ACCA F7 (INT) Financial Reporting - Study text - 2010 - Emile Woolf Publishing
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Paper F7 (INT)
Financial Reporting
Q&A
Answers to practice
questions
Contents
Page
The conceptual framework
1 Definitions
508
Recognition and measurement
2 Carrie
509
3 David
509
Accounting for the substance of transactions
4 Peter
510
The regulatory framework
The financial statements of a single company
5 Larry
512
6 Barry
513
Reporting financial performance
7 Duncan
515
8 Saul
516
9 Richard
517
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Tangible non-current assets
10 Carly
517
11 Katie
518
12 Victoria
520
Intangible assets
13 Henry
521
14 Toby
522
Impairment of assets
15 Charlotte
523
Inventory
16 Henrietta
525
17 Anabelle
526
Financial assets and financial liabilities
18 Michael
528
Leases
19 Finley
529
20 Fabian
530
Provisions, contingent liabilities and
contingent assets
21 Georgina
531
Taxation
22 Olivia
532
23 Francesca
534
Earnings per share
24 Mary
534
25 Mandy
535
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Statements of cash flows
26 Bella
536
27 Chester
538
Consolidated accounts
28 Faye
540
35 Major – Part 1
541
30 Major – Part 2
542
31 Harry
543
32 Max
544
33 Bruce
545
34 Hack and Sack 546
Consolidated accounts: intra-group
adjustments
35 Holdings
548
36 Polly
548
37 Parent
549
Associates
38 Porthos
550
39 Anna
551
Analysis and interpretation of financial
statements
40 Sam
551
41 Chris and Caroline 554
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1 Definitions
Definitions
An asset is:
a resource controlled by the entity
as a result of past events
from which economic benefits are expected to flow.
A liability is:
a present obligation of the entity
arising from past events
the settlement of which is expected to result in an outflow of economic benefits.
Income includes both revenue and gains.
Revenue is income arising in the course of the ordinary activities of the entity
such as sales revenue and income from investments.
Gains include, for example, the gain on disposal of a non-current asset. They
might arise in the normal course of business activities. They might be realised or
unrealised. Unrealised gains occur whenever an asset is revalued upwards, such
as the upward revaluation of marketable securities.
Expenses include:
expenses arising in the normal course of activities, such as the cost of sales and
other operating costs, including depreciation of non-current assets.
losses, including, for example, the loss on disposal of a non-current asset, and
losses arising from damage due to fire or flooding.
Appraisal of statement
‘Statement of financial position all that is required’
The statement of financial position does show the position of a business at a
point in time (like a snapshot), but by itself is insufficient to give a
comprehensive view of performance and/or adaptability.
The IASB Framework states that information on financial performance is
provided by the statement of comprehensive income. This is because the
statement of financial position fails to give any account of transactions leading
up to the statement of position.
It is the statement of comprehensive income and the SOCIE that show the
performance of a business in a given period and reconcile the opening and
closing statements of financial position.
Information on financial adaptability is given primarily by the statement of cash
flows. This is because financial adaptability is the ability to take effective action
to alter the amount and timing of cash flows. Some information comes from the
statement of financial position (e.g. the note about future finance lease
commitments) but the statement of financial position is by no means ‘all that is
required’.
‘Income statement is a superfluous statement’
Although income (revenue and gains) and expenses (and losses) would be reflected
in an increase/decrease in the assets and liabilities in the statement of financial
position, the volume and type of income generated would give a better indication of
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company performance. It is the statement of comprehensive income that provides
such detailed information; without it the performance of the business cannot be
properly evaluated.
