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ACCA F7

Financial Reporting (INT)

June 2015

Sample note


© Lesco Group Limited, April 2016

All rights reserved. No part of this publication may be reproduced,

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otherwise, without the prior written permission of Lesco Group

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Recommendation of study:

Hello and welcome to our ACCA F7 study.

This paper is challenging before June2011 exam and after that examiner begins to set

easy questions.

So:

1, You should not deep into difficult questions if you want to pass this exam.

Make sure your basic accounting knowledge is ok in Chapter1 (brought forward from F3

study.)

2, A separate note for you is required because you can use that to copy the exam

questions answer from our tutors.

3, Practice many recent question is the key to success. In the video tutor has laid out

lots of past exam questions to you and if you practice them after the class and make

sure you do them right then you will be F7 expert. But in the exam and because it’s an

exam if you haven’t practiced recent past exam questions from examiner and even

though you are an expert you will still not be as speedy as the one who does. So:

4, We strongly recommend our online students to enroll in our Live Online Course

which tutor will practice more recent past exam questions with you and do more

summary.

If you want to enroll in our live online course and you can contact:

[email protected]

Best of luck in your coming exam.

Accounting Practise Center


Content Chapter1 Basis of accounting .......................................................................................................................... 5

1.1, Introduction to F7 ............................................................................................................................ 6

1.2, Basis of accounting .......................................................................................................................... 7

1.3, How to prepare financial statements? ...........................................................................................12

Chapter2 Accounting Standards ...................................................................................................................40

IAS 2 Inventory ......................................................................................................................................41

IAS 8 Accounting policies, changes in accounting estimates and errors ...............................................51

IAS10 events after the reporting period ...............................................................................................56

IAS 11 construction contract .................................................................................................................59

IAS 12 Income taxes ..............................................................................................................................65

IAS16 property, plant &equipment .......................................................................................................78

IAS 17 leases .........................................................................................................................................88

IAS 18 Revenue Recognition .................................................................................................................93

IAS 20 Government grants ....................................................................................................................95

IAS 23 borrowing costs ..........................................................................................................................98

IAS 33 Earnings per Share ...................................................................................................................101

IAS 36 impairment of assets ...............................................................................................................109

IAS 37 provisions, contingent liabilities and contingent assets ..........................................................112

IAS 38 Intangible Assets ......................................................................................................................117

IAS 40 investment property ................................................................................................................122

IAS 41 Agriculture ...............................................................................................................................126

IFRS 5 Non-current Assets Held for Sale and Discontinued Operations .............................................134

Financial Instrument (IAS32; IAS 39; IFRS 9; IFRS 7) ...........................................................................138

IFRS 13 Fair value measurement--------------------------------------------------------------------------------------140

Conceptual and regulatory framework ...............................................................................................150

Chapter3 Published Accounts .....................................................................................................................156

Chapter 4 Consolidated Financial Statements ............................................................................................159

Chapter 5 Statement of cash flow and Interpretation of financial statements ..........................................185


Chapter1 Basis of accounting


1.1, Introduction to F7

Knowledge:

More than 40% of knowledge you have learnt from F3. If your F3 is exempted, then we

strongly recommend you to have a go through the F3 lectures as well because lots of

knowledge from F3 is very practical in the real life and if you have a solid foundation of F3

then it makes it easier for your F7, F8, P2 and even P7 paper!

Exam Format:

Section A – ALL TWENTY questions are compulsory and MUST be attempted—40marks

Section B – ALL THREE questions are compulsory and MUST be attempted-15;15;30marks

Examiner:

Steve Scott

Very experienced in examining financial reporting

Style of him:

Exam questions are consistent and even predictable. The key to pass this paper is to

attempt lots of past exam questions set by him together with reasonable techniques. Lots

of hard working students will score more than 70% in this paper.


1.2, Basis of accounting

1.2.1, Different types of businesses

Sole trader

One person owns and runs the business.

