CORPORATE REPORTING PROFESSIONAL 1 EXAMINATION - AUGUST 2009 NOTES: You are required to answer Questions 1, 2 and 3. You are also required to answer either Question 4 or 5. (If you provide answers to both Questions 4 and 5, you must draw a clearly distinguishable line through the answer not to be marked. Otherwise, only the first answer to hand for Questions 4 or 5 will be marked.) PRO-FORMA INCOME STATEMENT BY NATURE, INCOME STATEMENT BY FUNCTION AND BALANCE SHEET ARE PROVIDED TIME ALLOWED: 3.5 hours, plus 10 minutes to read the paper. INSTRUCTIONS: During the reading time you may write notes on the examination paper but you may not commence writing in your answer book. Please read each Question carefully. Marks for each question are shown. The pass mark required is 50% in total over the whole paper. Start your answer to each question on a new page. You are reminded that candidates are expected to pay particular attention to their communication skills and care must be taken regarding the format and literacy of the solutions. The marking system will take into account the content of the candidates' answers and the extent to which answers are supported with relevant legislation, case law or examples where appropriate. List on the cover of each answer booklet, in the space provided, the number of each question(s) attempted. The Institute of Certified Public Accountants in Ireland, 17 Harcourt Street, Dublin 2.
THE INSTITUTE OF CERTIFIED PUBLIC ACCOUNTANTS IN IRELAND CORPORATE REPORTING PROFESSIONAL 1 EXAMINATION AUGUST 2009 Time allowed 3.5 hours, plus 10 minutes to read the paper. You are required to answer Questions 1, 2 and 3. You are also required to answer either Question 4 or 5. (If you provide answers to both Questions 4 and 5, you must draw a clearly distinguishable line through the answer not to be marked. Otherwise, only the first answer to hand for Questions 4 or 5 will be marked.) You are required to answer Questions 1, 2 and 3. 1. Boxer PLC has a number of subsidiary companies. One of these subsidiaries, Punch Ltd, was acquired during the current financial year ended 31 December 2008. The draft consolidated financial statements for Boxer PLC for the year ended 31 December 2008 and the balance sheet of Punch Ltd, as at date of acquisition are provided below. Consolidated Income Statement for the year ended 31 December 2008 (Extract) 000 Loss from operations (500) Finance cost (25) Loss before tax (525) Income tax expense (30) Loss for period (555) Attributable to: Equity holders of Boxer PLC (575) Minority interest 20 (555) Balance Sheets Boxer PLC consolidated Punch Ltd 31 December 2008 31 December 2007 at acquisition 000 000 000 ASSETS Non-current assets 2,600 2,100 460 Property, plant and equipment Intangibles 150 120-2,750 2,220 460 Current assets Inventories 610 535 140 Trade receivables 490 625 200 Cash and cash equivalents 19 28 40 Total assets 3,869 3,408 840 EQUITY and LIABILITES Capital and reserves Ordinary share capital ( 1 shares) 1,800 900 500 Share premium account 600 400 100 Retained earnings 510 1,150 99 2,910 2,450 699 Minority interest 311 324 - Equity 3,221 2,774 699 Current liabilities Trade payables 508 484 95 Taxation 140 150 46 Total equity and liabilities 3,869 3,408 840 Page 1
Additional information 1. Boxer PLC issued 450,000 1 ordinary shares at a premium of 30c in addition to paying 137,000 cash, in consideration for 75% of Punch Ltd s shares. At the date of acquisition all of Punch Ltd s assets and liabilities were recorded at their fair values, with the exception of property, plant and equipment which had a fair value of 150,000 in excess of its carrying value. 2. Goodwill arising on the acquisition amounted to 85,000. 3. During the year ended 31 December 2008, Boxer PLC made a further issue of ordinary shares at a premium above nominal value. 4. An analysis of the property, plant and equipment note in the financial statements showed that equipment with a carrying value of 450,000 was sold for 360,000. Total depreciation charges for the year on property, plant and equipment were 600,000. 