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SBR - Reporting the financial
performance of entities
Contents
Reporting the financial performance of entities .............................................................. 2
CHANGES IN ACCOUNTING POLICIES AND MATERIAL ERRORS (IAS 8): ............................. 2
IAS 32 THAT LOOKS AT PRESENTATION ............................................................................ 20
IFRS 9 DEALS WITH MEASUREMENT ................................................................................ 22
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Reporting the financial performance
of entities
Performance Reporting
CHANGES IN ACCOUNTING POLICIES AND MATERIAL ERRORS (IAS 8):
A change in accounting policy can only occur when:
1) It is demanded by a new accounting standard;
2) The new policy gives a truer and fairer view of the situation.
A change in accounting policy must be applied retrospectively, i.e. restating the current
year and both opening and closing balances of comparative year.
A change in accounting estimate must be applied prospectively, i.e. applying the new
accounting policy from the current year.
A policy can be thought of as being made up of three elements:
Note: Another reason that can cause a company to change the comparative information is a
material error in last year’s financial statements.
OPERATING SEGMENTS (IFRS 8):
Under IFRS 8 the entity reports its segments in the same way that it does for internal
management accounting, which gives the user a better understanding of the risk to which
the entity is exposed.
The standard allows the company to report externally on the same basis as for internal
purposes, i.e. there is no necessity to restate information on an IFS basis.
A discontinued operation can meet the definition of an operating segment if:
It continues to engage in business activities;
The operating results are regularly reviewed by the chief operating decision maker
(CODM);
Discrete financial information is available to facilitate the review.
The significance of the segment could be based on revenue, results, or assets using 10%
rule (any one of the three criteria is enough for a segment to be reportable).
1) Recognition;
2) Presentation;
3) Measurement.
Any of these elements can indicate change in accounting policy
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Remember: The external revenue of the segments identified must exceed 75% of the
external revenue of the business. If not, the entity must identify further operating segments
that were below the 10% rule until more than 75% of the external revenue has been
separately reported.
Items of disclosure for an operating segment include:
Revenue; Assets;
- Finance income and cost; - Investments in associates and JV;
- Depreciation; - Expenditure on non-current Assets and segment liabilities;
- Amortization and other non-cash items; - External revenue by each product or service; - Share of profit under equity accounted investments; - Geographical information; - profit or loss as reported to the chief operating decision maker;
- Information about major customers (more than 10% of external revenue)
Note: There is a practical limit of 10 segments, however, any segment may be reported
separately if this would give a better understanding of the entity.
FIRST-TIME ADOPTION (IFRS 1):
Transition date is the first day of comparative year, i.e. year before the first full year of
adoption. At this date, the entity must provide a reconciliation under old GAAP to IFRS of
both opening and closing balances of a comparative year. A reconciliation must also be
provided for the comparative year profit.
IFRS 1 allows certain exemptions from full application of IFRS at the transition date:
It allows the entity to use fair value at the transition date as deemed cost where
original cost information is not held by the entity;
It does not require the restatement of business combinations that occurred prior to
the transition date.
Note: Other exemptions relate to borrowing costs, foreign exchange gains and losses,
adoption of IFRS by subsidiaries, associates and joint ventures.
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INTERIM REPORTING (IAS 34):
Current year’s information
Comparative information
1) A condensed statement of financial
position; 1) A comparative balance sheet at the end of the
2) A condensed statement of profit or loss
and
preceding financial year;
other comprehensive income; 2) A P&L and OCI for the comparative interim
period 3) A condensed statement of cash flows; and comparative year;
4) A condensed statement of changes in
equity; 3) A CFS for the comparative year;
5) Certain explanatory notes. 4) Notes which are significant to the
understanding of changes since the last annual
report;
5) Information about seasonality, estimates and
unusual items.
RATIO ANALYSIS:
Ratios are not governed by any reporting standard and key things to remember are:
1) A comparison between two entities may not be a direct comparison due to significant
judgement applied;
2) What appears bad for the business in the short term may be indicative of investment
for the long-term success;
3) The success of any strategy is dependent not just on the financial success but also the
non-financial success.
