year for tax purposes but will be in the future. Income tax paid is at 30%.

Required:Calculate the deferred tax provision at 31 December 20X8.

Solution

Carrying Value$m

Tax Base$m

Property 20 14

Plant & Equipment 10 8

Inventory 8 12

Trade Receivables 6 8

Trade Payables 12 12

Cash 4 4

Carrying Value$m

Tax Base$m

Temporary Difference

Asset/Liability?

Property 20 14 6 Liability

Plant & Equipment 10 8 2 Liability

Inventory 8 12 -4 Asset

Trade Receivables 6 8 -2 Asset

Trade Payables 12 12 0 -

Cash 4 4 0 -

Total 2 Liability

The deferred tax liability will be $2,000,000 x 30% = $600,000

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Illustration 2Show the accounting treatment in the following situations:

(i) A company treats royalties as income when receivable in accordance with IFRS. The tax regime taxes royalties when they are received. The Income Statement of the company shows $1m of royalties in the period of which $500,000 have been received.

(ii)In accordance with IFRS a company has deferred $2m of income on a long term contract. The tax rules state that the income should be recognised immediately.

(iii)Depreciation on Plant & Equipment in the period under IFRS is $4m where the tax allowable depreciation is $2m.

(iv)Depreciation on Buildings in the period under IFRS is $3m where the tax allowable depreciation is $4m.

The tax rate is 30%

Solution

Situation Financial Statements Tax Effect Deferred Tax

Royalties More Income More Tax Liability

Deferred Income Less Income Less Tax Asset

Plant & Equipment More Expense Less Tax Asset

Buildings Less Expense More Tax Liability

Situation Working Tax Deferred Tax

DR CR DR CR

Royalties (1m - 500k) x 30% 150 150

Deferred Income (2m x 30%) 600 600

Plant & Equipment (4m - 2m) x 30% 600 600

Buildings (4m - 3m) x 30% 300 300

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Illustration 3An entity granted 1,000 share options to an employee vesting 3 years later. The fair value of at the grant date was $3

Tax law allows a tax deduction of the intrinsic value at the end of the vesting period.

The intrinsic value is $1.20 at the end of year 1 and $3.40 at the end of year 2

Assume a tax rate of 30%.

Solution

Step 1 - Calculate the Options Expense.

Step 2 - Calculate the Tax Allowable Deduction

Step 3 - Treatment

Year No. Options

Value of option

Proportion Dr ExpenseCr equity

Period Expense

1 1000 3 1/3 1000 1000

2 1000 3 2/3 2000 1000

Year No. Options

Intrinsic Value of option

Proportion Total Tax Allowable

Period Expense

1 1000 1.2 1/3 400 400

2 1000 3.4 2/3 2267 1867

Share Expense

Tax Allowable(At Exercise Date)

SFPAsset

I/SCR

SCICR

Year 1 1,000 400 (400 x 30%)=120

120 Nil

Year 2 1000 1,867 (1,867) x 30%= 560

480 80

Total 2000 2267 680 600 80

The share expense of 2,000 is less than the 2,267 tax allowable so the extra (267 x 30% = 80) goes to equity rather than the income statement.

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IAS 37Provisions

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Illustration 1Greenie, a public limited company, builds, develops and operates airports. During the financial year to 30 November 2010, a section of an airport collapsed and as a result several people were hurt. The accident resulted in the closure of the terminal and legal action against Greenie. When the financial statements for the year ended 30 November 2010 were being prepared, the investigation into the accident and the reconstruction of the section of the airport damaged were still in progress and no legal action had yet been brought in connection with the accident. The expert report that was to be presented to the civil courts in order to determine the cause of the accident and to assess the respective responsibilities of the various parties involved, was expected in 2011.

Financial damages arising related to the additional costs and operating losses relating to the unavailability of the building. The nature and extent of the damages, and the details of any compensation payments had yet to be established. The directors of Greenie felt that at present, there was no requirement to record the impact of the accident in the financial statements.

Compensation agreements had been arranged with the victims, and these claims were all covered by Greenie’s insurance policy. In each case, compensation paid by the insurance company was subject to a waiver of any judicial proceedings against Greenie and its insurers. If any compensation is eventually payable to third parties, this is expected to be covered by the insurance policies.

The directors of Greenie felt that the conditions for recognising a provision or disclosing a contingent liability had not been met. Therefore, Greenie did not recognise a provision in respect of the accident nor did it disclose any related contingent liability or a note setting out the nature of the accident and potential claims in its financial statements for the year ended 30 November 2010.

(6 marks)

SolutionIAS 37 paragraph 14, states that an entity must recognise a provision if, and only if:(i) a present obligation (legal or constructive) has arisen as a result of a past event (the

obligating event), (ii)payment to settle the obligation is probable (‘more likely than not’), (iii)and the amount can be estimated reliably.

An obligating event is an event that creates a legal or constructive obligation and, therefore, results in an enterprise having no realistic alternative but to settle the obligation [IAS 37.10].

At the date of the financial statements, there was no current obligation for Greenie. In particular, no action had been brought in connection with the accident. It was not yet probable that an outflow of resources would be required to settle the obligation. Thus no provision is required.

Greenie may need to disclose a contingent liability. IAS 37 defines a contingent liability as:

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(a) a possible obligation that has arisen from past events and whose existence will be confirmed by the occurrence or not of uncertain future events; or

(b) a present obligation that has arisen from past events but is not recognised because: (i) it is not probable that an outflow of resources will occur to settle the obligation; or (ii)the amount of the obligation cannot be measured with sufficient reliability.

IAS 37 requires that entities should not recognise contingent liabilities but should disclose them, unless the possibility of an outflow of economic resources is remote. It appears that Greenie should disclose a contingent liability. The fact that the real nature and extent of the damages, including whether they qualify for compensation and details of any compensation payments remained to be established all indicated the level of uncertainty attaching to the case. The degree of uncertainty is not such that the possibility of an outflow of resource could be considered remote. Had this been the case, no disclosure under IAS 37 would have been required.

Thus the conditions for establishing a liability are not fulfilled. However, a contingent liability should be disclosed as required by IAS 37.

The possible recovery of these costs from the insurer give rise to consideration of whether a contingent asset should be disclosed. Given the status of the expert report, any information as to whether judicial involvement is likely will not be available until 2011. Thus this contingent asset is more possible than probable. As such no disclosure of the contingent asset should be included.

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Illustration 2Grange has prepared a plan for reorganising the parent company’s own operations. The board of directors has discussed the plan but further work has to be carried out before they can approve it. However, Grange has made a public announcement as regards the reorganisation and wishes to make a reorganisation provision at 30 November 2009 of $30 million. The plan will generate cost savings. The directors have calculated the value in use of the net assets (total equity) of the parent company as being $870 million if the reorganisation takes place and $830 million if the reorganisation does not take place. Grange is concerned that the parent company’s property, plant and equipment have lost value during the period because of a decline in property prices in the region and feel that any impairment charge would relate to these assets. There is no reserve within other equity relating to prior revaluation of these non-current assets.

SolutionA provision for restructuring should not be recognised, as a constructive obligation does not exist. A constructive obligation arises when an entity both has a detailed formal plan and makes an announcement of the plan to those affected. The events to date do not provide sufficient detail that would permit recognition of a constructive obligation. Therefore no provision for reorganisation should be made and the costs and benefits of the plan should not be taken into account when determining the impairment loss. Any impairment loss can be allocated to non-current assets, as this is the area in which the directors feel that loss has occurred.

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IAS 10 - Subsequent Events

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Illustration 1

Which of the following are adjusting events for Fishcakes Ltd? The year end is 30 June 20X1 and the accounts are approved on 20 August 20X1.

1. Sales of year-end inventory on 4 July 2011 at less than cost2. Issue of new ordinary shares on 10 July 2011.3. A fire in the warehouse occurred on 16 July 2011. All stock was destroyed.4. A major credit customer was declared bankrupt on 20 July 2011.5. All of the share capital of a rival, Haggis Ltd was acquired on 22 July 2011.6. On 4 August, $700,000 was received in respect of an insurance claim dated 13

February 2011.

Which of the following are adjusting events for Fishcakes Ltd?

Solution1, 4 and 6.

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Interim Reporting (IAS 34) & First Time Adoption (IFRS 1)

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Illustration 1In the IFRS opening statement of financial position at 1 May 2009, Lockfine elected to measure its fishing fleet at fair value and use that fair value as deemed cost in accordance with IFRS 1 First Time Adoption of International Financial Reporting Standards. The fair value was an estimate based on valuations provided by two independent selling agents, both of whom provided a range of values within which the valuation might be considered acceptable. Lockfine calculated fair value at the average of the highest amounts in the two ranges provided. One of the agents’ valuations was not supported by any description of the method adopted or the assumptions underlying the calculation. Valuations were principally based on discussions with various potential buyers. Lockfine wished to know the principles behind the use of deemed cost and whether agents’ estimates were a reliable form of evidence on which to base the fair value calculation of tangible assets to be then adopted as deemed cost.