5. Intangibles comprise of goodwill arising on acquisition of Punch Ltd and a patent which has met all the requirements for capitalisation under IAS 38 Intangible Assets. Amortisation of this patent amounted to 55,000 during the year ended 31 December 2008. REQUIREMENTS: (a) Prepare a consolidated cash flow statement together with a note reconciling profit/loss before tax to cash generated from operations for Boxer PLC for the year ended 31 December 2008. Note: Your answer should be in accordance with IAS 7 Cash Flow Statements, using the indirect method. (23 Marks) Presentation (1 Mark) (N.B. this part of the question can be answered independantly of part (a) above.) (b) Assume that on 1 February 2008, Boxer PLC had established a new subsidiary (Corner Ltd) in a country where the currency is the Zola. The initial investment in the net assets of the subsidiary was 8 million Zolas and the money for the investment was financed by a loan of 8 million Zolas from a Swedish bank. No capital repayments are due until 2020 and the subsidiary produces and sells its products independently from Boxer PLC. Your colleague is preparing the consolidated financial statements and believes both the loan and the financial statements of Corner Ltd should be translated at the exchange rate prevailing when the finance for the subsidiary was obtained (ie 1 February 2008). The relevant exchange rates are as follows: Number of Zolas per 1 February 2008 1.4 31 December 2008 1.3 The subsidiary has yet to make a profit and its closing net assets at 31 December 2008 amounted to 8 million Zolas. Draft a brief memorandum to the Financial Controller of Boxer PLC outlining how the above issue should be treated in the financial statements for the year ended 31 December 2008. (6 marks) [TOTAL: 30 MARKS] Page 2
2. Texet PLC has investments in two companies, Phone Ltd and Wire Ltd. The draft summarised balance sheets of the three companies for the year ended 31 October 2008 are shown below: Texet Phone Wire m m m ASSETS Non-current assets Property, plant and equipment 320 180 150 Investment in Phone Ltd. 220 Investment in Wire Ltd 40 Intangibles 20 580 200 150 Current assets Inventories 89 60 22 Trade and other receivables 67 25 20 Receivables from Texet Ltd - 10 - Cash and cash equivalents 34 12 10 190 107 52 Total assets 770 307 202 EQUITY and LIABILITES Capital and reserves Ordinary share capital ( 1 each) 400 170 100 Retained earnings 60 32 18 460 202 118 Non-current liabilities Debentures 10% 150 50 50 Current liabilities Trade payables 136 35 24 Payables to Phone Ltd 4 Dividends 20 20 10 Total equity and liabilities 770 307 202 Additional information: (a) (b) (c) (d) (e) (f) (g) Texet PLC acquired 80% of the 1 ordinary shares of Phone Ltd on 1 January 2007 when the retained earnings were 26 million. Texet PLC acquired 25% of the 1 ordinary shares of Wire Ltd on 1 January 2008. The profits of Wire Ltd for the year to 31 October 2008 were 6m, and these had accumulated evenly over the year. The dividends included in the balance sheets of Phone Ltd and Wire Ltd are the final dividends for 2008 which were approved, before the year end, by the companies shareholders. Texet PLC has not recognised the dividends receivable in its financial statements. In the year to 31 October 2008, Phone Ltd sold goods to Texet PLC for 18m at a mark-up of 20%. One third of these goods remain in the inventory of Texet PLC at the year end. A cheque for 6m from Texet PLC sent to Phone Ltd, before the end of the financial year was not received until November 2008. Texet PLC sold a property to Phone Ltd on 1 November 2007 for 4m. Before the sale this property had a carrying value of 3m in the accounts of Texet PLC at 1 November 2007. The property had originally cost 6m early in November 2002, and had an estimated useful life of 10 years from that date. Texet PLC sold goods to Phone Ltd valued at 6m during the year to 31 October 2008 and one quarter of these goods have been resold. Phone Ltd sells goods at cost plus a mark up of a 33 1 /3%. Page 3