LIMITATIONS OF FINANCIAL STATEMENTS:
Management commentary on performance is a report that provides an overview of current
performance, position and liquidity at a strategic level through the eyes of the board of
directors and provides an insight into future risks and challenges faced by the entity.
Key advantage: This report can provide the information that cannot be provided by the
financial statements alone.
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Key disadvantage: It is not precise and can be used to make things sound better than they
actually are.
Corporate social responsibility reports on issues concerning the environment, the
treatment of staff and the treatment of key stakeholders. A good CSR report will include:
SMART objectives;
Internal and external comparative information;
Information about objectives that have not been met;
Actions that are being taken to address the shortfalls in the achievement of
objectives.
Note: If nothing is done in respect of CSR share price and reputation may be damaged.
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Corporate Reporting
Performance Reporting – Sample Question
This section examines a practical application of IFRS 15 Revenue from Contracts with
Customers covering:
The 5 Step Model Framework
Treatment of costs incurred in securing a contract
The Financial Statements
Disclosures
SAMPLE QUESTION
We Build Em Incorporated is one of the largest construction companies in the country. After
a lengthy and costly tendering process the company has been awarded a contract to build
1,000 houses for the local government over the next four years. The project will take three
years and the local government will pay $100,000 per house. The company spent $100,000
in accountancy and legal fees when applying through the local government's tendering
process. Each house will cost $60,000 each to build and ownership will transfer upon
completion of each house. The payment schedule is 7% of the Sale price when the project is
started 80% when the project is 90% complete and the final 13% is payable upon
completion of the entire project. If We Build Em Inc fails to meet their contractual
obligations they will be obliged to pay the local government $100,000.
There is a summary of the project work undertaken and payment schedules from year 1 to 5
below.
Year Tendering costs Building Materials Revenue Houses Built
$ $ $ $ $
Year 0 $100,000 18,000,000 7,000,000 -
Year 1 30,000,000 550
Year 2 11,000,000 80,000,000 350
Year 3 1,000,000 13,000,000 100
Year 4
100,000 60,000,000 100,000,000 1,000
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How do you record the revenue?
THE 5 STEP MODEL FRAMEWORK
Step 1 Identify the contracts with the customer.
Have the conditions for this contract to be recognised under IFRS 15 been met?
1. Has each party’s rights in relation to the goods or services to be transferred been identified?
Yes
2.Has the payment terms for the goods or services to be transferred been identified?
Yes
3. Has the contract commercial substance?
Yes
4. Is it probable that the consideration to which the entity is entitled to in exchange for the
goods or services will be collected?
Yes
Note: If only some of these conditions were satisfied the company must monitor the situation
year on year and when these conditions of a contract are met IFRS 15 will be applied.
Step 2: Identify the performance obligations in the contract.
The company has promised 1,000 houses over the next four years.
Step 3: Determine the transaction price
$100,000 per house
What about variable consideration? IFRS 15 limits the variable consideration recognised,
it is only included in the transaction price if, and to the extent that, it is highly probable
that its inclusion will not result in a significant revenue reversal in the future when the
uncertainty has been subsequently resolved.
Step 4 Allocate the transaction price to the performance obligations in the contracts.
In this contract, there is only one obligation, build houses so the transaction price is
clearly linked.
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Step 5: Recognise revenue when the company satisfies their performance obligation.
Revenue should be recognised when control of the asset passes.
.
TREATMENT OF COSTS TO SECURE THE CONTRACT
“The company spend $100,000 in accountancy and legal fees when applying through the local
government's tendering process.” These expenses should be expensed in the year incurred.
Why?
These costs are not going to be recovered
They were not incurred due to the company's success at the tender
What if the expenses were recoverable? Then recognise the cost as an asset and amortise on a
systematic basis consistent with the pattern of transfer of the houses.
THE FINANCIAL STATEMENTS
Year 0
There is no income
The consultancy fees are expensed
Year 1
$7 million is received from the Local government but no revenue recognised.
Dr Bank $7 million
Cr Prepaid Income $7 million
$18 million of building materials purchased but no expenses are recognised.
Dr Work in Progress/ Stocks $18 million
Cr Building materials expense / Bank $18 million
No revenue has been recognised and no expense has been recognised. It is all recognised on
the balance sheet or the statement of financial position.
