Qualification Programme Examination Panelists Report. Final Examination (December 2015 Session) Paper II

Transcription

1 Qualification Programme Examination Panelists Report Final Examination (December 2015 Session) (The main purpose of the following report is to summarise candidates common weaknesses and make recommendations to help future candidates improve their examination performance.) (I) Section A Case Questions General Comments As in Paper I, candidates answers were too general and they did not respond specifically or apply the case information properly. The answers to the practical requirements in the questions were also not satisfactory. This, again, indicated that some candidates need to improve their practical skills. They should expose themselves more to real-world practice and the sharing of experience with their seniors. In the questions relating to financial reporting, the candidates were able to apply their accounting standard knowledge to practical situations in a basic way, but many then had difficulty to further their application to more complicated scenarios. Candidates should be aware that the practice of accounting requires consideration in a comprehensive manner and not simply in a mechanical way. For questions on corporate financing, the computations performed by many candidates were not as good as in the net present value questions of Paper I. The performance of the discussion-style question was also only fair. For questions on auditing, the candidates provided the basic answers but not the analytical portions. Candidates should devote more effort to validate their answers to the questions because some of the audit or control procedures suggested did not match or pair with the issues or objectives identified. Also, they had difficulties in tackling practical auditing issues. For example, many candidates chose to issue a qualified opinion on the grounds of not receiving a valuation report as evidence supporting. However, the issuance of a qualified report is not a handy option in practice but a last resort. Auditors are required to consider other alternatives. Specific Comments Question 1 9 marks The question required candidates to act as the accounting manager of the Group and write a memo to the Chief Financial Officer of Holdco to advise whether the acquisition of Entity X should be accounted for in accordance with HKFRS 3 (Revised) Business Combinations, or Accounting Guideline 5 ( AG 5 ), Merger Accounting for Common Control Combinations; and explain the accounting treatment accordingly. Final Examination (December 2015 Session) Page 1 of 7

2 The candidates performance was average. Many candidates answered correctly as to how Holdco obtained control over Entity X through the acquisition under HKFRS 10 Consolidated Financial Statements; and why Entity X and Holdco were under the common control of Mr Lee before and after the acquisition. However, without knowing that HKFRS 3 has scoped out the business combination involving entities or businesses under common control, many candidates directly applied HKFRS 3 as the basis of the accounting treatment. In fact, Holdco had to develop an accounting policy to account for the business combination under common control. For some candidates who chose AG 5 to account for the acquisition, their technical knowledge about AG 5 was generally weak and some of them might have a misunderstanding with regard to merger accounting, for example, AG 5 is limited to the application of share swap transactions. Accordingly, very few candidates discussed the choice of accounting policy and applied properly HKFRS 3 or AG 5 to the case. Question 2(a) 8 marks The question required candidates to act as the audit manager of ABC Audit Firm and discuss the audit approach in auditing the revenue of Entity X. The question also required candidates to suggest three audit procedures to address three different audit assertions for revenue that had been considered. The candidates performance in this question was satisfactory. Candidates generally demonstrated a good understanding of the question requirement because it was closely linked to the audit execution activities of many candidates in their workplaces. However, some students did not present their answers properly and their proposed audit procedures did not pair up with the respective audit assertions. Question 2(b) 6 marks The question required candidates to list three internal control issues that had been identified in Entity X and suggest remedial actions for each of the issues identified. The candidates performance in this question was satisfactory. Candidates were able to apply the information provided by the case and identified the correct control issues. However, some students still did not present their answers properly and the issues identified did not pair up with the respective remedial action. Final Examination (December 2015 Session) Page 2 of 7