(h) Texet PLC s draft financial statements at 31 October 2008 included a note explaining a contingent asset of 4m. This sum was received on 4 November 2008 and should be accounted for as an adjusting item after the balance sheet date. REQUIREMENTS: (a) Prepare the Consolidated Balance Sheet of the Texet Group PLC for the year ended 31 October 2008 in a suitable format for publication under International Financial Reporting Standards. (20 Marks) Presentation (1 Mark) (b) Outline the reasons why a parent company may prefer not to consolidate a subsidiary company. (3 Marks) (c) Discuss briefly the meaning of the qualitative characteristics of financial information contained in the IASB Framework for the Preparation and Presentation of Financial Statements. (6 Marks) [TOTAL: 30 MARKS] 3. The following multiple choice questions contains eight sections, each of which are followed by a choice of answers. Only one of each set of answers is strictly correct. REQUIREMENTS: Give your answer to each section in the answer sheet provided. [TOTAL: 20 MARKS] 1. During the year ended 31 January 2009, Waterbottle Ltd produced 120,000 plastic waterbottles, compared to a normal production level of 150,000 waterbottles. 10,000 finished waterbottles were in stock at the end of the year. Production costs for the year were as follows: Raw materials 420,000 Direct labour 210,000 Variable overheads 140,000 Fixed overheads 260,000 In accordance with IAS 2 Inventories the value of Waterbottle Ltd s finished inventory at 31 January 2009 is: (a) 81,500 (b) 84,200 (c) 68,666 (d) 79,200 2. In which of the following, should a provision be recognised under IAS 37 Provisions, Contingent Liabilities and Contingent Assets in the financial statement for the year ended 30 November 2008? (i) (ii) (iii (iv) (a) (b) (c) (d) The company s legal team have advised that there is a 30% chance of receiving 25,000 from a trade receivable that was previously written off in full. The Board of Directors decided, on 28 November 2008, to cease operations in their Polish plant. The decision has not been made public and no further action was taken. The company relocated in May 2008 to a larger factory in Cork. The lease on the old factory in Limerick cannot be cancelled or re-let. The company has been fined 300,000 in January 2009 by the Environmental Agency for pollution of the local river from a plant malfunction that occurred in August 2008. (i), (ii) and (iv) (ii) and (iii) (iii) and (iv) (ii), (iii) and (iv) Page 4
3. On 1 January 2008, Max PLC entered into a finance lease for a machine with a fair value of 8,100. Lease payments are 2,000 payable annually in advance for five years, starting on 1 January 2008. Max PLC allocates finance charges on the sum of the digits basis. According to IAS 17 Leases, the non-current liability at 31 December 2008 in respect of the finance lease is: (a) 6,860 (b) 2,000 (c) 4,860 (d) 4,870 4. In 2008, Patrick PLC invoiced 90,000 of goods to its 65% subsidiary Vanessa Ltd at a cost plus 30% basis. Vanessa Ltd had 50% of this inventory at the year end. At the start of the year, Vanessa Ltd had 15,000 worth of inventory invoiced from Patrick PLC, on the same pricing basis, all of which was sold in 2008. What is the consolidation adjustment to the group gross profit in respect of the inventory? (a) 3,462 Dr (b) 6,922 Dr (c) 3,750 Dr (d) 10,384 Dr 5. Due to the current economic environment, the board of Greenberg Ltd made the decision to close a major division on 31 October 2008. The actual closure took place on 12 January 2009. In the year ended 31 December 2008 the division reported a loss of 250,000. Costs of redundancy to be incurred in 2009 are expected to be 45,000. Which of the following will be included as the loss in the financial statements for Greenberg Ltd for the year ended 31 December 2008, in accordance with IFRS 5 Non-Current Assets Held for Sale and Discontinued Operations? (a) (b) (c) (d) 250,000 loss from discontinued operations 295,000 loss from discontinued operations 295,000 loss from continuing operations 250,000 loss from continuing operations 6. According to IAS 8, Accounting Policies, Changes in Accounting Estimates and Errors which of the following items would qualify for treatment as a change in accounting estimate? (i) (ii) (iii) (iv) (a) (b) (c) (d) Provision for obsolescence inventory. A change as a result of the adoption of a new International Accounting Standard. A correction necessitated by a material error. A change in the useful life of a non-current asset. All the above (ii) and (iii) (iii) and (iv) (i) and (iv) 7. Under IAS 38 Intangible Assets which of the following criteria must be met for an asset to be recognised as an intangible asset? (i) (ii) (iii) (iv) (a) (b) (c) (d) The asset must be identifiable. The asset must be separable. The cost of the asset must be able to be measured reliably. It must be possible that future benefits from the asset will flow to the entity. (i), (ii) and (iv) (ii) and (iii) (iii) and (iv) (i) and (iii) Page 5