The sole trader and the business are legally the same entity and therefore the sole trader

is personally liable for any business debts.

Partnership

Two or more persons owns and runs the business.

The partners and the business are legally the same entity and therefore the partners are

jointly liable for any business debts.

Limited liability Company

Shareholders and a number of appointed directors own and run the business.

A company is a legal entity in its own right, and therefore the shareholders only have

limited liability for any business debts.

1.2.2, Different Types of accounts

Management accounts

These are produced when a business wants them. They are produced for internal use

and will not, usually be seen by external people. Management accounts can be


prepared using the company’s own internal policies.

Financial accounts

These accounts are usually produced annually. They are based on historical

information and are rarely used internally. Financial accounts are used by external

users for several

Reasons:

-Investors

-Lenders

-Employees

-Government

-Public

Basic accounting equation: Asset=Liability + Equity

1, I put $20,000 cash into the business.

Dual Effect:

The business has cash of $20,000 (asset increases by $20,000)

The business owes me $20,000 (business owes me $20,000=capital)

Business entity:

I’m separated from the business entity which means this is just accounting for the

business not for me!!

Accounting Equation:

Asset=Liability + Equity 100,000 100,000

cash capital


2, I purchased a Ferrari spots car for use within the business for $950,000.

Dual effects:

Cash (asset within the business) has decreased by $950,000

Car (asset within the business) has increased by $950,000

Business entity:




Asset=Liability + Equity (950,000)

cash

950,000

asset

3, I borrow the debt from the bank for $3,500

Dual effects:

Cash (asset within the business) has increased by $3,500

Debt (liability within the business) has increased by $3,500

Business entity:




Asset=Liability + Equity 3,500 3,500

cash debt


Convert Dual effect into DR & CR

Principles:

1, DR must have a CR

2, the balance for DR&CR should equal

E.g.

1, I put $20,000 cash into the business.

DR cash $20,000

CR: capital $20,000

2, I purchased a Ferrari spots car for use within the business for $950,000.

DR Non-current asset-Ferrari spots car $950,000

CR Cash $950,000

3, I borrow the debt from the bank for $3,500.

DR Cash $3,500

CR Liability $3,500

4, I sell computers to customer Paul for $56,000 in cash.

DR cash $56,000

CR Income $56,000

5, I purchase computers from supplier John for $45,000 in cash.

DR expense $45,000

CR cash $45,000

6, I Withdraw $3,000 from the business for my own use

DR drawing $3,000

CR cash $3,000


*If I ask you, what is the performance and financial position of the business now from

the above transactions?

Statement of profit or loss and other comprehensive income for the year

ended XX

$

Sales revenue 56,000

Expense (45,000)

Profit (goes into retained earnings in SOFP) 11,000

Statement of financial position as at XX

$

Non-Current Assets

Spots car 950,000

Current Assets

Cash (918,500)

(20,000-950,000+3,500+56,000-45,000-3,000)

Total Assets31, 500

Liability 3,500

Equity

Capital 20,000

Retained earnings (income-expense) 11,000

56,000-45,000

Drawings (3,000)

Total liabilities and equity31, 500

Prove: Asset=Liability + Equity


1.3, How to prepare financial statements?

1.3.1 Format of Financial Statements

1, single financial statements for limited liability companies

IAS1 Presentation of financial statements requires Limited Liability Company

should prepare its statement of profit or loss and other comprehensive income,

statement of financial position, statement of changes in equity and also statement of

cash flow (IAS 7 will be detailed in later study).