2 Carrie
(a) Physical
capital
maintenance
(b) Financial capital maintenance
Profit for the year
(i) Historical
cost
accounting
(ii) Constant
purchasing
power
accounting
$
$
$
Sales 1,400 1,400 1,400
Cost of sales (1,000) (1,000) (1,000)
Inflation ad
j
ustment
- S
p
ecific (1,100 – 1,000) (100) - -
- General (1,000 × 7%) - - (70)
–
––––
–
––––
–
––––
Profit 300 400 330
–
––––
–
––––
–
––––
Balance sheet as at
31 December Year 1
Cash at bank 1,400 1,400 1,400
–
––––
–
––––
–
––––
Share capital
(1,000 + 100)
(1,000 + 70) 1,100* 1,000 1,070*
Reserves 300 400 330
–
––––
–
––––
–
––––
1,400 1,400 1,400
–
––––
–
––––
–
––––
Tutorial note
Share capital at the year end is restated under the physical capital maintenance
concept for an increase in specific price changes and under CPP accounting for
general price changes. This is the other side of the entry to the inflation adjustments
in the income statement
3 David
The revenue from this machine comes in as follows.
$
Initial deposit ($100,000 × 10%)
10,000
Balance to pay on delivery 90,000
Three year service contract ($100,000 × 5%)
5,000
–
–––––––
Total 105,000
–
–––––––
The revenue from the initial deposit of $10,000 should not be recognised until the
machine is delivered because, at that stage, the risks and rewards of ownership have
not passed to the buyer.
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When the machine is delivered to the buyer, possession of the goods passes and
therefore this would usually mean that the significant risks and rewards of
ownership have also passed to the buyer. Although installation still has to take
place, we are told that this is a simple process and the costs are negligible. Therefore
the fact that installation has not yet taken place does not mean that the ‘significant
risks and rewards of ownership’ have not passed. If installation had been a complex
process or was used to determine the final price in some way then the revenue
should not be recognised until installation was complete.
In this case therefore the $100,000 selling price of the machine should be recognised
on delivery of the machine.
The $5,000 is respect of after sales support and servicing costs should be recognised
as revenue over the three year period during which these services are performed.
Depending on the pattern of servicing costs it may not be appropriate to take this
revenue on a straight line basis. It may be that more revenue should be allocated to
later years when servicing costs will be greater.
4 Peter
(1) Sale and repurchase agreement
The risks and rewards of ownership have not passed because Peter has agreed
to repurchase the inventories at a later date.
The substance of the arrangement is that Peter has obtained a loan secured on
the inventories. The difference between the sale price of $18,000 and the
repurchase price of $20,000 represents the interest on the loan.
To account for the transaction in accordance with its substance:
the goods should remain in inventories at the lower of cost and net
realisable value
no sale should be recorded
the obligation to repurchase the inventories should be treated as a current
liability of $20,000
$2,000 (20,000 – 18,000) should be charged as interest in profit or loss.
(2) Factoring of receivables
The risks and rewards of ownership have not passed because Peter has
retained:
the risk of bad debts (the factor has a right of recourse for any bad debts)
access to future economic benefits in the form of expected further cash
receipts (the additional 24%/23% etc).
The substance of the arrangement is that Peter has obtained a loan secured on
the receivables, payable out of the cash receipts from those receivables. The
1% of the gross receivables per month retained by the factor is interest on that
loan.
To account for the transaction in accordance with its substance:
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the receivables should remain on the balance sheet until paid in full
the $16,500 (22,000 × 75%) should be treated as a current liability
when payment is received in respect of a receivable, the full amount should
be credited to the receivable and the ‘interest’ charged to profit or loss.
Tutorial note
On receipt of the $16,500 from the factor:
$ $
Dr Cash
16,500
Cr Loan 16,500
If all receivables pay in April, Peter will receive a further $5,280 (22,000 × 24%)
from the factor:
$ $
Dr Cash
5,280
Cr Receivables 5,280
At that point the receivables will be removed from the statement of financial
position, the loan repaid and interest are recorded as follows:
$ $
Dr Loan
16,500
Interest (balancing figure) 220
Cr Receivables (22,000 – 5,280) 16,720
(3) Consignment inventories
Whether Peter should continue to hold the inventories in its statement of
financial position on 31 March Year 3 depends on whether the risks and
rewards of ownership have been passed to the dealer. They do not appear to
have passed as:
the dealer has a right of return over inventories (and therefore does not
bear the risk of obsolescence)
the selling price to the dealer is Peter’s list price at the date of sale (and
therefore Peter has not transferred the risk of prices falling in the
intervening period).