8. Jim Constructions Ltd commenced Contract E in January 2007 and had the following details for the year ended 31 December 2008: Total contract price 5,000,000 Costs incurred to date 3,500,000 Estimated costs to complete 1,000,000 Completion to 31 December 2008 70% Progress payments to 31 December 2007 (30% complete) 1,200,000 The amount to be recognised as income as per IAS 11 Construction Contracts for the year ended 31 December 2008 is: (a) 350,000 (b) 500,000 (c) 150,000 (d) 200,000 4. IAS 18 Revenue sets out the principles for the accounting treatment of Revenue arising from business transactions. REQUIREMENTS: a) Discuss at what point revenue can be recognised when rendering services. (5 marks) b) Star Components PLC is a company that assembles and sells computers directly to customers. In addition, they provide a range of support services to individuals and businesses. i) On 1 January 2008, Star Components PLC entered into a 10m contract for the supply of software and five years of after sales support. The cost of providing after sales support is estimated at 1m per annum with a mark up of 25% on similar contracts. ii) iii) On 1 January 2008, Star Components PLC entered into a contract to design and manufacture a computer costing 160,000 for delivery in 2008. Work is 60% complete with costs of 45,000 already incurred to date. The engineers have identified a compatibility problem with the clients existing system and they estimate additional costs of 80,000 to 100,000 will be required. It is expected that 25,000 of the costs incurred to date could be recovered. Star Components PLC has designed a new computer called Smoothlines which comes with a five year warranty at no extra cost to its customers. The selling price is 640 and 1,400 computers were sold in the year to 31 December 2008. It is expected that the warranty claims in year 4 and 5 will be twice those of the earlier years with no claims expected in year 1. A similar warranty is offered for 90 on the company s other computers. Discuss how the Directors of the company should reflect the above transactions in the financial statements for the year ended 31 December 2008, and what amounts for revenue should be disclosed in later years. (12 Marks) c) List the main disclosures that must be included in financial statements to meet the requirements of IAS 18. (3 Marks) [TOTAL: 20 MARKS] Page 6
5. IAS 20 Accounting for Government Grants and Disclosure of Government Assistance and IAS 23 Borrowing Costs cover the accounting treatment of grants and borrowing costs. REQUIREMENTS: a) Describe how grants received for non-current assets acquired should be disclosed in the financial statements. (5 Marks) b) Careforall PLC, a manufacturer and supplier of mobility devices for the elderly, has recently established a new facility in Condrum, Co. Laois. To help in this new operation, Careforall PLC have secured a number of grants from Irish and EU sources and are unsure how the grants are to be accounted for in the financial statements. The company has a year end 31 December 2008 and all the following transactions took place at the beginning of 2008. i) Careforall PLC has received a grant for 80,000, to be received over three years, in respect of providing employment in a deprived area. ii) iii) iv) Careforall PLC received a 5,000 grant from the EU for the initial training of the new employees. The company also received a grant of 120,000 from the European Social Economic Fund towards the cost of a 600,000 machine. The machine has a useful economic life of 8 years and an estimated residual value of 60,000. Depreciation is on the straight line basis. The company extended its premises to house the new machine at a cost of 340,000. It financed this new build with a five year loan at 8% annual interest. The