Examples of these financial statements for Johnson ltd:

Johnson ltd statement of profit or loss and other comprehensive income for the year

ended 31 DEC 2012:

$’000

Revenue 385,000

Cost of sales (188,000)

Gross profit 197,000

Other income 2,000

Distribution costs (38,500)

Administration expenses (37,700)

Profit before interest and tax 122,800

Finance costs (8,000)

Profit before tax 114,800

Income tax expense (53,000)

Profit for the year(profit after tax) 61,800

Other comprehensive income:

Gains on property revaluations 38,000

Total comprehensive income for the year 99,800


Johnson ltd statement of financial position as at 31 DEC 2012:

Accounting Equation

Assets= liabilities + Equity

Financing Decision

(Capital Structure)

$000 $000

Non-current assets

Property plant & equipment 200,000

Intangible assets 187,999

387,999

Current assets

Inventory 88,432

Trade receivables 97,455

Bank 13,400

199,287

Total assets 587,286

Equity and liabilities

Equity*

Share capital 50,000

Share premium 50,000

Revaluation reserve 38,000

Retained earnings 220,497

358,497

Non-current liabilities

8% loan note 75,000

Redeemable preference

shares

25,000

100,000

Current liabilities

Trade payables 77,789

Taxation 51,000

128,789

Total equity and liabilities 587,286


Johnson ltd statement of changes in equity for the year ended 31 DEC 2012:

Share

capital

Share

premium

Revaluation

reserve

Retained

earnings

Total

$000 $000 $000 $000 $000

Opening balance at 1 Jan 2012 0 0 0 158,697 158,697

Share issue 50，000 50,000 100，000

Gains/(losses) on revaluations 38，000 38，000

Profit for the year 61,800 61,800

Dividend paid/payable (0) (0)

Closing balance at 31 DEC

2012

50,000 50,000 38,000 220,497 358,497


1.3.2 Double bookkeeping (6 steps)

Statement of financial position & statement of profit or loss and other

comprehensive income

Step1: transaction and source document

Step2: books of prime entry

Step3: ledger & balance off the account

Step4: trial balance

Step5: year-end adjustment journal

Step6: FS (SOFP & SOCI)


Q: [Jimmy] Jimmy starts his business on 1 NOV 2010.

1.11.2010 He invests $50,000 into a business.

2.11.2010 He purchases $5,000 worth of goods on credit from supplier Paul. Goods

delivery note is received from Paul together with sales invoice + remittance advice and he

attached to the purchase order form. Jimmy’s warehouse issued a goods received note

back to Paul.

3.11.2010 He sells half of the inventory for $6,000 cash to customer Chris.

4.11.2010 He issues a cheque to pay for the goods he received on credit.

5.11.2010 He pays his rent for April of $450 by cheque.

6.11.2010 He sells his remaining inventory for $6,000 on credit to customer David. Jimmy

sent the goods delivery note together with the sales order form, quotation, remittance

advice and invoice.

7.11.2010 He purchased goods on credit for $7,000 from supplier John. Goods delivery

note is received from John together with sales invoice + remittance advice and he attached

to the purchase order form. Jimmy’s warehouse issued a good

s received note back to John.

8.11.2010 He purchases a delivery van for $7,000 cash.

9.11.2010 he received $5600 of receivable balance from customer David and he also gives

him a discount of $400 for early payment.

10.11.2010 customer David returned the goods to Jimmy for gross amount of $3000, a

debit note received from Chris and a corresponding credit note is issued.

11.11.2010 Jimmy returned the goods to supplier John for the gross amount of $3500 and

a debit note has been sent and a credit note received.

12.11.2010 Jimmy received $100 from bank and then put it into the petty cash tin.

13.11.2010 Jimmy purchased stamps for $10 from the petty cash tin.

Required:

For the above transactions prepare:

1. Books of Prime Entry

2. The ledger accounts

3. The trial balance

4. The statement of profit or loss and other comprehensive income

5. The statement of financial position.


Step 1, Source of documents

Quotation. A business makes a written offer to a customer to produce or deliver goods or

services for a certain amount of money.

Sales Order Note. A customer writes out or signs an order for goods or services he

requires.


Purchase Order Note. A business orders from another business goods or services, such

as material

Supplies.

Goods received note. A list of goods that a business has received from a supplier. This is

usually prepared by the business’s own warehouse or goods receiving area.