Lockfine was unsure as to whether it could elect to apply IFRS 3 Business Combinations retrospectively to past business combinations on a selective basis, because there was no purchase price allocation available for certain business combinations in its opening IFRS statement of financial position.

SolutionThe question arises as to whether the selling agents’ estimates can be used to calculate fair value in accordance with IFRS 1 First Time Adoption of International Financial Reporting Standards. Assets carried at cost (e.g. property, plant and equipment) may be measured at their fair value at the date of the opening IFRS statement of financial position. Fair value becomes the ‘deemed cost’ going forward under the IFRS cost model.

Deemed cost is an amount used as a surrogate for cost or depreciated cost at a given date. If, before the date of its first IFRS statement of financial position, the entity had revalued any of these assets under its previous GAAP either to fair value or to a price-index-adjusted cost, that previous GAAP revalued amount at the date of the revaluation can become the deemed cost of the asset under IFRS 1. It is generally advantageous to use independent estimates when determining fair value, but Lockfine should ensure that the valuation is prepared in accordance with the requirements of the relevant IFRS standard.

An independent valuation should generally, as a minimum, include enough information for Lockfine to assess whether or not this is the case. The selling agents’ estimates provided very little information about the valuation methods and underlying assumptions that they could not, in themselves, be relied upon for determining fair value in accordance with IAS 16 Property, Plant and Equipment. Furthermore it would not be prudent to value the boats at the average of the higher end of the range of values.

IFRS 1, however, does not set out detailed requirements under which fair value should be determined. Issuers who adopt fair value as deemed cost have only to provide the limited disclosures, and methods and assumptions for determining the fair value do not have to be disclosed. The revaluation has to be broadly comparable to fair value. The use of fair value as deemed cost is a cost effective alternative approach for entities which do not

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perform a full retrospective application of the requirements to IAS 16. Thus Lockfine was not in breach of IFRS 1 and can determine fair value on the basis of selling agent estimates.

In accordance with IFRS 1, an entity which, during the transition process to IFRS, decides to retrospectively apply IFRS 3 to a certain business combination must apply that decision consistently to all business combinations occurring between the date on which it decides to adopt IFRS 3 and the date of transition. The decision to apply IFRS 3 cannot be made selectively. The entity must consider all similar transactions carried out in that period; and when allocating values to the various assets (including intangibles) and liabilities of the entity acquired in a business combination to which IFRS 3 is applied, an entity must necessarily have documentation to support its purchase price allocation, extended or applied to other similar situations.

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Financial Instruments I

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Illustration 1Aron held 3% holding of the shares in Smart, a public limited company. The investment was classified as available-for-sale and at 31 May 2009 was fair valued at $5 million. The cumulative gain recognised in equity relating to the available-for-sale investment was $400,000.

On the same day, the whole of the share capital of Smart was acquired by Given, a public limited company, and as a result, Aron received shares in Given with a fair value of $5·5 million in exchange for its holding in Smart.

Show the treatment for the transaction in the accounts to the 31 May 2009:

i) Under IAS 39ii)If the asset was classified as FVOCI under IFRS 9

Solution

i)IAS 39 $m

Proceeds of Share exchange 5.5

Carrying amount of Shares 5

Gain on de-recognition 0.5

Recycle gain previously recognised in Equity 0.4

Gain to Income Statement 0.9

IFRS 9 $m

Proceeds of Share exchange 5.5

Carrying amount of Shares 5

Gain on de-recognition 0.5

Gain to Income Statement 0.5

Previous gain transferred from other reserves to retained earnings 0.4

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Illustration 2The publication of IFRS 9, Financial Instruments, represents the completion of the first stage of a three-part project to replace IAS 39 Financial Instruments: Recognition and Measurement with a new standard. The new standard purports to enhance the ability of investors and other users of financial information to understand the accounting of financial assets and reduces complexity.

Required:

Discuss the approach taken by IFRS 9 in measuring and classifying financial assets and the main effect that IFRS 9 will have on accounting for financial assets. (11 marks)

SolutionIFRS 9 Financial instruments retains a mixed measurement model with some assets measured at amortised cost and others at fair value. The distinction between the two models is based on the business model of each entity and a requirement to assess whether the cash flows of the instrument are only principal and interest. The business model approach is fundamental to the standard and is an attempt to align the accounting with the way in which management uses its assets in its business whilst also looking at the characteristics of the business. A debt instrument generally must be measured at amortised cost if both the ‘business model test’ and the ‘contractual cash flow characteristics test’ are satisfied. The business model test is whether the objective of the entity’s business model is to hold the financial asset to collect the contractual cash flows rather than have the objective to sell the instrument prior to its contractual maturity to realise its fair value changes.

The contractual cash flow characteristics test is whether the contractual terms of the financial asset give rise, on specified dates, to cash flows that are solely payments of principal and interest on the principal amount outstanding.All recognised financial assets that are currently in the scope of IAS 39 will be measured at either amortised cost or fair value. The standard contains only the two primary measurement categories for financial assets unlike IAS 39 where there were multiple measurement categories. Thus the existing IAS 39 categories of held to maturity, loans and receivables and available-for-sale are eliminated along with the tainting provisions of the standard.

A debt instrument (e.g. loan receivable) that is held within a business model whose objective is to collect the contractual cash flows and has contractual cash flows that are solely payments of principal and interest generally must be measured at amortised cost. All other debt instruments must be measured at fair value through profit or loss (FVTPL). An investment in a convertible loan note would not qualify for measurement at amortised cost because of the inclusion of the conversion option, which is not deemed to represent payments of principal and interest. This criterion will permit amortised cost measurement when the cash flows on a loan are entirely fixed such as a fixed interest rate loan or where interest is floating or a combination of fixed and floating interest rates.

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IFRS 9 contains an option to classify financial assets that meet the amortised cost criteria as at FVTPL if doing so eliminates or reduces an accounting mismatch. An example of this may be where an entity holds a fixed rate loan receivable that it hedges with an interest rate swap that swaps the fixed rates for floating rates. Measuring the loan asset at amortised cost would create a measurement mismatch, as the interest rate swap would be held at FVTPL. In this case the loan receivable could be designated at FVTPL under the fair value option to reduce the accounting mismatch that arises from measuring the loan at amortised cost.

All equity investments within the scope of IFRS 9 are to be measured in the statement of financial position at fair value with the default recognition of gains and losses in profit or loss. Only if the equity investment is not held for trading can an irrevocable election be made at initial recognition to measure it at fair value through other comprehensive income (FVTOCI) with only dividend income recognised in profit or loss. The amounts recognised in OCI are not recycled to profit or loss on disposal of the investment although they may be reclassified in equity.

The standard eliminates the exemption allowing some unquoted equity instruments and related derivative assets to be measured at cost. However, it includes guidance on the rare circumstances where the cost of such an instrument may be appropriate estimate of fair value.

The classification of an instrument is determined on initial recognition and reclassifications are only permitted on the change of an entity’s business model and are expected to occur only infrequently. An example of where reclassification from amortised cost to fair value might be required would be when an entity decides to close its mortgage business, no longer accepting new business, and is actively marketing its mortgage portfolio for sale. When a reclassification is required it is applied from the first day of the first reporting period following the change in business model.

All derivatives within the scope of IFRS 9 are required to be measured at fair value. IFRS 9 does not retain IAS 39’s approach to accounting for embedded derivatives. Consequently, embedded derivatives that would have been separately accounted for at FVTPL under IAS 39 because they were not closely related to the financial asset host will no longer be separated. Instead, the contractual cash flows of the financial asset are assessed as a whole and are measured at FVTPL if any of its cash flows do not represent payments of principal and interest.

One of the most significant changes will be the ability to measure some debt instruments, for example investments in government and corporate bonds at amortised cost. Many available-for-sale debt instruments currently measured at fair value will qualify for amortised cost accounting.

Many loans and receivables and held-to-maturity investments will continue to be measured at amortised cost but some will have to be measured instead at FVTPL. For example some instruments, such as cash-collateralised debt obligations, that may under IAS 39 have been measured entirely at amortised cost or as available-for-sale will more likely be measured at FVTPL. Some financial assets that are currently disaggregated into host financial assets that are not at FVTPL will instead by measured at FVTPL in their entirety.

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IFRS 9 may result in more financial assets being measured at fair value. It will depend on the circumstances of each entity in terms of the way it manages the instruments it holds, the nature of those instruments and the classification elections it makes.Assets that are currently classified as held-to-maturity are likely to continue to be measured at amortised cost as they are held to collect the contractual cash flows and often give rise to only payments of principal and interest.