3 Question 3(a) 5 marks The question required candidates to discuss whether ABC Audit Firm should perform the valuation of the factory unit. The candidates performance was satisfactory. Candidates generally demonstrated a good understanding of the considerations auditors had to address before accepting a non-assurance service and they were able to present their answers with a good logical flow. Question 3(b) 2 marks The question required candidates to discuss whether ABC Audit Firm should issue a qualified opinion in case Entity X did not receive the Valuation Report before the Board of Directors approved the consolidated financial statements of Holdco. The candidates performance in this question was not satisfactory. Candidates jumped to the conclusion of issuing a qualified opinion without considering whether alternative procedures could be performed to obtain audit comfort. Candidates should be aware of the expectation on issuing an unmodified opinion in practice. Question 3(c)(i) 4 marks The question required candidates to discuss the factors that ABC Audit Firm had to consider in assessing whether reliance could be placed on the valuation performed by the independent qualified professional valuer engaged by Entity X. The candidates performance was not satisfactory. Although many candidates showed a good understanding of the question requirement, only a few of them were able to state the detailed audit work that had to be performed. Candidates who only answered in a generic way were not able to score high marks in this question. Question 3(c)(ii) 4 marks The question required candidates to advise as to the impact of deferred taxation on the factory unit under HKAS 12 Income Taxes. The candidates performance was not satisfactory. They were not aware of the rebuttable presumption in relation to the investment property carried at fair value under HKAS 40 Investment property and the rebuttal criteria. Deferred tax under the rebuttable presumption of HKAS 12 should be measured reflecting the tax consequences of recovering the carrying amount of the investment property entirely through sale. Instead, many candidates answered that the tax consequences should follow from the expected manner of recovery of the carrying amount of the investment property. However, this should be the case only when the presumption is rebutted. Final Examination (December 2015 Session) Page 3 of 7

4 In addition, when analysing the two rebuttal criteria, many candidates showed difficulties in assessing whether the investment property was held within a business model whose objective was to consume substantially all of the economic benefits embodied in the investment property over time (rather than through sale), while the case had clearly provided that it was not. As a result and contradicting to the case information, many candidates concluded that the presumption could be rebutted and therefore the deferred tax should be measured on the basis that the carrying amount of the investment property would be recovered through use. Question 3(c)(iii) 2 marks The question required candidates to calculate the temporary difference and the deferred tax asset / liability to be recognised for the factory unit in the consolidated financial statements of Holdco for the year ended 31 December The candidates performance was not satisfactory. This question is associated with Question 3(c)(ii) because the calculation of the temporary difference and deferred tax liability would be based on the candidates discussion in Question 3(c)(ii). In addition, some candidates did not apply properly or were not familiar with the tax consequences of the sale of the factory unit according to the Inland Revenue Ordinance in the calculation of the tax base. Question 4(a) 3 marks The question required candidates to discuss whether it is appropriate to classify Holdco s acquisition of the 40% equity interest in Entity D in 2012 as interest in associate and explain the accounting treatment of the acquisition. Generally, the candidates could properly explain why it was appropriate to classify the interests in Entity D as an associate by applying the indicators of significant influence under HKAS 28 Investments in Associates and Joint Ventures. However, they focused on the discussion of the method of equity accounting for the subsequent measurement of the interests in the associate, while the question required them to discuss the accounting treatment of the acquisition transaction. Question 4(b) 5 marks The question required candidates to explain the accounting treatment of the further 35% equity interest in Entity D in 2014 in the books of Holdco and calculate the goodwill and gain or loss from the acquisition. The candidates performance was average. Some candidates did well in the calculation of goodwill and gain or loss from the acquisition but they did not explain sufficiently with regard to the accounting treatment. Other candidates fully explained the accounting treatment but could not perform the correct calculations. Therefore, only a few candidates could obtain a high mark in this question. Final Examination (December 2015 Session) Page 4 of 7

5 Question 4(c) 2 marks The question required candidates to explain the accounting treatment of the revaluation gain of property, plant and equipment in Holdco s books, upon the disposal of the 75% equity interest in Entity D in The candidates performance was not satisfactory because, unexpectedly, many candidates were not aware of the requirement that the revaluation gain previously recognised in other comprehensive income should not be reclassified to profit or loss upon disposal of the subsidiary. Question 5(a) 8 marks The question required candidates to calculate the return point using the Miller-Orr model (target cash balance) and the upper limit, and describe how the Miller-Orr model could be applied to the daily cash balances. The candidates' performance was fair. Many candidates showed their understanding of the question requirement and described how to apply the Miller-Orr model but they failed to compute the exact amount of market securities to be bought and sold when the cash level increased to the upper limit or decreased below the lower limit. Question 5(b) 4 marks The question required candidates to provide the main reasons for an entity to hold cash and describe the major cost of holding cash to the entity. The candidates performance was good and many candidates addressed the question correctly. Question 5(c) 7 marks The question required candidates to explain with a calculation at what point in time Entity D should buy the machine in order to attain the highest net present value ( NPV ) of the project. The candidates performance was not satisfactory. Many candidates failed to come up with the correct answer. Some of them could only compute the 1 st year NPV correctly. Question 5(d) 4 marks The question required candidates to discuss why diversification is not a good reason for a merger. The candidates performance was fair. On average, candidates showed their understanding of the question requirement but not many of them could answer correctly by addressing the unsystematic risk, and the dynamics / agency conflicts between bondholders and shareholders. Final Examination (December 2015 Session) Page 5 of 7

