ACCA P2 (INT) Corporate Reporting - Study text

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Chapter 18: Other accounting standards

IFRIC 17: Distribution of non cash assets to owners

 Background

 Key features

4 IFRIC 17: Distribution of non cash assets to owners

4.1 Background

IFRS does not provide guidance on how an entity should measure distributions to

its owners (commonly referred to as dividends).

This is not a problem when an entity makes a cash distribution but sometimes an

entity distributes assets other than cash (non-cash assets) as dividends.

4.2 Key features

A liability is recognised when it is no longer at the discretion of the entity. This is

the point at which those persons who have the authority to approve distributions

give such approval.

The liability is initially recognised at the fair value of the assets to be distributed.

At the end of each reporting period and immediately before settlement, the liability

is remeasured to reflect any changes in the fair value of the underlying asset. The

changes are recognised in equity.

At settlement date, the difference between the carrying amount of the assets

distributed and the liability is recognised in profit or loss as a separate line.



Example

23rd November 2010

X Plc declares that it will distribute its investment property to its owners on 28th

February 2011.

X Plc uses the cost model in accounting for its investment properties.

The fair value of the investment property was $10m.

Dr Equity (retained earnings) $10m

Cr Dividend payable $10m

31st December (X Plc’s reporting date)

The fair value of the investment property was $11m.

Dr Equity (retained earnings) $1m

Cr Dividend payable $1m

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28th February 2011

The investment property is distributed to the owners

The fair value of the investment property was $11.5m.

The carrying amount of the investment property was $9.5m.

Dr Equity (retained earnings) $0.5m

Cr Dividend payable $0.5m

Dr Dividend payable $11.5m

Cr Investment property $9.5m

Cr P&L $1.5m

Paper P2 (INT)

Corporate Reporting

CHAPTER

Specialised entities

Contents

1 Small and medium sized entities (SMEs)

2 Specialised, not-for-profit and public sector

entities

3 ED 2009/8: Rate regulated activities

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Small and medium-sized entities (SMEs)

 Reporting requirements of SMEs

 Arguments against the use of IFRSs by SMEs

 Arguments in favour of the use of IFRSs by SMEs

 Considerations in developing standards for SMEs

 IFRS for SMEs

1 Small and medium-sized entities (SMEs)

1.1 Reporting requirements of SMEs

International accounting standards are written to meet the needs of investors in

international capital markets. Most companies adopting IFRSs are large listed

entities. The IASB has not stated that IFRSs are only aimed at quoted companies, but

certainly the majority of adopters are large entities. In many countries IFRSs are

used as national GAAP which means that unquoted small and medium-sized

entities (SMEs) have to apply them.

There is an argument that all entities should apply the same accounting standards in

order to give a fair presentation of the affairs of the entity. However in some cases,

many of the IFRSs are complex and can be difficult for SMEs to apply, particularly

in areas such as financial instruments. Additionally, not all the information required

by IFRSs for disclosure is needed by the users of the SME’s financial statements.

Some commentators therefore suggest that SMEs and public entities should be

allowed to use simplified or differing standards as the nature of their business is

different from large quoted entities.

The users of financial statements of SMEs are different from the users of the

financial statements of quoted companies. The only ‘user groups’ that use the

financial statements of an SME are normally:

 its shareholders/owners

 senior management, and

 possibly, government departments and agencies.

A SME is often owned and managed by a small number of entrepreneurs, and may

be a family-owned and family-run business. Large companies, in contrast, are run

by professional boards of directors, who must be held accountable to their

shareholders.

Because there are big differences between SMEs and large quoted companies, it is

not clear whether there is any reason why SMEs should comply with IFRSs. There

are arguments in favour of using IFRSs for SMEs, and arguments against.

Chapter 19: Specialised entities

1.2 Arguments against the use of IFRSs by SMEs

There are several reasons why SMEs should not adopt IFRSs for the preparation of

their financial statements.

 Some IFRSs deal with subjects that are of little or no relevance to SMEs, such as

accounting standards on consolidation, associates, joint ventures, deferred tax,

construction contracts and standards that deal with complex issues of fair value

measurement.

 The costs of complying with IFRSs can be high. Large companies are able to bear

the cost, which might not be significant relative to their size. For SMEs, the cost

is proportionately much higher, and it is doubtful whether the benefits of

complying with IFRSs would justify the costs.

 There are not many users of financial statements of SMEs, and they use the

financial statements for a smaller range of decisions, compared to investors in

international capital markets. So would it be a waste of time (as well as cost) to

comply with IFRSs?

1.3 Arguments in favour of the use of IFRSs by SMEs

There are also reasons why SMEs should adopt IFRSs for the preparation of their

financial statements.