IFRS 9 does not directly address impairment. However, as IFRS 9 eliminates the available-for-sale (AFS) category, it also eliminates the AFS impairment rules. Under IAS 39 measuring impairment losses on debt securities in illiquid markets based on fair value often led to reporting an impairment loss that exceeded the credit loss that management expected. Additionally, impairment losses on AFS equity investments cannot be reversed within the income statement section of the statement of comprehensive income under IAS 39 if the fair value of the investment increases. Under IFRS 9, debt securities that qualify for the amortised cost model are measured under that model and declines in equity investments measured at FVTPL are recognised in profit or loss and reversed through profit or loss if the fair value increases.

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Financial Instruments II

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Illustration 1

A company invests $100,000 in a 3 year redeemable 12% bond.

The bond consists of interest payments and principle only and the company intends to hold it until it is redeemed.

Show the treatment for the bond over the 3 year period.

Solution

O’Bal Interest (12%)DR Financial Asset

CR Income Statement

Cash Rec’d (12% x 100,000)

DR CashCR Financial Asset

Cl’bal

100,000 12,000 -12,000 100,000

100,000 12,000 -12,000 100,000

100,000 12,000 -12,000 100,000

At the end of the term the bond is repaid and the company receives $100,000.

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Illustration 2A company invests $10,000 in a 3 year redeemable 10% bond which is redeemable at a premium of $675.

The bond consists of interest payments and principle only and the company intends to hold it until it is redeemed.

The effective interest rate on the bond is 12%.


Solution

O’Bal Interest (12%)DR Financial Asset

CR Income Statement

Cash Rec’d (10% x 10,000)

DR CashCR Financial Asset

Cl’bal

10,000 1,200 -1,000 10,200

10,200 1,224 -1,000 10,424

10,424 1,251 -1,000 10,675

The Premium payable at the end of the term means that the company receives $10,675.

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Illustration 3A company issues a $30,000 3 year 7% redeemable bond at a discount of 10% with issue costs of $1,000.

The bond is redeemable at a premium of $1,297.

The effective interest rate is 14%.


$

Issue Proceeds 30,000

Discount -3,000

Issue Costs -1,000

Net Proceeds 26,000

O’Bal Interest (14%)DR Income StatementCR Financial Liability

Cash Paid (7% x 30,000)DR Financial Liability

CR Cash

Cl’bal

26,000 3,640 -2,100 27,540

27,540 3,856 -2,100 29,296

29,296 4,101 -2,100 31,297

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Illustration 4VB acquired 40,000 shares in another entity, JK, in March 2012 for $2.68 per share. The investment was held for trading purposes on initial recognition. The shares were trading at $2.96 per share on 31 July 2012.

Show the treatment to record the initial recognition of this financial asset and its subsequent measurement at 31 July 2012

Solution

$

As the shares are held for trading they will be classified as Fair Value through Profit & Loss

Recognition of Financial Asset (40,000 x $2.68) 107200

Fair Value on 31 July 2012 (40,000 x $2.96) 118400

Movement to Income Statement (Gain) 11200

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Illustration 5QWE issued 10 million 5% convertible $1 bonds 2015 on 1 January 2010. The proceeds of $10 million were credited to non-current liabilities and debited to bank. The 5% interest paid has been charged to finance costs in the year to 31 December 2010.

The market rate of interest for a similar bond with a five year term but no conversion terms is 7%. (The annuity rate for 5 years at 7% is 4.100 with the discount rate in year 5 being 0.713).

Show the split of the compound instrument between debt and equity and the treatment of the debt portion in the first year.

Solution

$

First Step is to calculate debt value (Present Value of interest & Capital)

Interest for 5 Years at 5% ($10m x 5%) 500,000

Discounted Cash Flows

Discount Interest Payment at effective rate (500,000 x 4.100) 2,050,000

Discount Capital Repayment ($10m x 0.713) 7130000

Total Debt Portion 9180000

The difference between the issued value of the convertible debt and the present value of the interest and capital is the EQUITY portion of the debt

Total Convertible Debt 10,000,000

Present Value of Interest and capital from above 9180000

Total Equity Portion 820000

O’Bal Interest (7%)DR Income Statement CR Financial Liability

Cash Paid (5% x 10m)

DR Financial Liability CR Cash

Cl’bal

9,180,000 642,600 -500,000 9,322,600

�215


Illustration 6Aron issued one million convertible bonds on 1 June 2006. The bonds had a term of three years and were issued with a total fair value of $100 million which is also the par value. Interest is paid annually in arrears at a rate of 6% per annum and bonds, without the conversion option, attracted an interest rate of 9% per annum on 1 June 2006. The company incurred issue costs of $1 million. If the investor did not convert to shares they would have been redeemed at par. At maturity all of the bonds were converted into 25 million ordinary shares of $1 of Aron. No bonds could be converted before that date. The directors are uncertain how the bonds should have been accounted for up to the date of the conversion on 31 May 2009 and have been told that the impact of the issue costs is to increase the effective interest rate to 9·38%.

Solution

Debt & Equity Split

Year Cash Flows DR 9% PV

1 6 0.917 5.50

2 6 0.841 5.05

3 6 0.772 4.63

3 100 0.772 77.20

Debt Total 92.38

Total Value 100.00

Equity Total (Bal) 7.62

Issue Costs $

Debt ($1m x 92.38/100) 923,800

Equity ($1m x 7.62/100) 76,200

Debt Equity Total

Pre- Issue Costs 92.38 7.62 100

Issue Costs 0.92 0.08 1

�216


Net Value 91.46 7.54 99

Debt Equity Total

Year O’bal Interest (9.38%)

Cash Paid Cl’bal

1 91.46 8.58 6.00 94.04

2 94.04 8.82 6.00 96.86

3 96.86 9.09 6.00 99.95

This is the $100m conversion value of the bond with slight rounding difference

�217


Hedge Accounting

�218


Illustration 1

In June 20X5 ABC Co. (a jewellery manufacturer) is worried about the price of gold increasing. ABC intends to buy 1,000 ounces of gold on 31st Dec 20X5 so enters into a futures contract to buy 1,000 ounces of gold at $1,235 per ounce on 31 June 20X5.

The year end of ABC Co. is 31 October 20X5 and on that date the futures price for delivery on 31 Dec 20X5 is $1,300 per ounce.

Show the accounting entries to record the futures contract in the financial statements at the year end 31 October 20X5.

Solution

The initial cost of the futures contract is zero (one of the characteristics of a derivative).

By the year end it has moved in value creating a gain as ABC has a contract to buy at $1,235 whereas it would now have cost $1,300 so they could sell it at that price if they wanted to.

so...

DR Financial Asset (1,000 x (1,300 - 1,235)) = $65,000CR Gain in P/L $65,000

�219


Illustration 2

NMN is a UK based company and is receiving $400,000 from a US customer in 6 months. NMN takes out a forward contract at a rate of £1:$1.40 and by it’s year end in 3 months the spot rate is £1:$1.45.

At what value should the contract be included in the financial statements at the year end?

Solution

Forward contract amount expected (400,000 / 1.4) £285,714

Spot rate value (400,000 / 1.45) £275,862

Initial Valuation on inception = 0 (No Cost)

Increase in value of Forward (285,714 - 275,862) = £9,852 Asset

�220


Illustration 3

A company purchases a $2 million bond that has a fixed interest rate of 6% per year . The instrument is classed as a FVPL financial asset. The fair value is $2 million.

The company enters into an interest rate swap (fair value zero) to offset the risk of a decline in fair value. If the derivative hedging instrument is effective, any decline in the fair value of the bond should be offset by opposite increases in the fair value of the derivative instrument. The swap is expected to be 100% effective.

The company designates and documents the swap as a hedging instrument.

Market interest rates increase to 7% and the fair value of the bond decreases to $1,920,000.

Show the double entry to record the hedge in the financial statements

Solution

The instrument is a hedged item in a fair value hedge, this change in fair value of the instrument is recognised in profit or loss, as follows:

Dr Income statement 80,000

Cr Bond 80,000

The fair value of the swap has increased by $80,000. Since the swap is a derivative, it is measured at fair value with changes in fair value recognised in profit or loss.

Dr Swap 80,000

Cr Income statement 80,000

The changes in fair value of the hedged item and the hedging instrument exactly offset, the hedge is 100% effective and, the net effect on profit or loss is zero.

�221


Illustration 4

ABC intends to buy 1,000 ounces of gold on 31st Jan 20X6 at the prevailing market price on that date. The current price of gold is $1,200.

ABC is concerned that the price of gold may rise, so enters into a futures contract to buy 1,000 ounces of gold at $1,300 per ounce on 31 March 20X5.

The company designates and documents the futures contract as a hedging instrument.

The year end of ABC Co. is 31 October 20X5 and on that date the futures price for delivery on 31 March 20X6 is $1,400 per ounce. The market price of gold on that date is $1,325.