So the vehicles should remain in inventories in Peter’s statement of financial
position on 31 March Year 3.
(4) Sale and leaseback
Because the resultant lease is a finance lease the risks and rewards of
ownership have not passed to Anthony. Therefore, in substance, there has
been no sale:
the machine should remain in Peter’s property, plant and equipment at its
original value of $467,000
a lease liability of $550,000 should be set up.
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5 Larry
Income statement for the year ended 31 December Year 1
$000
Revenue 3,304
Cost of sales (2,542 + 118 – 127) (2,533)
–
–––––
Gross profit 771
Other income 20
Distribution costs (175)
Administrative expenses (342)
–
–––––
Profit before tax 274
Income tax expense (75)
–
–––––
Profit for the period 199
–
–––––
Statement of financial position as at 31 December Year 1
$000
$000
Assets
Non-current assets
Property, plant and equipment (2,830 – 918) 1,912
Intangible assets (26 – 5) 21
–
–––––
1,933
Current assets
Inventories 127
Trade and other receivables 189
Cash (89 +2) 91
–
–––––
407
–
–––––
Total assets
2,340
–
–––––
Equity and liabilities
Equity
Share capital 400
Retained earnings (1,562 + 199) 1,761
–
–––––
2,161
Non-current liabilities
Long-term borrowings (18 x 2/3) 12
–
–––––
12
Current liabilities
Trade and other payables 86
Current portion of long-term borrowing (18 ÷ 3) 6
Current tax payable 75
–
–––––
167
–
–––––
Total equity and liabilities
2,340
–
–––––
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6 Barry
Income statement for the year ended 31 December Year 4
$000
Revenue 1,740
Change in inventories of finished goods and work-in-progress (W3) 40
Staff costs (W3) (620)
Depreciation and other amortisation expense (W3) (42)
Other expenses (W3) (359)
–
–––––
Profit before tax 759
Income tax expense (120)
–
–––––
Profit for the period 639
–
–––––
Statement of financial position as at 31 December Year 4
$000 $000
Assets
Non-current assets
Property, plant and equipment (W1) 368
Intangible assets (W2) 40
–
––––
408
Current assets
Inventories (180 + 140) 320
Trade and other receivables (420 x 95%) 399
Cash 440
–
––––
1,159
–
–––––
Total assets 1,567
–
–––––
Equity and liabilities
Equity
Share capital 600
Other reserves 120
Retaind earnings 635
–
––––
1,355
Current liabilities
Trade and other payables 92
Current tax payable 120
–
––––
212
–
–––––
Total equity and liabilities 1,567
–
–––––
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Statement of changes in equity for the year ended 31 December Year 4
Share
capital
Revaluation
reserve
Retained
earnings
Total
$000 $000 $000 $000
Balance at 31 December Year 3 620 121 721
Dividends paid (125) (125)
Net revaluation surplus in the
year (360 – (300 – 60))
120 - 120
Profit after tax for the period - - 639 639
–
–––
–
–––
–
–––
–
–––––
Balance at 31 December 620 120 635 1,355
–
–––
–
–––
–
–––
–
–––––
Year 4
Workings
(1) Property, plant and equipment
$000
Cost brought forward
Leasehold 300
Computers 50
Revaluation 60
–
–––
Cost carried forward 410
–
–––
Accumulated depreciation brought forward (60 + 20) 80
Revaluation (60)
Charge for the year
Leasehold (360 ÷ 30) 12
Computers (50 ÷ 5) 10
–
–––
Accumulated depreciation carried forward 42
–
–––
Carrying amount carried forward 368
–
–––
(2) Intangible assets
$000
Cost 60
Amortisation (60 ÷ 3) (20)
–
––
Carried forward 40
––
–