extension was completed in seven months. Write a memorandum to the Finance Director explaining how each of the above should be accounted for in the financial statements of Careforall PLC for the year ended 31 December 2008, in accordance with IAS 20 and IAS 23. (8 Marks) c) A competitor of Careforall PLC, Smith PLC has commissioned a new piece of equipment to be constructed on its behalf. The company has a number of loan agreements in place which are shown below: Loan 1 of 600,000, interest paid at 9% Loan 2 of 2million, interest paid at 8% Loan 3 of 400,000, interest paid at 7.5% The total cost of the new equipment will be 800,000 and the company will be able to fund the purchase from its existing borrowings since it has arranged for stage payments to be made. It is expected that the construction will commence on 1 January 2008 and be completed at the end of July 2008. Calculate the amount of borrowing costs that Smith PLC can capitalise. (4 Marks) d) Set out the conditions that must be satisfied before borrowing costs can be capitalised under IAS 23. (3 Marks) END OF PAPER [TOTAL: 20 MARKS] Page 7
SUGGESTED SOLUTIONS SOLUTION 1 THE INSTITUTE OF CERTIFIED PUBLIC ACCOUNTANTS IN IRELAND CORPORATE REPORTING PROFESSIONAL 1 EXAMINATION AUGUST 2009 Consolidated cash flow statement for the year ended 31 December 2008 000 000 Cash flows from operating activities Cash generated from operations (note 1) 574 Interest paid (25) Income tax paid(w4) (86) Net cash flow from operating activities 463 Cash flows from investing activities Acquisition of subsidiary Punch Ltd net of cash acquired (note2) (97) Purchase of property, plant and equipment (W1) (940) Proceeds from sale of property, plant and equipment 360 Net cash used in investing activities (677) Cash flows from financing activities Proceeds from issue of ordinary share capital (W2) 515 Dividends paid to minority interests(w3) (245) Dividends paid (W5) (65) Net cash from financing activities 205 Net increase/(decrease) in cash and cash equivalents (9) Cash and cash equivalents at beginning of period 28 Cash and cash equivalents at end of period 19 Notes to the cash flow statement (1) Reconciliation of loss before tax to cash generated from operations 000 Loss before tax (525) Finance charge 25 Depreciation charge 600 Amortisation charge 55 Loss on disposal of PPE 90 Decrease in inventories 65 Decrease in trade receivables 335 Decrease in trade payables (71) Cash generated from operations 574 Page 9
(2) Acquisition of Punch Limited 000 Cash consideration cash and cash equivalents of Punch Limited 137 cash flow on acquisition, net of cash acquired 40 97 Workings 1. PPE 000 000 Bal b/d 2,100 IS Depreciation 600 On acq of Punch (460 + 150) 610 Disposals 450 Additions (β) 940 Bal c/d 2,600 3,650 3,650 2. Share Capital and Premium 000 000 Bal b/d 1,300 Acq of Punch 585 Bal c/d 2,400 Cash (β) 515 2,400 2,400 3. Minority Interest 000 000 Dividends to MI (β) 245 Bal b/d 324 Acq of Punch Ltd 25% X (840 + 150-95-46) 212 Bal c/d 311 IS 20 556 556 4. Income Tax 000 000 Bal b/d 150 Cash (β) 86 IS 30 Bal c/d 140 Acq of Punch ltd _46 226 226 5. Retained earnings 000 000 Dividends (β) 65 Bal b/d 1,150 IS 575 Bal c/d 510 1,150 1,150 (b) (23 Marks) Presentation (1 Mark) Memorandum Under IAS21, the loan from the Swedish bank is classified as a monetary liability which must be retranslated at the rates of exchange prevailing at the balance sheet date. The loan would have to be restated from its original carrying value of 5.7m (8m/1.4) to 6.2 (8m/1.3), resulting in an exchange loss of 0.5m to be reported in the income statement and included within financing. The net assets in the investment country must be translated using the rate of exchange at the year end (closing rate) as the subsidiary is relatively independent of the parent. At the year end the net assets are the same as on date of investment. Once translated at 1.3 the assets are recorded at 6.2m and an exchange gain of 0.5m recorded. This must be taken direct to equity under IAS21. Where a foreign currency loan is used to finance a foreign currency equity investment then IAS39 requires hedge accounting to be adopted. (6 Marks) Page 10 [TOTAL: 30 MARKS]
