Questions 1 and 2 are additions to the questions in the 2012 F7 Practice and Revision kit.

Transcription

1 F7 UK supplement questions Questions 1 and 2 are additions to the questions in the 2012 F7 Practice and Revision kit. 1. Question 9 Pricewell Regarding the contract in note (ii), calculate the following according to UK GAAP: (a) WIP; and (b) Amount due from customer 2. Question 26 Partway According to UK GAAP: (a) State the definition of a discontinued operation. (b) Discuss whether the directors wish to show the travel agencies results as a discontinued operation is justifiable. The following questions are stand-alone 3. Highveldt Highveldt, a private company, acquired 75% of Samson s ordinary shares on 1 April 20X4. Highveldt paid an immediate 3 50 per share in cash and agreed to pay a further amount of 108 million on 1 April 20X5. Highveldt s cost of capital is 8% per annum. Highveldt has only recorded the cash consideration of 3 50 per share. Transaction costs amounted to 12million. The summarised balance sheets of the two companies at 31 March 20X5 are shown below:

2 Highveldt Samson million million million million Tangible fixed assets Investments Development costs nil Current assets Creditors: amounts falling due within one year (108) (81) Net current assets Creditors: amounts falling due after more than one year 10% inter company loan (note (ii)) nil (60) Net assets Share capital and reserves: Ordinary shares of 1 each Reserves: Share premium Revaluation reserve 45 nil Profit and loss account at 1 April 20X Profit for year to 31 March 20X The following information is relevant: (i) (ii) Fair value adjustments required at consolidation amounted to $42m. Goodwill is amortised over a four year life. Required (a) Calculate the following figures as they would appear using UK GAAP in the consolidated balance sheet of Highveldt at 31 March 20X5: (i) (ii) goodwill; minority interest; (b) Explain briefly how the goodwill calculation would differ if IFRS was being applied.

3 4. A company has a fixed asset with a carrying value of 1.7m. At the year end the asset is revalued to 2m. The tax rate is 30%. (a) What amount will be credited to the revaluation reserve assuming: (i) it has entered into a contract to sell the asset for the revalued amount (ii) it is not intending to sell the asset (b) What amount will be credited to the revaluation surplus under IFRS in these two situations? 5. List and explain some of the differences between UK GAAP and IFRS that could impact upon an entity s reported ROCE. 6. How might presentational differences between a Statement of Cash Flows prepared under UK GAAP and one prepared under IFRS affect user understanding? Answers Contract price 50,000 Materials to date (12,000) Plant (8,000) Further costs to complete (10,000) Profit on contract 20,000 Profit to date = 20 x 22/50 (44%) = 8,800 '000

4 Turnover 22,000 Cost of sales (30 x 44%) (13,200) Profit 8,800 WIP: (14,000 13,200) 800 Amount due from customer: Costs to date (12,000 + (8,000 (plant) 6/24)) 14,000 Less WIP (800) Profit to date 8,800 Progress billings (5,700) 16, (a) A discontinued operation must meet all of the following conditions specified in FRS 3: (1) The sale or termination must have been completed before the earlier of 3 months after the year end or the date the financial statements are approved. (2) The former activity must have ceased permanently. (3) The sale or termination has a material effect on the nature and focus of the entity's operations and represents a material reduction in its operating facilities resulting either from: Its withdrawal from a particular market; or from A material reduction in turnover in its continuing markets (4) The assets, liabilities, results of operations and activities are clearly distinguishable, physically, operationally and for financial reporting purposes. This very precise definition is needed to ensure that only operations which can properly be regarded as discontinued are classified as such. Users of accounts, particularly financial analysts, will be more interested in the results of continuing operations as a guide to the company's future profitability and it is not unacceptable for discontinued operations to show a loss. Companies could therefore be tempted to hide loss-making activities under the umbrella of discontinued operations, hence the rigorous requirement under (d) that the elements of the discontinued operation must be clearly distinguishable from

5 those of continuing operations. It is also conceivable that a company could seek to include the results of a profitable operation which has been sold under continuing operations. The separation of the results of continuing and discontinued operations and acquisitions on the face of the profit and loss account makes possible more meaningful year on year comparison. The inclusion of prior year information for discontinued operations means that it can be seen exactly how the continuing operations have performed, and to forecast more accurately how they can be expected to perform in the future with the addition of acquired operations. (b) This may be able to be classified as a discontinued operation providing certain criteria are met. The termination was decided on before the accounts were approved and within 2 weeks of the year end date. The interested parties were notified at that time and an announcement was made in the press, making the decision irrevocable. The travel agency business has ceased permanently and represents a withdrawal from the over-thecounter market, which will entail a material reduction in its operating facilities. The results of the travel agency business are clearly distinguished. Additionally, to meet the FRS 3 criteria the termination must be complete before the earlier of 3 months after the year and the date the financial statements were authorised for issue. Assuming the termination was ultimately completed before the 31 January, classification as a discontinued operation would be correct. 3.