On 31 Jan 20X6 the futures contract is settled at $1,450 and the contract for the gold purchase is completed at a price of $1,350.

Show the impact of this cash flow hedge on the financial statements of ABC Co. at:

(i) 31 Oct 20X5(ii) 31 Jan 20X6

Solution

31 Oct 20X5

The gain on the futures contract of (1,000 x (1,400 - 1,300)) $100,000 will initially be recognised in reserves:

DR Financial Asset $100,000CR Reserves (OCI) $100,000

31 Jan 20X6

Now that the transaction has taken place both parts can be taken to Profit or Loss

DR Purchase of Gold (1,000 x 1,350) $1,350,000CR Cash $1,350,000CR Gain on futures contract (1,000 x (1,450 - 1,300) $150,000DR Cash $150,000

The net effect is that the cost of the gold was (1,350,000 - 150,000) $1,200,000 - which was the prevailing price when the futures contract was entered into to hedge price fluctuations.

�222


Illustration 5

P intends to buy 1000 barrels of oil, the current price is $95 per barrel. They hedge the risk of a rise in prices by taking out a futures contract to secure the price at $100 per barrel. By the year end the oil price is $150 per barrel and the futures price is $160.

How should the hedge be treated in the financial statements?

Solution

Movement on cashflow (150 - 95) x 1000 = $55,000 (Loss)

Gain on future (160 - 100) x 1000 = $60,000 (Gain)

The effective portion of the hedging instrument of $55,000 should go to OCI with the $5,000 remaining to P/L

so…

DR Derivative $60,000CR OCI $50,000CR P/L $5,000

�223


Financial Instrument Disclosures

�224


No Illustrations, Just Objective Test Questions

1. IFRS 7 splits financial instrument disclosures into 2 categories. Which of the following is a category of disclosure under IFRS 7?

A. Information about strategies.B. Information about significance.C. Information about hedging.D. Information about risks.E. Information about reclassification.

Answer B and D

2. Which of the following is not a required disclosure under the ‘Information about risks’ category of IFRS 7?

A. Qualitative disclosuresB. Quantitative disclosuresC. Market Risk disclosuresD. Cash flow disclosures

Answer D

�225


Financial Asset Impairments

�226


Illustration 1

On 01 January 20X4 Satchel purchased a $10m 5 year 8% bond which is redeemable at a premium of $1.22m. The effective interest rate on the bond is 10%.

It is estimated on initial recognition of the asset that there is a 0.25% risk of default in the next 12 months and that if this does occur there would be no more further payments of interest and only 60% of the capital would be repaid.

How should the bond be treated in the financial statements of Satchel?

�227


Solution

We need to create a 12 month allowance for expected credit losses which has 3 steps:

1. What is the cash shortfall between what was expected and what will now be received.2. Discount this shortfall at effective interest rate.3. Probability weight it.

In each year there will be (10m x 8%) $800,000 less interest received and (($10m + $1.22m) x 40%) $4.488m not returned at the end if the default occurs so…

The loss allowance of $15,000 should be set-off against the carrying value of the bond.

The interest on the bond should continue to be calculated on the gross amount i.e. not net of the loss allowance.

Year Shortfall Discount Rate Present Value

1 800 1/1.1 727

2 800 1/1.12 661

3 800 1/1.13 601

4 800 1/1.14 546

5 800 + 4,488 1/1.15 3,283

Present Value of Shortfall 5,819

Probability of Default in 12 months 0.25%

Loss Allowance 15

Year O’Bal Effective interest

Interest Received

C’Bal Loss Allowance

Carrying Amount

1 10,000 1,000 800 10,200 -15 10,185

2 10,200 1,020 800 10,420 -15 10,405

�228


Illustration 2

On 01 January 20X4 Satchel purchased a $10m 5 year 8% bond which is redeemable at a premium. The effective interest rate on the bond is 10%.


On 31 December 20X4 the interest for the year has been paid but it is estimated that there has been a significant increase in the risk of default on the bond. There is now a 10% likelihood that default will occur over the life of the bond and if so no further interest will be received and only 30% of the capital would be repaid.


�229


Solution

We now need to create a lifetime allowance for expected credit losses over the life of the bond which has 3 steps:

1. What is the cash shortfall between what was expected and what will now be received.2. Discount this shortfall at effective interest rate.3. Probability weight it.

In each year there will be (10m x 8%) $800,000 less interest received and (($10m + $1.22m) x 70%) $7.845m not returned at the end if the default occurs so…

The loss allowance of $14,000 should be increased to $789,000 and again set-off against the carrying value of the bond.

The interest on the bond should continue to be calculated on the gross amount i.e. not net of the loss allowance.


1 PAID - -

2 800 1/1.1 727

3 800 1/1.12 661

4 800 1/1.13 601

5 800 + 7,845 1/1.14 5,905

Present Value of Shortfall 7,894

Probability of Default 10%

Loss Allowance 789


Interest Received


Carrying Amount

1 10,000 1,000 800 10,200 -789 9,411

�230


Illustration 3

On 01 January 20X4 Satchel purchased a $10m 5 year 8% bond which is redeemable at a premium. The effective interest rate on the bond is 10%.


On 31 December 20X4 the interest for the year was been paid but it was estimated that there has been a significant increase in the risk of default on the bond. There is now a 10% likelihood that default will occur over the life of the bond and if so no further interest will be received and only 30% of the capital would be repaid.

On 31 December 20X5 only interest of $400,000 was received due to financial difficulties suffered by the bond issuer. Satchel do not expect to recover any further interest but do expect to recover 50% of the capital expected at the end of the 5 years.


�231


Solution

There has now been evidence that the bond is credit impaired which means it needs to be written down to the present value of the expected cash flows on the bond.

The carrying value of the bond at this point will be

Satchel now only expects (($10m + $1.22m) x 50%) $5.61m to be returned at the end if the default occurs so…

The interest on the bond will now be calculated on the impaired value…

Leaving the balance due to be received at the end as the $5.61m expected.


Interest Received


Carrying Amount

1 10,000 1,000 800 10,200 -15 10,185

2 10,200 1,020 400 10,820 -789 10,031


5 5,610 1/1.13 4,215

Current Carrying Value of Bond 10,031

Impairment 5816


Interest Received


Carrying Amount

3 4,215 422 0 4,637 0 4,637

4 4,637 464 0 5,100 0 5,100

5 5,100 510 0 5,610 0 5,610

�232


Illustration 4

On 01 January 20X4 Navel purchased a $2m 5 year 10% bond. The effective interest rate on the bond is also 10%. The bond is designated as FVOCI.

On 31 December 20X4 the interest for the year was been paid and it was estimated that there has not been a significant increase in the risk of default on the bond. The fair value of the bond on that date was $1.9m.

Therefore only a 12 month expected credit loss allowance should be made which has been determined as $40,000.

How should the bond be treated in the financial statements of Navel?

Solution

On 31 December 20X4 the bond should be revalued through OCI to it’s new fair value of $1.9m by entries…

DR OCI $100,000CR Bond $100,000

In addition a loss allowance of $40,000 should be recognised, however as the bond is classified as FVOCI the entries to do this are…

DR P/L $40,000CR OCI $40,000

The net effect is a (100,000 - 40,000) $60,000 charge to OCI.

�233


IFRS 16 - Leases I(Lessee)

�234


Illustration 1An asset is leased by a company on the 01/01/X0 over a 3 year period. They pay 3 annual payments of $25,000, the first of which is payable on 31/12/X0. In addition they have an option to extend the lease which they are reasonably certain to do for 1 additional year at a cost of $2,0000.

Direct costs of $2000 were incurred in obtaining the lease and $500 of these were reimbursed by the lessor.

The interest rate implicit in the lease is 12%

Show the treatment in the lessees financial statements over the life of the asset.

Solution

Present Value of minimum lease payments

$ Discount Rate

1 Payment 25,000 1/1.12 22,321

2 Payment 25,000 1/1.122 19,930

3 Payment 25,000 1/1.123 17,795

4 Payment 20,000 1/1.124 12,710

Lessees Liability 72,756

Lease Liability on SFP

Period Opening Bal

Interest Charge(12%)DR Income Statement

CR Lease Liability

Lease PaymentDR Lease Liability

CR Cash

Closing Bal

1 72,756 8,731 -25,000 56,487

2 56,487 6,778 -25,000 38,265

3 38,265 4,592 -25,000 17,857

4 17,857 2,143 -20,000 -0

�235


Right of Use Asset

Present value of minimum lease payments 72,756

Direct Costs 2,000

Reimbursement -500

Right of Use asset 74,256

The asset will be depreciated over the 4 year lease term at (74,256 / 4) $18,689 per yr.

�236


Illustration 2A company takes out a 5 year lease on a ship on 01/01/X0 the useful life of the ship is 20 years. $5.5m is to be paid in arrears each year. The lessor has agreed to maintain the ship for the duration of the contract

The interest rate is 6% and the standalone price of the lease on the ship is $25m of the $27.5m total payments.