SOLUTION 2 Workings Consolidated Balance Sheet as at 31 October 2008 m Assets Non current assets Property, Plant And equipment (320+180-.8) 499 Intangibles (63+20) 83 Investment in Associates 41 623 Current Assets Inventories (89+60-1.125-1.0) 147 Trade and other receivables (67+25) 92 Other receivables (4 + 2.5) 7 Cash and cash equivalent (34+12+6) 52 Total assets 921 Equity and Liabilities Equity 400 Issued 1 ordinary shares Retained earnings 86 Attributable to equity holders of Texet plc 486 Minority interest 40 526 Non-current liabilities Debentures (150+50) 200 Current liabilities Trade payables(136+35) 171 Dividends (20+4) 24 Total Equity and liabilities 921 W1 Group structure Texet plc 80% 25% Phone plc Wire plc W2 Net assets Balance sheet Acquisition Post acquisition Phone plc Share capital 170 170 Retained earnings 32 26 6 Inventory adj - PURP (1.0) (1.0) 201 196 5 (.5 mark) Wire plc Share capital 100 100 Retained earnings 18 13 5 118 113 (18-6)=12 + 2/12 * 6 = 13 Page 11
W3 Goodwill Phone plc Cost of investment 220 Less share of net assets 196 * 80% 157 Goodwill 63 W4 Minority interest Phone plc share of net assets at BS date 201 * 20%= 40 W5 W6 Retained earnings Texet plc 60 Dividends rec Phone (20*80%) w8 16 Wire (10 * 25%) w8 2.5 Contingent asset w11 4 Inventory adj - PURP (1.125) NCA adj w9 (.8) Phone plc share of post acquisition retained earnings 5 * 80% 4 Wire plc - share of post acquisition retained earnings 5 * 25% 1.25 85.825 Investment in associates Cost of investments 40 Share of post acq. Profits 5 * 25% 1.25 41.25 W7 Cheque in transit Payables to Phone plc Cash and cash equivalent Rec. from Texet plc Dr 4m 6m Cr 10m W8 Dividends Dr Cr Phone : dividend receivable 20*80% 16 Retained earnings 16 Wire : dividend receivable 10*25% 2.5 Retained earnings 2.5 W9 Inventory Dr Cr Phone plc retained earnings 1.0 Inventory con. BS 1.0 Minority interest will be reduced by their share of the reduced retained earnings as net assets have fallen. Texet plc retained earnings 1.125 Inventory con. BS 1.125 No profit reduction attributable to the minority interest as the holding company was the seller. Page 12
W10 Non current asset provision on realised profit After the transfer the asset will be included at Cost 4,000,000 Less depreciation 1/5 800,000 3,200,000 Had the asset not been transferred, the book value would be Cost 6,000,000 Less: accumulated depreciation at date of transfer 3,000,000 Provision for current year 600,000 2,400,000 Overall adjustment in CBS 800,000 Dr. Seller retained earnings 800,000 Cr. Non current assets 800,000 W11 Contingent Asset Add 4m to Texet retained earnings Dr Other receivables 4m Cr Retained earnings 4m (20 Marks) Presentation (1 Mark) (b) The reasons why a parent may not wish to consolidate a subsidiary: 1. To improve reported position of the group The financial position could show operating losses, high gearing. If the subsidiary was to be consolidated this may present a less favourable position. 2. Dissimilar/differing activities- may give misleading impression. 3. On grounds that subsidiary may not be immaterial to the group 4. Temporary control. Need to be mindful of IAS27 requirements.. (3 Marks) Page 13
(c) Understandability - understandable to users Relevance - relevant to decision making - relevant if it influences the economic decisions of the users - evaluates the past, present or future events Materiality - information is material if its omission or misstatement could influence reader - Information can be relevant despite the amounts being immaterial as its inclusion may impact on the strategy or risk balance in the entity Reliability - Free from material error and bias - Is a faithful representation of the underlying transactions and events. Comparability. (6 Marks) [TOTAL: 30 MARKS] Page 14