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Year 2
550 houses were completed since the local government gets the benefit and use out of the
asset as soon as building is complete revenue is due.
The revenue : 550 X $100,000 = $55 million dollars
Cr Revenue $55 million
Dr Prepaid Income $7 million
Dr Debtors $48 million
What expenses should be recognised?
$60,000 X 550 = $33 million should be recognised in costs.
Dr Expenses $33 million
Cr Stocks/ Work in Progress $33 million
The stock figure in the statement for financial position is:
Year 1 $18 million
Year 2 $30 million
$48 million
Less Expenses ($33 million)
Total $15 million
The stock figure is $15 million.
Year 3
350 houses were completed so $35 million revenue needs to be recognised.
Cr Revenue $35 million
Dr Debtors $35 million
$80 million was received from the local government.
Dr Bank $80 million
Cr Debtors $80 million
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The balance of the Debtors in the Statement of financial position at the end of year 3 is:
Year 1 Debtor Balance $18 million
Year 2 Debtor Balance $30 million
Year 3 Debtors $35 million
$83 million
Less ($80 million)
Total $3 million
The balance is $3 million
What expenses should be recognised?
$60,000 X 350 = $21 million expenses
Dr Expenses $21 million
Cr Stocks/ Work in Progress $21 million
The stock figure in the statement for financial position is:
Year 2 Stock $15 million
Year 3 Purchases $11 million
$26 million
Less Year 3 ($21 million)
Total 5 million
The stock figure is $5 million.
Year 4
100 Houses uses are built so revenues of $10 million are recognised.
Cr Revenue: $10 million
Dr Debtors $10 million
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The company received its final payment of $13 million from the local government.
Dr Bank $13 million
Cr Debtors $13 million
The expenses were $6 million.
Dr Expenses $6 million
Cr Stocks and Work in Progress $6 million
The balance of Stock and Debtors is zero.
DISCLOSURES
The purpose of the disclosure is to disclose enough information for users to understand the
nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with
customers.
“In Year xx We Build Em Inc entered into a contract with the local government to build 1,000
new buildings. The total value of the contract is $100 million payable over four years. The
project is expected in year xxx.”
Each year the disclosure should:
Include any assets recognised from the costs to obtain or fulfil the contract;
It could also state the stage of completion of the project.
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Non-current assets
This section examines a practical application of the standards that deal with Non-Current
Assets:
IAS 16 Property, Plant and Equipment
IAS 23 Borrowing Costs
IAS 36 Impairment of Assets
IAS 40 Investment Property
IAS 38 Intangible Assets
IFRS 5 Non-Current Assets Held for Sale and Discontinued Operations
INTANGIBLE ASSETS SAMPLE QUESTION
20x6 was a busy year for ABC Inc a company in the communications industry. The following
transactions were undertaken:
They purchased a trademark from a company called “Call Me”. The trademark is valuable as it is
associated with high quality unique mobile phone devices. ABC will continue to sell mobile
phones under this trademark. The financial controller is very happy with the acquisition and
believes this asset is one “that will keep giving ABC returns forever.” However, the trademark
was given a ten-year life span. Its purchase price was $1 million. At the end of 20x7, a
competitor began to sell mobile devices like those under the “Call Me” trademark. At the end of
20x7, the recoverable amount of the trademark was $400,000. ABC plans to continue selling
phones under this trademark into the future
How is the trademark accounted in the financial statements of 20x6 and 20x7?
SOLUTION
The three critical attributes of an intangible asset under IAS 38 are:
Identifiability
Control
Future economic benefits
What if it was internally generated intangible asset?
To be recognised it must be:
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capable of being separated and sold or transferred etc.
arising from contractual or other legal rights, regardless of whether those rights are
transferable or separable from the entity or from other rights and obligations.
How is the trademark valued?
Historic cost
or
Revaluation cost
Recording the Intangible asset in the 20X6 financial statements
The purchase price is $1million
Useful Economic Life is 10 years
The annual amortisation is $100,000. ($1million / 10 years)
The Statement of financial position at year ended 20x6
Intangible Assets
Trade Mark $900,000
The Statement of Profit and Loss for the year ended 20x6