 If SMEs use different accounting rules and requirements to prepare their

financial statements, there will be a ‘two-tier’ system of accounting. This could

make it difficult to compare results of larger and smaller companies, should the

need arise. Confidence in the quality of financial reporting might be affected

adversely.

 If SMEs prepared financial statements in accordance with their national GAAP,

it will be impossible to compare financial statements of companies in different

countries. If SMEs grow in size and eventually obtain a stock market quotation,

they will have some difficulty in the transition from national GAAP to IFRSs.

 It has also been argued that full statutory accounts for SMEs would be in the

public interest, and might help to protect other stakeholders in the company

(such as suppliers, customers, lenders and employees).

1.4 Considerations in developing standards for SMEs

The aim of developing a set of accounting standards for SMEs is that they allow

information to be presented that is relevant, reliable, comparable and

understandable. The information presented should be suitable for the uses of the

managers and directors and any other interested parties of the SME. Additionally,

many of the detailed disclosures within full IFRSs are not relevant and the

accounting standards should be modified for this. The difficulty is getting the right

balance of modification, too much and the financial statements will lose their focus

and will not be helpful to users.

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1.5 IFRS for SMEs

Project history

June 2004: Publication of the discussion paper (DP) Preliminary Views on

Accounting Standards for Small and Medium Sized Entities

February 2007: Publication of the ED

July 2009: Publication of the IFRS for SMEs

The standard consists of 230 pages of text, arranged into 35 chapters that cover all of

the recognition, measurement, presentation and disclosure requirements for SMEs.

There is no cross reference to other IFRS (with one exception relating to financial

instruments).

Definitions

Small and medium-sized entities are entities that:

 do not have public accountability, and

 publish general purpose financial statements for external users. Examples of

external users include owners who are not involved in managing the business,

existing and potential creditors, and credit rating agencies.

An entity has public accountability if:

 its debt or equity instruments are traded in a public market or it is in the process

of issuing such instruments; or

 it holds assets in a fiduciary capacity for a broad group of outsiders as one of its

primary businesses (eg banks and insurance companies).

The decision as to which entities are required or permitted to apply the standard

will lie with the regulatory and legislative authorities in each jurisdiction.

Key features of the IFRS for SMEs

A complete set of financial statements of an entity reporting under the IFRS for

SMEs is similar to that required by full IFRS and comprises:

 a statement of financial position

 either a single statement of comprehensive income, or a separate income

statement and a separate statement of comprehensive income

 a statement of changes in equity

 a statement of cash flows

 notes including a summary of significant accounting policies

 comparative information.

The IFRS for SMEs imposes a lesser burden on SMEs due to:

 some topics in IFRSs being omitted because they are not relevant to typical SMEs

 the simplification of many of the recognition and measurement requirements

available in full IFRSs

 substantially fewer disclosures.

Chapter 19: Specialised entities

Omitted topics

The IFRS for SMEs does not address the following topics:

 earnings per share

 interim accounting

 segment reporting

 special accounting for assets held for sale

Simplifications

Investments in associates and joint ventures

 can be measured at cost unless there is a published price quotation (when fair

value must be used).

 Jointly controlled entities can be accounted for using the cost model, the equity

method or the fair value model (proportionate consolidation is not allowed)

Investment properties

 must be measured at fair value (cost model not allowed, unless fair value cannot

be measured reliably without undue cost or effort)

Property, plant and equipment

 revaluation not allowed

 residual value, useful life and depreciation need to be reviewed only if there is

an indication they may have changed since the most recent annual reporting

date (full IFRSs require an annual review).

Borrowing costs

 must be recognised as expenses (cannot be capitalised)

Intangible assets

 revaluation not allowed

 research and development costs must be recognised as expenses (cannot be

capitalised)

Goodwill and other indefinite life intangible assets

 amortised over their estimated useful lives (ten years if useful life cannot be

estimated reliably).

Business combinations

 acquisition costs are capitalised

 goodwill is amortised over its useful life (10 years if this can't be estimated

reliably)

Financial instruments:

 Financial instruments meeting specified criteria are measured at cost or

amortised cost. All others are measured at fair value through profit or loss.

 Simplified hedge accounting rules

Defined benefit plans:

 all actuarial gains and losses must be recognised immediately either in profit of

loss or other comprehensive income.

 all past service cost must be recognised immediately in profit or loss.

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Specialised, not-for-profit and public sector entities

 Types of entity

 Objectives of specialised entities

 Accounting standards and specialised entities

 Exam approach

2 Specialised, not-for-profit and public sector entities

2.1 Types of entity

Most of this study text is about the financial statements of profit-making entities,

such as limited liability companies.