SOLUTION 3 MCQ 1. a Raw materials 420,000 / 120,000 = 3.50 Direct materials 210,000 / 120,000 = 1.75 Variable overheads 140,000/ 120,000 = 1.17 Fixed overheads 260,000 / 150,000 = 1.73 8.15 2. c 3. c 4. b 8.15 * 10,000 = 81,500 1: Remote possibility of receiving income : not included as a contingent asset 2: Decision was not made public therefore not an obligation event 3. Onerous contract 4. Need to provide for this liability. Year ended b/f Paid Capital Interest c/f 31-12-08 8,100 2,000 6.100 760 6,870 31-12-09 6,870 2,000 4,870 570 5,440 Sum of the digit ( 4*5) / 2 = 10 Total interest (5 *2000) 8,100 = 1,900 31-12-08 4/10 * 1,900 = 760 31-12-09 3/10 * 1,900 = 570 Closing PURP 90,000 * 50% * 30/130 = 10,384 Opening PURP 15,000 * 30/130 = (3,462) 6,922 5. b As the sale was completed within 1 year of classifying this as a discontinued operation the original loss should be increased by the expected redundancy costs to 295,000. 6. d 7. d 8. d Total contract value 5,000,000 Less total contract costs 4,500,000 Gross profit on contract 500,000 % complete 70% * 500,000 350,000 less previously recognised 150,000 31-12-2008 Income 200,000 [TOTAL: 20 MARKS] Page 15
SOLUTION 4 a The revenue that can be recognised is dependent on meeting the following criteria: the amount of the revenue can be measured with reliability it is probable that economic benefit will flow inwards the stage of completion can be measured reliable i.e. the percentage to completion method the total costs (to date and future costs) can be measured reliably b The alternative, where the above criteria cannot be met, is the cost recovery approach where expenses recognised are deemed recoverable. (5 marks) i Total contract price 10m Less after sales service (1m * 125% * 5 years) 6.25m Revenue for software 3.75m Revenue for after sales Support 1.25 m Income statement 5.00m (4 marks) Annual income in later years = 1.25m ii Revenue is the recoverable cost of 25,000 Outcome is uncertain, future benefits unclear with additional costs of 80,000 to 100,000. Only certainty is the 25,000 which can be recovered now. The costs to date of 45,000 need to be recognised as an expense in the current years Income Statement (4 marks) iii 640-90 = 550 * 1400 = 770,000 90 = 15 * 1400 0+1+1+2+2 Revenue year 1 = 0 2 = 3,500 3 = 3,500 4 = 7,000 5 = 7,000 (4 marks) c * The entity should set out its accounting policy for the recognition of revenue in the notes to the financial statements. * Should include any methods used to assess the completion of transactions * Revenue should be analysed into different categories i.e. sale of goods, interest, dividend etc. (3 marks) [TOTAL: 20 MARKS] Page 16
SOLUTION 5 a) Grants should only be recognised when the conditions attached to the payment have been meet and there is reasonable certainty that the grant will be received. Where the grant relates to capital expenditure the grant should be credited to the income statement over the life of the asset by: 1. reducing the cost of the asset and as a consequence reducing the annual depreciation charge or 2 by treating the grant as a deferred credit in the balance sheet, a portion of which is transferred as revenue to the income statement over the life of the asset (5 marks) b) i. Credit to the Income Statement in the year in which the expenditure relates. As this relates to the cost of employment it will be allotted to each year as an offset to the salaries 80,000/3 years = 26,667 in year 1 and 2 and the balance in year 3 (2 marks) ii. iii Revenue based grant which will be credited in the year the related expenditure is incurred, i.e. the current year (1 marks) The grant will be credited to the deferred income account and released over the 8 year economic life of the asset. On the balance sheet the unamortized balance of the grant will be treated as deferred income. 120,000/8 years. Opening balance 120,000 Income statement 15,000 Closing balance 105,000 The asset will be depreciated over 8 years straight line. ( 600,000 60,000) / 8 years. Income statement charge 67,500.* * Alternative method acceptable. (3 marks) iv) The interest costs incurred during the construction period can be capitalised. 8% * 340,000 * 7/12 (3 marks) c) Weighted average is calculated as follows: (600,000 X 0.09) + (2,000,000 X 0.08) + (400,000 X 0.075) (600,000 + 2,000,000 + 400,000) = 8% approx Borrowing costs can be capitalised 600,000 X 0.08 X 7/12 = 28,000 (3 marks) d) costs must be directly attributable to a qualifying asset Must take a substantial period to get the asset ready for its intended use. Costs will result in future economic benefit and can be reliable measured. Cease capitalisation of interest once asset is in use. (3 marks) [TOTAL: 20 MARKS] Page 17