Explain the treatment in the income statement and the statement of financial position for the lease contract.

Solution

Total Lease ($5.5m x 5) 27.5

Standalone Price of Ship ($5m x 5) 25

Maintenance cost (Bal) TO P/L EACH YEAR ($0.5m x 5) 2.5


$ Discount Rate

1 Payment 5 1/1.06 4.72

2 Payment 5 1/1.062 4.45

3 Payment 5 1/1.063 4.20

4 Payment 5 1/1.064 3.96

5 Payment 5 1/1.065 3.74

Lessees Liability 21.06

�237



Period Opening Bal


CR Lease Liability


CR Cash

Closing Bal

1 21.06 1.26 -5.00 17.32

2 17.32 1.04 -5.00 13.36

3 13.36 0.80 -5.00 9.16

4 9.16 0.55 -5.00 4.71

5 4.71 0.28 -5.00 -0.00

Right of Use Asset

Present value of minimum lease payments 21.06

The asset will be depreciated over the 5 year lease term at (21.06 / 5) $4.21m per yr.

�238


Illustration 3An asset is leased by a company on the 01/01/X0 over a 3 year period. They pay $50,000 up front then 3 annual payments of $100,000, the first of which is payable on 31/12/X0.

The lease payments are indexed to the Consumer Price Index (CPI) for the previous 12 months.

At the start of the lease the CPI is 110 and by the beginning of the second year it is 120.

The interest rate implicit in the lease is 5%

Show the treatment in the lessees financial statements over the first 2 years of the lease.

SolutionYear 1


$ Discount Rate

Up front payments are not added to the lease liability but are added to the right of use asset.

1 Payment 100,000 1/1.05 95,238

2 Payment 100,000 1/1.052 90,703

3 Payment 100,000 1/1.053 86,384



Period Opening Bal


CR Lease Liability


CR Cash

Closing Bal

1 272,375 13,619 -100,000 185,994

�239


Year 2

Right of Use Asset

Present value of minimum lease payments 272,325

Up front payment 50,000

Right of Use asset 322,325

The asset will be depreciated over the 3 yr lease term at (322,325 / 4) $107,441 per yr.


$ Discount Rate

The remaining payments will increase to (100,000 x 120/110) = $109,091

1 Payment 109,091 1/1.05 103,896

2 Payment 109,091 1/1.052 98,949



Period Opening Bal


CR Lease Liability


CR Cash

Closing Bal

1 272,375 13,619 -100,000 185,994

Adjust liability up to $202,845 (202845 - 185,994) 16,851

New Liability 202,845

2 202,845 10,142 -109,091 103,896

103,896 5,195 -109,091 0

�240


Right of Use Asset

Opening Balance 322,325

Depreciation Year 1 -107,442

Carrying Value 214,883

Lease Adjustment 16,851

New Carrying Value 231,734

Depreciation Year 2 -115,867

Carrying Value Year 2 115,867

�241


IFRS 16 - Leases II(Lessor)

�242


Illustration 1ABC Co. leases an asset to CD Co. for a term of 4 years from 1/1/2010. Annual instalments are payable in arrears of $2m. At the end of the term CD Co. can lease the asset for a secondary term of 10 years at a rent of $50,000 per year.

The expected residual value at end of the initial lease is $1m .

Interest rate implicit in the lease 6%.

Show the treatment for the lease in the financial statements of the lessor.

Solution


$ Discount Rate

1 Payment 2 1/1.06 1.89

2 Payment 2 1/1.062 1.78

3 Payment 2 1/1.063 1.68

4 Payment 2 1/1.064 1.58

4 Residual Value 1 1/1.064 0.79

Net Investment in Lease (Receivable) 7.72

Receivable on SFP

Period Opening Bal

Interest Charge(6%)DR Receivable

CR P/L Finance Income

Lease PaymentDR Cash

CR ReceivableClosing Bal

1 7.72 0.46 -2.00 6.18

2 6.18 0.37 -2.00 4.55

3 4.55 0.27 -2.00 2.83

4 2.83 0.17 -2.00 1.00

1.00 Remaining balance is the residual value

�243


Illustration 2A company hires out plant to other businesses on long term operating leases.

On 01/04/X0 it hires out an item of plant on a 6 year lease with an amount payable on that date of $200,000 followed by 5 payments of $100,000 on 01/04/X1 - 01/04/X5.

The plant will be returned to the company on 31/03/X6.

The cost of the plant to the company was $1,100,000 and it has a 30 year useful economic life with no residual value.

i. What is the annual rental income recognised by the company?

ii.Show the treatment in the income statement and the statement of financial position for the years 20X0 and 20X1.

Solutioni.

ii.

Total Rental Income over the lease 200,000 + (100,000 x 5) 700,000

Recognise on Straight Line Basis 700,000 / 6 116,667

Rental Income to be recognised in Income Statement each period 116,667

Period Rental Received Rental Recognised

Difference to Deferred Income

Total Deferred Income

20X0 200,000 116,667 83,333 83,333

20X1 100,000 116,667 -16,667 66,666

�244


Income Statement 20X0 20X1

Rental Income Receivable 116,667 116,667

Depreciation ($1.1m / 30 yrs.) -36,667 -36,667

SFP 20X0 20X1

Plant at Cost 1,100,000 1,100,000

Depreciation -36,667 -73,334

Carrying Value 1,063,333 1,026,666

Non Current Liabilities Deferred Income 66,666 49,999

Current Liabilities Deferred Income 16,667 16,667

83,333 66,666

�245


Illustration 3A company enters into a sale and finance agreement on 1/1/X1 when the Carrying Value of the asset was $70,000. The sale proceeds were $120,000, which was the fair value of the asset, with the remaining useful economic life of the asset being 5 years.

The lease was for 5 annual rentals of $20,000 in arrears. Implicit interest rate of 8% (5 year annuity 3.99).

How should the lease be recognised in the financial statements of each party. Assume the lease is an operating lease from the perspective of the lessor.

Solution

Right of use Asset

PV Minimum Payments (20,000 x 3.99) 79,800

Fair Value on Sale 120,000

Carrying Value before Sale 70,000

Right of Use Asset (79,800 / 120,000) x 70,000 46,550

Gain on Sale

Total Gain (120,000 - 70,000) 50,000

Fair Value of Machine 120,000

Liability remaining 79,800

Rights Transferred to Lessor (120,000 - 79,800) 40,200

Gain to P/L 50,000 x (40,200 / 120,000) 16,750

�246


Entries

DR Cash Amount Received 120,000

DR Right of Use Asset W1 46,550

CR Machine W1 70,000

CR Lease Liability W1 79,800

CR P/L (120,000 - 70,000) / 120,000) 16,750

Lessor Treatment

DR Machine 120,000

CR Cash 120,000

The rental income will then be recognised straight line

�247


Illustration 4A company enters into a sale and finance agreement on 1/1/X1 when the Carrying Value of the asset was $8m. The sale proceeds were $10m and the fair value of the asset was $9.7m.

The lease was for 5 annual rentals of $1.5m in arrears. Implicit interest rate of 4%.

How should the lease be recognised in the financial statements of each party. Assume the lease is an operating lease from the perspective of the lessor.

Solution

W1 - Present Value of minimum lease payments

$ Discount Rate

1 Payment 1.5 1/1.04 1.44

2 Payment 1.5 1/1.042 1.39

3 Payment 1.5 1/1.043 1.33

4 Payment 1.5 1/1.044 1.28

5 Payment 1.5 1/1.045 1.23

Lessees Liability 6.68

W2 - Right of use Asset

PV Minimum Payments 6.68

Difference in FV & Sale Price ($10m - $9.7m) -0.3

Liability Created 6.38

Fair Value on Sale 9.7

Carrying Value before Sale 8

Right of Use Asset (6.38 / 9.7) x 8 5.26

�248


W3 - Gain on Sale

Total Gain (9.7 - 8) 1.7

Fair Value of Machine 9.7

Liability remaining 6.38

Rights Transferred to Lessor (9.7 - 6.38) 3.32

Gain to P/L 1.7 x (3.32 / 9.7) 0.58

Entries

DR Cash Amount Received 10

DR Right of Use Asset W2 5.26

CR Machine (CV) 8

CR Financial Liability (10 - 9.7) 0.3

CR Lease Liability W2 6.38

CR P/L W3 0.58

Lessor Treatment

DR Machine 9.7

DR Financial Asset 0.3

CR Cash 10

The rental income will then be recognised straight line.The lease payments will be allocated to the lease and the financial asset proportionally.

�249


IFRS 15 - Revenue I

�250


Illustration 1

Fresco sells an IT system to Dining on the first day of a new accounting period.