Other types of entity also prepare and publish financial statements. These entities

include:

 Not-for-profit entities: such as charities, clubs and societies. Each of these

organisations is set up for a specific purpose. For example, a charity might be set

up to campaign for the protection of the natural environment or to help the poor.

 Public sector entities: these include central government bodies; local

government bodies; and other organisations that operate for the benefit of the

general public, such as state schools and hospitals. A public sector entity is

owned by the state or by the general public.

Many different types of entity could be described under these headings. These

entities are different from limited liability companies, partnerships and sole traders

in one vital respect. They do not primarily exist to make a profit.

In practice, the terms ‘specialised entity’, ‘not-for-profit entity’ and ‘public benefit

entity’ are often used interchangeably.

2.2 Objectives of specialised entities

The main objective of large listed entities is to maximise their profits in order to

provide a return to their owners (investors) in the form of a dividend. This may not

be their only objective (for example, they may provide employment to the local

community, or aim to operate in a socially responsible way), but it is their main

objective.

The objective of owner managed businesses (small privately owned entities) is also

to make a profit.

In contrast, the main objective of a specialised entity is to carry out the activities for

which it has been created. Again, this may not be the only objective, because all

entities need some form of income. Many large charities, for example, carry out

trading activities. However, making a profit is not the main aim. In fact, most not-

for-profit entities will aim to break even, rather than to generate a surplus of income

over expenditure.

Chapter 19: Specialised entities

In some public sector entities, performance is measured in terms of whether the

entity provides value for money from the resources it has available. Assessment of

performance will look at how well the resources have been used and it is often done

using the 3 E’s – economy, effectiveness and efficiency.

Economy means buying goods and services at a cheap price, so that the entity is not

paying too much for its input costs, which could include accommodation, staff and

other items.

Efficiency means operating so that inputs are used in the best possible way to

provide a maximum output. In the case of a hospital, it may be making sure that the

required service is provided at the lowest cost and wastage is kept to a minimum.

Effectiveness means that an organisation has met its goals by using the right

resources at the right time.

2.3 Accounting standards and specialised entities

International accounting standards are designed for profit-making entities.

Whether they are relevant to not-for-profit entities will depend on the way in which

they have to report and the information that they have to provide. There is a great

deal of variation from organisation to organisation and from country to country.

In some countries, charities and public sector bodies are required to follow

accounting standards specifically designed for the purpose (in the UK these are

called Statements of Recommended Practice.) Alternatively, the form and content of

financial statements and the accounting treatments to be followed may be

prescribed by law. IASs and IFRSs are probably largely irrelevant for these entities.

Some not-for-profit entities may be able to draw up accounts in any form that its

members or officers wish. Many not-for-profit entities prepare accounts on a cash

basis, rather than on an accruals basis. Public sector bodies may also use cash

accounting. (This was the case in the UK until fairly recently.) IASs and IFRSs

require accruals accounting.

In some countries, public sector bodies and many charities are increasingly expected

to apply commercial-style accounting practices. Even for those entities that are not

formally required to adopt them, IASs and IFRSs are a useful source of information

on current best practice.

2.4 Exam approach

In the exam, you may be given a scenario involving a not-for-profit entity or public

sector entity and asked to advise on a particular transaction. In many ways your

advice should be no different for a not-for-profit entity as for a commercial profit-

making entity, but you will need to be aware of the context of the question and the

fact that the objectives of a not for profit entity differ from a standard trading entity.

Paper P2: Corporate Reporting (International)

Users of the financial statements of a not-for-profit entity are almost always

interested in the way that the entity manages and uses its resources.

For example:

 A charity may be managed by trustees on behalf of its supporters and those who

benefit from its activities.

 A public sector organisation is managed by elected officials on behalf of the

general public.

Additionally, if you have to interpret any information relating to not-for-profit and

public sector entities then make sure you are aware who the users of that

information are and what they will be interested in.

Typically, users will want to know whether:

 the entity has enough finance to achieve its objectives

 the money raised is being spent on the activities for which it was intended

 the public are receiving value for money (in the case of a public sector entity)

 services are being provided economically, efficiently and effectively (in the case

of a public sector entity)

 the level of spending is reasonable in relation to the services provided.

Additionally, standard ratios may not be suitable for these entities so you may have

to look at other measures, such as non-financial rations including:

 the average time that hospital patients wait for treatment

 the number of schools built in an area

 serious crimes per 1,000 of the population

 number of complaints by members of the public in a given period

 number of visits made to museums and art galleries in an area.

ACCA P2 (INT) Corporate Reporting - Study text - 2010 (Emile Woolf)

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