6 Question 5(e) 2 marks The question required candidates to provide reasons for the correctness of the statement: In an efficient market, takeovers will not happen because market prices reflect the true value of corporations, so bidding firms could not justify paying premiums above market prices for target firms. The candidates performance was fair. Many candidates could highlight the importance of synergy in a merger and some could provide examples of synergy. (II) Section B Essay Questions General Comments Candidates handled the basic taxation issues well. They again had difficulties with questions involving analyses or specific tax rules. Specific Comments Question 6 7 marks The question required candidates to advise Holdco s CEO regarding the potential Hong Kong profits tax exposure on the gain on disposal of the 75% equity interest in Entity D. Although many candidates could highlight the relevant factors in determining the capital or revenue nature of the gain and onshore / offshore character of the income, not many candidates applied these factors correctly to this specific situation. Question 7 3 marks The question required candidates to explain whether the interest expense incurred by Holdco to finance the acquisition of the 75% equity interest in Entity D during the period of ownership would be deductible from a Hong Kong profits tax perspective. Many candidates correctly quoted the IRO section reference, i.e. s.16(1). Still many candidates had the wrong concept that interest expense in financing a capital asset must be capital in nature. Not many candidates could state the correct reasons for the disallowance of interest expense. Question 8 4 marks The question required candidates to comment on Holdco s Enterprise Income Tax ( EIT ) exposure in China upon disposal of the 75% equity interest in Entity D under the EIT Law of China. Final Examination (December 2015 Session) Page 6 of 7

7 It was disappointing to see that many candidates discussed whether Holdco had any permanent establishment ( PE ) in China without referring to the assumption of no China establishment given in the question. In addition, not many candidates could state that the subject income was China sourced under the EIT Law of China. Question 9 4 marks The question required candidates to comment on whether Holdco would be entitled to any tax benefits under Article 13 (Capital Gains) and Article 21 (Methods for Elimination of Double Taxation) of the Double Taxation Arrangement between mainland China and Hong Kong with respect to the gain under Question 8. Many candidates rightly explained the correct provisions of Articles 13 and 21, but only a few could apply these provisions correctly. In addition, many candidates did not realise that Holdco was a Hong Kong tax resident. Question 10 7 marks The question required candidates to comment with reasons as to whether the shares of Holdco is Hong Kong stock under the Stamp Duty Ordinance ( SDO ) and advise if there would be any stamp duty payable in Hong Kong upon the issuance of the shares for debt settlement purposes. The question also required candidates to comment as to whether the answer would be different if instead of issuing new shares to Entity E, Holdco were to transfer the shares in another Hong Kong incorporated company (owned by Holdco) to Entity E to satisfy the debt. Although many candidates were able to explain the meaning of Hong Kong stock under the SDO, not many of them could distinguish the difference between the transfer of shares and the issuance of new shares; and apply s.24 of the SDO for transfer of Hong Kong stock in satisfaction of a debt to a Hong Kong company. (III) Conclusions and Recommendations The candidates showed good initiative to answer all the questions as best they could as in Paper I. However, the average candidate seemed to have difficulties in tackling the analytical and practical issues. Their answers were not analytical enough. Their practical experience was also subject to challenge for questions relating to non-core topics. Candidates should read more widely and learn more from their seniors about the non-core topics because these topics are just everyday work when in practice. They have to strengthen their ability in practice on top of enhancing their textbook knowledge. Final Examination (December 2015 Session) Page 7 of 7