The package includes hardware delivered immediately and a contract for support over the next 3 years with that support worth $50,000 p/a.

The total cost of the contract is paid up front and is $300,000.

How much should Fresco recognise as revenue from the transaction in the current year?

SolutionStep 1 - Identify the Contract

Fresco has agreed to supply Dining with goods and services.

Step 2 - Identify the performance obligations

Fresco has promised to do two things:

- Supply the hardware- Supply the support

Step 3 - Determine the transaction price

The total price is $300,000

Step 4 - Allocate price to obligations

Based on the individual prices the support is worth (50,000 x 3) $150,000 leaving the rest of the $300,000 to be for the hardware (300,000 - 150,000) = $150,000.

Step 5 - Recognise the revenue when (or as) the performance obligation is satisfied

The supply of the hardware happens immediately so the revenue for it should be recognised now.

The support is provided over time so should be recognised on that basis i.e. $50,000 per year over the 3 years.

�251


Illustration 2

Jumbo has agreed to sell a piece of complex machinery with two years free servicing to Jet for $441,000. The machine usually sells for $420,000.

The servicing will cost Jumbo $50,000 to provide and they generally include a mark-up of 40% when setting the price to charge customers for servicing.

The two year servicing contract is not available as a stand-alone product.

How should the transaction price be allocated to the machine and servicing?

SolutionWe can see that the machine generally sells for $420,000 but there is no comparable price for the servicing contract.

Based on the cost + mark-up the servicing would be worth (50,000 x 140%) $70,000.

Therefore the total value of the performance obligations is (420,000 + 70,000) $490,000.

The fact that Jumbo is selling these for $441,000 would imply that a 10% discount has been applied.

This should be allocated proportionally to the machine and servicing so the amounts recognised should be:

Goods (420,000 x 90%) $378,000Services (70,000 x 90%) $63,000 (Recognised over 2 years)

Total (378,000 + 63,000) $441,000

�252


Illustration 3

Jumbo has agreed to sell a piece of complex machinery with two years free servicing to Jet for $700,000. The machine usually sells for $600,000 although a 5% discount is often applied to machines of this specification.

The servicing will cost Jumbo $100,000 to provide and they generally include a mark-up of 30% when setting the price to charge customers for servicing.

The two year servicing contract is not available as a stand-alone product but Jumbo has a policy of not offering discounts on servicing contracts.

How should the transaction price be allocated to the machine and servicing?

SolutionWe can see that the machine generally sells for $600,000 but there is no comparable price for the servicing contract.

Based on the cost + mark-up the servicing would be worth (100,000 x 130%) $130,000.

Therefore the total value of the performance obligations is (600,000 + 130,000) $730,000.

The fact that Jumbo is selling these for $700,000 would imply that a $30,000 discount has been applied.

However rather than be allocated proportionally to the machine and servicing the discount should be applied to the machine only because:

- The discount amounts to 5% of the $600,000 for the machine which is the standard discount for this item given generally.

- There is not generally a discount on servicing.

…so the amounts recognised should be:

Goods (600,000 x 95%) $570,000Services (130,000 x 100%) $130,000 (Recognised over 2 years)

Total (570,000 + 130,000) $700,000

�253


Illustration 4

Placo obtained a contract to sell Davo $3m worth of services over a 3 year period. Specific costs that would not have been incurred otherwise amounted to $120,000.

How should the revenue and costs be recognised?

SolutionThe revenue should be recognised in line with the contract terms over 3 years so ($3m / 3) $1m per year.

The costs should be capitalised as they are specific to the contract so…

DR Asset (Costs) $120,000CR Cash $120,000

…then recognised in line with the revenue over 3 years

DR Profit/Loss (120,000 / 3) $40,000CR Asset (Costs) $40,000

�254


IFRS 15 - Revenue II

�255


Illustration 1

Badger Co. manufactures smart phones and sells them through a contractual relationship with Bodger Co. Badger provides Bodger with the phones for a price of $150 payable once the phone is sold on to a customer.

Bodger has also agreed to a clause in the contract of sale that they cannot sell the phone for less than $200.

How should the goods and revenue be treated in the financial statements of Badger and Bodger?

SolutionWhen the goods are provided to Bodger initially they still remain the property of Badger as they have retained control of them by stipulating the price at which they should be soldr

They will stay as part of Badger’s inventory and no revenue recognised until it is sold to an end customer.

Once the goods are sold to the customer for $200 Bodger should only recognise the commission they have received on selling the goods i.e. $50.

The other $150 is paid to Badger and should be recognised as their revenue on the sale.

�256


Illustration 2

Johnston enters into a contract to sell a piece of plant to Paints on 01 Jan 20X6 and delivers the plant on that date for Paints to begin to use. The price agreed in the contract is $400,000 to be paid on 01 Jan 20X8.

The market rate of interest available to this customer is 10%.

How should this transaction be accounted for in the accounts of Johnston?

Solution

Discount the Revenue and recognise a receivable on the discounted amount

DR Receivable ($400,000 x 1 / 1.12) 330,578

CR Revenue 330,578

Unwind the discount over the two years

Year 1

DR Receivable (330,578 x 10%) 33,058

CR Finance Income 33,058

Year 2

DR Receivable ((330,578 + 33,058) x 10%) 36,364

CR Finance Income 36,364

Final Receivable (330,578 + 33,058 + 36,364) 400,000

�257


Illustration 3

Gerry has just completed a contract to supply Roses with 200 pineapple trees over the next 2 years for a set price of $40,000.

As part of the contract Gerry agreed to pay $2,000 to increase the height of the doors at Roses in order to get the trees into the store.

How much revenue should be recognised in year 1 of the contract?

SolutionThe consideration paid to Roses should be treated as a reduction in the transaction price.

The price therefore will be reduced to (40,000 - 2,000) $38,000.

This will be recognised over the term of the contract so in year 1 ($38,000 / 2) $19,000 will be recognised.

�258


Illustration 4

Avon has sold goods to 1000 customers at a price of $400 each. The goods are delivered and control passed to the customer immediately and they are paid for up front. Each good is currently in inventory at a value of $200.

The customers have the option to return the goods to Avon if they are not sold in the next 60 days for a full refund at which stage Avon will be able to sell them on at a profit.

Based on prior experience Avon estimates that 95% of the goods will not be returned.

SolutionBased on the amount of expected revenue Avon should recognise ((1000 x $400) x 95%) $380,000.

A refund liability for the rest ((1000 x $400) x 5%) $20,000 should be created.

The entries for this will be:

DR Cash $400,000CR Revenue $380,000CR Liability $20,000

The inventory will have been derecognised when transferred to customers but an asset should be created for the goods expected to be returned

DR Asset ((1000 x $200) x 5%) $10,000CR COS $10,000

�259


Construction Contracts Under IFRS 15

�260


Illustration 1

ABC Co. is building a football stadium under a construction contract.

The estimated costs to complete the stadium are $400,000.

The costs to date have been $350,000.

The total estimated revenue is $1,000,000.

It is estimated that the contract is 50% complete.

(i) What amounts of revenue, costs and profit will be recognised in the income statement?

(ii) If the expected revenue from the contract was $500,000 show the amounts of revenue, costs and profit that would be recognised in the income statement?

Solution

Expected Profit

$

Total Expected Revenue 1,000,000

Total Expected Costs (400,000 + 350,000) 750,000

Total Expected Profit 250,000

Recognised this year (250,000 x 50%) 125,000

Revenue (1,000,000 x 50%) 500,000

Costs (750,000 x 50%) 375,000

125,000

Total Loss expected to be recognised immediately

$

Total Expected Revenue 500,000

�261


Costs (400,000 + 350,000) 750,000

Loss -250,000

Revenue (500,000 x 50%) 250,000

Costs (750,000 x 50%) 375,000

Provision for loss -125,000

-250,000

Total Loss expected to be recognised immediately

$

�262


Illustration 2

ABC Co. is building a football stadium under a construction contract.

The estimated costs to complete the stadium are $400,000.

The costs to date have been $350,000.

It is estimated that the contract is 50% complete.

The company is not able to reliably estimate the outcome of the contract but believes it will recover all costs from the customer.

What amounts of revenue, costs and profit will be recognised in the income statement?

Solution

$

Costs to date 350,000

Revenue (Costs to be recovered) 350,000

Profit 0

�263


Illustration 3A construction company has the following contracts in progress:

Profit is accrued on the contracts as a percentage of completion derived by comparing work certified to the total sales value.

Contracts X and Z have been in progress for several years and the following amounts have been recognised to date:

Calculate the figures to be included in the financial statements in relation to the above contracts.