6 a) (i) Goodwill in Samson m m Cost of business combination 80m shares 75% Deferred consideration; 108m 1 / Transaction costs Share of the net assets acquired at fair value Carrying value of net assets at 1 April 20X4: Ordinary shares 80 Share premium 40 Profit and loss reserve Fair value adjustments 42 Fair value of the net assets at acquisition % Group share (222) Cost of Goodwill 100 Amortisation over four years; one year s charge (25) Net book value at 31 March 20X5 75 (ii) Minority interest in Samson s net assets m Samson s net assets from the question 330 Fair value adjustments Minority interest 25% 93 b) The major difference that would arise if the goodwill calculation was being done under IFRS is that the minority interest (which would be referred to as non-controlling interest ) would probably be stated at fair value. If the fair value was based on the share price at date of acquisition, this would give a fair value for the non-controlling interest of 70m.

7 This fair value would then be added to the consideration and 100% of the fair value of the subsidiary s net assets would be deducted to arrive at the goodwill. The effect of this is to take into account the goodwill attributable to the non-controlling interest. Under IFRS the transaction costs would be expensed to profit or loss rather than being included in the goodwill calculation, so this would increase goodwill by 12m. The goodwill would not be amortised under IFRS but would have been subject to an impairment review. 4. (a) (i) If the company has entered into a binding contract to sell the asset, a provision must be made for deferred tax on the revaluation: 000 Revaluation surplus (2m 1.7m) 300 Deferred tax 30% (90) Credit to revaluation reserve 210 (ii) If there is no intention to sell the asset, no deferred tax provision is needed. The credit to the revaluation reserve will be 300,000. (b) Under IFRS a revaluation will normally give rise to a temporary difference between the carrying amount of the asset and its tax base. In this case the difference will be 300,000, so 90,000 will be credited to deferred tax. This adjustment will be made regardless of whether there is any intention to sell the asset. 5. Revaluations Under IFRS a revaluation will normally give rise to a deferred tax adjustment, reducing the revaluation surplus. Under

8 UK GAAP this will not apply unless the asset is to be sold, so the credit to the revaluation can be higher under UK GAAP. This will mean that ROCE will be lower under UK GAAP. Borrowing costs Under UK GAAP these may be written off to profit and loss as incurred. This will decrease profits in the year the costs are incurred, and as a result profitability ratios and ROCE are likely to be lower. However, once the asset is in use and depreciation is being charged, the depreciation charges will be lower as no borrowing costs are capitalised within the carrying value of the asset. Development expenditure Amortisation of goodwill If a company reporting under UK GAAP chooses to write off to profit and loss amounts of development expenditure that meet the SSAP 13 criteria for deferral (and so would have been capitalised under IFRS), the effect will be similar to that of borrowing costs above. This would lead to an annual expense relating to goodwill, lowering profits each year, even when there has been no event causing an impairment. This could again lead to reporting lower profits and the related effects on ROCE. Under IFRS there will be no amortisation, but a one-off impairment loss can lead to a significant lowering of ROCE for that year. Acquisition accounting costs of acquisition These are treated as part of the cost of acquisition under UK GAAP so a higher

9 profit, and therefore ROCE, would be reflected in the year of an acquisition than would be the case under IFRS. 6. UK GAAP and IFRS statements of cash flows will arrive at the same figure for cash, but under IFRS this amount will be combined with cash equivalents. Even if the amount is purely cash it will still be described as cash and cash equivalents. So users will not be able to see from a statement of cash flows under IAS 7 the exact amount of cash available. Net cash flows from operating activities will give a different total under UK and IFRS. Under UK GAAP, interest paid is shown under Returns on investment and servicing of finance and tax paid follows under a separate heading. Under IAS 7 both interest paid and tax paid appear as cash outflows from operating activities. Therefore the total of Net cash from operating activities will be shown at a lower amount in a statement of cash flows prepared under IAS 7 than in a statement prepared under UK GAAP. This means that a statement prepared under UK GAAP will, at first glance, give a more favourable impression of how well the entity is managing its working capital than a statement prepared under IFRS.