X Y Z

Costs Incurred to Date 350 200 600

Costs to complete 50 800 900

Work Certified to date 400 300 1000

Contract Price 500 600 2000

Cash Received on Contract 300 200 1200

X Z

Revenue 100 300

Costs 80 250

�264


SolutionStep 1 - Calculate the expected profit on each contract

Step 2 - Percentage completion

Step 3 - Profit to be recognised

X Y Z


Costs to complete 50 800 900

Total Costs Expected 400 1000 1500


Profit Expected 100 -400 500

X Y Z

Work Certified to date 400 300 1000


Percentage complete 80% 50% 50%

X Y Z

Profit Expected 100 -400 500

Percentage Completion 80% 50% 50%

Profit/Loss 80 -400 250

�265


Step 4 - Income Statement Figures

Step 5 - Bal. Sheet Figures

X Y Z Total

Sales by % 400 300 1000 1700

Recognised to Date -100 0 -300 -400

Recognise this Year 300 300 700 1300

Costs by % 320 500 750 1570

Recognised to Date -80 0 -250

Recognise this Year 240 500 500

Provision For Loss 200

Profit/Loss 60 -400 200 -70

X Y Z

Revenue Recognised to Date 400 300 1000

Cash Received 300 200 1200

Receivable/(Payable) 100 100 -200

Costs Recognised to Date (COS) 320 500 750


Balance (WIP if Incurred Greater) 30 - -

�266


Illustration 4On 1 October 20X9 Mocca entered into a construction contract that was expected to take 27 months and therefore be completed on 31 December 20X1.

Details of the contract are:$’000

Agreed contract price 12,500 Estimated total cost of contract (excluding plant) 5,500

Plant for use on the contract was purchased on 1 January 20X0 (three months into the contract as it was not required at the start) at a cost of $8 million. The plant has a four-year life and after two years, when the contract is complete, it will be transferred to another contract at its carrying amount. Annual depreciation is calculated using the straight-line method (assuming a nil residual value) and charged to the contract on a monthly basis at 1/12 of the annual charge.

The correctly reported income statement results for the contract for the year ended 31 March 20X0 were:

$‘000Revenue recognised 3,500Contract expenses recognised (2,660)Profit recognised 840

Details of the progress of the contract at 31 March 20X1 are:$’000

Contract costs incurred to date (excluding depreciation) 4,800Agreed value of work completed and billed to date 8,125Total cash received to date (payments on account) 7,725

The percentage of completion is calculated as the agreed value of work completed as a percentage of the agreed contract price.

Required:

Calculate the amounts which would appear in the income statement and statement of financial position of Mocca for the year ended/as at 31 March 20X1 in respect of the above contract.

(10 marks)

�267


Solution

Percentage Completion

Value of Work Completed to date 8,125

Contract Value 12,500

Percentage Completion (8,125 / 12,500) 65%

Expected Total Profit

Total Costs Expected 5,500

Depreciation (8/48 x 24) 4000

Total Costs 9,500

Total Revenue 12,500

Expected Total Profit (12,500 - 9,500) 3,000

Recognise to date (3,000 x 65%) 1,950

Recognised Last Year 840

Recognise this year (1,950 - 840) 1,110

Income Statement Extracts

Revenue (12,500 x 65%) - 3,500 4,625

Costs (9,500 x 65%) - 2,660 3,515

Gross Profit Recognised 1,110

SFP Amounts

Revenue Recognised to Date (12,500 x 65%) 8,125

Cash Received to Date 7,725

Receivable due from customers 400

�268


Costs Recognised to Date (9500 x 65%) 6,175

Costs Incurred to Date (8000/48 x 15) + 4800 7,300

Work In Progress 1,125

SFP Amounts

SFP Extracts

Non Current Asset (8,000 - 2,500) 5500

Receivables (8,125 - 7,725) 400

Work In Progress 1,125

�269


Entity Reconstructions

�270


Illustration 1

Dividends cannot be paid while accumulated losses exist.

Equity of $600,000 is only backed by assets of $500,000.

Loan finance cannot be raised due to the current financial position.

Required

Apply a capital reduction and restate the statement of financial position.

$‘000

Assets 500

500

Equity & Liabilities

Issued Equity Shares @ $1 each 600

Share Premium 100

Retained Earnings -300

Liabilities 100

500

�271


Solution

DR CR

Share Premium 100

Equity Share Capital 200

Retained Earnings 300

$‘000

Assets 500

500


Issued Equity Shares 400

Share Premium 0

Retained Earnings 0

Liabilities 100

500

�272


Illustration 2

A reconstruction scheme is to take place under the following conditions:

(i) The equity shares of $1 nominal currently in issue will be written off and will be replaced on a one-for-one basis by new equity shares with nominal value of $0.25.

(ii)The debenture loan will be replaced by the issue of new equity shares - four new shares with nominal value of $0.25 each for every $1 debenture loan converted.

(iii)New shares with a nominal value of $0.25 will be offered to the existing equity holders in the ratio of three new shares for every one currently held. All current equity holders are expected to take this up.

(iv)Share premium account to be eliminated.(v)Brand to be written off as it is impaired.(vi)Deficit on the retained earnings to be eliminated.

Prepare the revised SFP and show any workings undertaken to achieve this.

$‘000

Intangible Asset (Brand) 50,000

Non Current Assets 220,000

270,000

Inventory 20,000

Receivables 30,000

320,000


Issued Equity Shares @ $1 each 100,000

Share Premium 75,000

Retained Earnings -100,000

75,000

Debenture Loan 125,000

Overdraft 20,000

Payables 100,000

320,000

�273


SolutionReconstruction Account

DR CR

New Equity Shares(100,000 x 0.25) Note (i)

25,000 Remove Equity SharesNote (i)

100,000

Conversion of Debenture (125,000 x 4 x 0.25) Note (ii)

125,000 Remove Debenture LoanNote (ii)

125,000

Brand Impairment Note (v)

50,000 Share Premium RemovedNote (iv)

75,000

Retained EarningsNote (vi)

100,000

300,000 300,000

$‘000

Intangible Asset (Brand) 0

Non Current Assets 220,000

220000

Bank (-20,000 + 75,000) Note (iii) 55,000

Inventory 20,000

Receivables 30,000

325000


Issued Equity Shares (125,000 + 25,000 + 75,000) 225,000

Share Premium 0

Retained Earnings 0

225,000

Debenture Loan 0

Overdraft 0

Payables 100,000

325,000

�274


Agriculture (IAS 41)

�275


Illustration 1A farmer purchased a flock of 50 5 year old sheep on 1 February 20X4 and on 31 July 20X4 purchased another flock of 20 5.5 year old sheep.

The following fair values less estimated ‘point of sale’ costs were applicable:

- 5 year old sheep at 1 February 20X4 $70.- 5.5 year old sheep at 31 July 20X4 $77.- 6 year old sheep at 31 January 20X5 $80.

Required:

Calculate the amount that will be taken to the statement of profit or loss for the year ended 31 January 20X5.

Solution

$

Purchase of 50 sheep on 1 Feb 20X4 (50 x $70) 3500

Purchase of 20 sheep on 31 July 20X4 (20 x $77) 1540

Total Purchased Value 5040

Value at 31 January 20X5 (70 x $80) 5600

Increase in FV to P/L (5,600 - 5,040) 560

�276


Illustration 2Jimmy owns a farm with a herd of 300 goats worth $40 each on 1 January 20X4. At 31 December 20X4 the goats have reproduced and he has 345 goats worth $42 each. At the local market the goats are sold with a commission of 3% on each sale. In addition Jimmy sold 3000 litres of goats milk at an average selling price of $1.20 per litre.

Required:

Calculate the amounts that will be taken to the statement of profit or loss for the year ended 31 December 20X4 and extracts from the Statement of Financial position.

Solution

$

Value of Goats at 1 Jan 20X4 (300 x $40) 12000

Estimated ‘point of sale’ costs (12,000 x 3%) -360

11640

Value of Goats at 31 Dec 20X4 (345 x $42) 14490

Estimated ‘point of sale’ costs (14,490 x 3%) -435

14,055

Increase in FV to P/L (14,055 - 11,640) 2,415

Sale of Milk (3,000 x $1.20) 3,600

Total to P/L 6,015

Non Current Assets

Herd of Goats 14,055

�277


Cash Flow Statements

�278


Illustration 1The group financial statements for Nasser Ltd. show the following information:

What was the dividend paid to the NCI in the year X1?

Solution

X1 X0

NCI on Statement of Financial Position 820 700

NCI share of Profit after Tax 220 130

NCI

Opening Balance 700

Closing Balance -820

Share of Profit 220

Total 100

Dividend to NCI was $100 = CASH OUTFLOW

�279


Illustration 2Indigo Ltd, took up a 40% holding in Violet Ltg. for consideration of $120 in 20X1. The group financial statements for Indigo Ltd. show the following information:

What amounts will be included in the group cash flow statement in the year X1?

Solution

X1 X0

Post tax Income from Associate (Income Statement)

50 0

Investment in Associate (SFP) 150 0

Loan to Associate 20 0

Associate

Opening Balance 0


Purchase of Associate 120

Share of Profit 50

Total 20

Dividend Received from Associate was 20

Amounts for cash flow statement $

Income from Associate (Remove from profit before tax) -50

Consideration Paid (Cash paid out) -120

Dividend Received from associate 20

Loan to Associate 0 - 20 -20

�280


Illustration 3Extracts from the group SFP of Express Ltd are outlined below:

During the period Express Ltd purchased 75% of Delivery Ltd. At the date of acquisition the fair value of the following assets and liabilities were determined:

Show the movements in cash for the 4 items outlined above.

Solution

X1 X0

Property Plant & Equipment 50,600 44,050

Inventory 33,500 28,700

Receivables 27,130 26,300

Trade Payables 33,340 32,810

Property Plant & Equipment 4,200

Inventory 1,650

Receivables 1,300

Payables 1,950

PPE INV REC PAY

Opening Balance 44,050 28,700 26,300 32,810

Closing Balance -50,600 -33,500 -27,130 -33,340

Purchase sub 4,200 1,650 1,300 1,950

Total -2,350 -3,150 470 1,420

OUT OUT IN OUT

�281


Illustration 4Using the information in illustration 3 show the movements in cash if Express Ltd. Had already owned the subsidiary and sold it during the period.

Solution

PPE INV REC PAY

Opening Balance 44,050 28,700 26,300 32,810

Closing Balance -50,600 -33,500 -27,130 -33,340

Sale sub -4,200 -1,650 -1,300 -1,950

Total -10,750 -6,450 -2,130 -2,480

OUT OUT OUT IN

�282


Illustration 5A Group has a foreign subsidiary which had the following FX Gains & Losses on translation into the Group presentational currency:

The Balances on these accounts in the Group Financial Statements were:

Depreciation in the period was $25m.

Show the cash flows arising from the above information to be included in the Group Statement of Cash-flows.

Solution

$m

PPE 30

Inventory 5

Receivables 18

Payables (7)

2011 2010

PPE 335 240

Inventory 70 50

Receivables 72 40

Payables -35 -25

PPE INV REC PAY

Opening Balance 240 50 40 25

Closing Balance -335 -70 -72 -35

FX Differences 30 5 18 7

Dep’n -25

Total -90 -15 -14 -3

OUT OUT OUT IN

�283


Illustration 6

Consolidated Financial Statements for Group.

Group Income Statement $m

Revenue 4,000

COS -2,200

Gross Profit 1,800

Other Expenses -789

Profit from operations 1011

Gain on sale of sub (Note i) 50

Finance cost (Note ii) -200

PBT 861

Tax -180

Profit after tax 681

Foreign Currency Translations 62

Total Comprehensive Income 743

Attributable to Parent 600

Attributable to NCI 143

Group Statement of Changes in Equity $m

Balance B/F 3,307

Profit Attributable to Parent 600

Dividends Paid -240

Issue of Shares 1000

Balance C/F 4667

�284


(i) On 1 April 20X2 the parent disposed of a 75% subsidiary for $250m in cash which had the following net assets at the time:

$mProperty Plant & Equipment 200Inventory 100Receivables 110

20X2 20X1

Goodwill 52 72

Property Plant & Equipment 5,900 4,100

Inventories 950 800

Receivables 1,000 900

Cash 80 98

7982 5970


Retained Earnings 1,167 807

NCI 543 500

Non-Current Liabilities

Obligations under Finance Leases

225 140

Long term borrowings 1,554 1,200

Deferred Tax 278 218

Current Liabilities

Trade Payables 450 400

Accrued Interest 25 20

Income Tax 130 120

Obligations under Finance Leases

45 25

Overdraft 65 40

7982 5970

�285


Cash 10Payables (80)Income Tax (25)Interest bearing borrowings (75)

240

The subsidiary had been purchased several years ago for a cash payment of $110m when it’s net assets had been $120m.

(ii) Goodwill is measured using the proportionate method

(iii)The following currency differences occurred

The exchange losses on borrowings relate to foreign loans taken out to finance investments in subsidiaries. The accounts assistant has offset these against the retranslation of the net investments in the subsidiaries. The exchange gain on retranslation of the income statement (from average rate for the year to the closing rate) relates to operating profit excluding depreciation.

(iv) Depreciation for the year was $320m and the group disposed of PPE with a net book value of $190m for cash of $198m. the profit on this disposal has been credited to ‘Other operating expenses’.

The group entered into a significant number of new finance leases in the period of which $250m related to additions to property, plant & equipment.

Prepare the consolidated cash flow statement for the period.

Total $m

Parent Share $m

On retranslation of net assets:

Property Plant & Equipment 25 20

Inventories 20 15

Receivables 20 16

Payables -9 -6

56 45

Retranslation of Profit for period 16 12

Offset exchange losses on borrowings (see below)

-10 -10

62 47

�286


Solution

W1 - Goodwill

W2 - PPE

Goodwill in Disposal Subsidiary $m


Net assets acquired 120 x 75% -90

Goodwill 20

Goodwill

Opening Balance 72

Closing Balance -52

Disposal -20

Total 0

PPE


Closing Balance -5,900

Disposal of Sub -200

Other Disposals (Note iv) -190

Exchange Differences (Note iii) 25

Additions on Finance Leases (Note iv) 250

Depreciation -320

Total -2235

Difference is Additions - CASH OUT

�287


W3 - Working Capital Movements

W4 - Share Capital

Inventories Receivables Payables

O’Bal 800 900 400

Cl’Bal -950 -1,000 -450

Sub -100 -110 -80

FX 20 20 9

Movement -230 -190 -121

CASH OUT OUT IN

Net Movement OUT 299



Total -1,000

Shares of 1,000 issued = CASH IN

�288


W5 - NCI

W6 - Finance Leases

Opening Balance 500


Share of Profit 143

Disposal of Sub (240 x 25%) -60

Total 40

Dividend to NCI was 40 = CASH OUTFLOW

Opening Balance (Current Leases) 25

Opening Balance (Non Current Leases) 140

Closing Balance (Current Leases) -45

Closing Balance (Non Current Leases) -225

New Leases in Year 250

Balance 145

The difference is the leases REPAID in the year which is a cash flow

�289


W7 - Long Term Borrowings

W8 - Income Tax



Disposal of Sub -75

Exchange Loss 10

Total -419

New Borrowings therefore of 419 - CASH IN

Opening Balance (Income Tax) 120

Opening Balance (Deferred Tax) 218

Closing Balance (Income Tax) -130

Closing Balance (Deferred Tax) -278

Disposal of Sub -25

Income Statement Charge (Increase tax due) 180

Balance 85

The difference is the tax PAID in the year which is a cash flow

�290


W9 - Interest Payable

Opening Balance 20

Closing Balance -25

Income Statement Charge 200

Total 195

This is interest paid - CASH OUT

�291


Cash Flow Statement$m

Profit Before Tax 861

Depreciation 320

FX Differences on Profit 16

Profit on sale of PPE (198 - 190) -8

Gain on Sale of Subsidiary 250 - ((240 x 75%)+ 20)

-50

Finance Expense 200

Working Capital Movements W3 -299

Cash Generated from Operations 1040

Interest Paid W9 -195

Income Taxes Paid W8 -85

Net Cash from Operating activities 760

Cash Flow from Investing Activities

Receipts from the sale of PPE 198

Purchases of PPE (W2) -2,235

Sale of Subsidiary Less cash sold (250 - 10) 240

-1797

Cash Flow from Financing Activities

Issue of Shares (W4) 1,000

New Long Term Borrowings (W7) 419

Finance Leases Repaid (W6) -145

Dividends Paid -240

Dividend Paid to NCI (W5) -40

994

Net Decrease in Cash & Cash equivalents -43

Cash b/f (98 - 40) 58

Cash c/f (80 - 65) 15

43

�292


$m

Profit Before Tax 861

Depreciation 320

FX Differences on Profit 16

Profit on sale of PPE (198 - 190) -8

Gain on Sale of Subsidiary 250 - ((240 x 75%)+ 20)

-50

Finance Expense 200

Working Capital Movements -299

Cash Generated from Operations 1040

Interest Paid -195

Income Taxes Paid -85

Net Cash from Operating activities 760

Cash Flow from Investing Activities

Receipts from the sale of PPE 198

Purchases of PPE (W4) -2,235

Sale of Subsidiary Less cash sold 240

-1797

Cash Flow from Financing Activities

Issue of Shares 1,000

New Long Term Borrowings (W6) 419

Finance Leases Repaid (W5) -145

Dividends Paid -240

Dividend Paid to NCI (W3) -40

994

Net Decrease in Cash & Cash equivalents -43

Cash b/f (98 - 40) 58

Cash c/f (80 - 65) 15

�293

ACCA P2 - Corporate Reporting - Mapit Accountancy

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