Goods dispatched note. A list of goods that a business has sent out to a customer.


Invoice. The invoice is a request for the customer to pay what he owes.

When a business sells goods or services on credit to a customer, it sends out an invoice. The

details on the invoice should match the details on the sales order.

When a business buys goods or services on credit it receives an invoice from the supplier.

The details on the invoice should match the details on the purchase order.


Statement of account. A document sent out by a supplier to a customer listing all

invoices, credit notes and payments received from the customer showing how much the

customer still needs to pay for supplier.


Debit note.

A document sent by a customer to a supplier in respect of goods returned or an

overpayment made. It is a formal request for the supplier to issue a credit note.

In simple words, for customer, “please give me money.”

Credit note.

A document sent by a supplier to a customer in respect of goods returned or overpayments

made by the customer. It is a ‘negative’ invoice.

A creditnote is issued in various situations to correct a mistake, such as when:

(1) an invoice amount is overstated,

(2) correct discount rate is not applied,

(3) they do not meet the buyer's specifications and are returned.

In simple words, for supplier, “I’ll give you money.”

http://www.investorguide.com/definition/credit.html

http://www.investorguide.com/definition/credit.html

http://www.businessdictionary.com/definition/mistake.html

http://www.businessdictionary.com/definition/invoice.html

http://www.businessdictionary.com/definition/overstated.html

http://www.businessdictionary.com/definition/discount-rate.html

http://www.businessdictionary.com/definition/specification-spec.html


Remittance advice

A document sent to a supplier alongside any payment sent to them. It details which

invoices are being made.

In the real practice, the supplier sent you the invoice telling you how much you should pay

and after the payment you can send them back a remittance advice telling them about the

payment information:

Account Number:

Currency:

Invoice Number:

Invoice Amount:

Receipt. A written confirmation that money has been paid. This is usually in respect of cash

sales,

eg a till receipt from a cash register.

NOTE:

Data about sales transactions recorded in an accounting system comes from:

1, sales invoice

2, credit notes

3, payments by customers (cheque or remittance advice)

4, receipts (seller’s copy) in cash sales

Data about purchase transactions recorded in an accounting system comes

from:

1, purchase invoice

2, credit note

3, payments to suppliers (cheque or remittance advice)

4, receipts (purchaser’s copy) in cash purchases


Step 2, Books of prime entry

Main business transactions are summarized into books of prime entry for later posting to

the ledgers.

The common books of prime entry and the types of transaction recorded in them

are:

Sales Day Book (SDB) Records credit sales to customers

Sales Returns Day Book (SRDB) Records the return of credit sales

Purchases Day Book (PDB) Records credit purchases from suppliers

Purchases Returns Day Book (PRDB) Records the return of credit purchases

Cash Payments Book (CPB) Records all payments made at the bank

Cash Receipts Book (CRB) Records all receipts made at the bank

Petty Cash Book Records all receipts and payments of cash in hand

Journal Other transactions (Depreciation etc.)


Sales day book

Date Invoice no. Customer Net Sales Tax Gross

6.11.2010 David 6,000

Total 6,000

Sales Returns Day Book

Date Credit note Customer Net Sales Tax Gross

10.11.2010 David 3,000

Total 3,000

Purchase day book

Date Invoice no. supplier Net Sales Tax Gross

2.11.2010 Paul 5,000

7.11.2010 John 8,000

Total 13,000

Purchase Returns Day Book

Date Credit note supplier Net Sales Tax Gross

11.11.2010 John 3,500

Total 3,500

Cash Receipt Book

Date

Narrative Bank Receivab

les

Cash

sales

Capital Discount

Allowed

1.11.2010 Capital

investment

50,000 50,000

3.11.2010 Cash sales 6,000 6,000

7.11.2010 Settle

receivable

5,600 5,600

7.11.2010 Discount

allowed

400

Total 61,600 5,600 6,000 50,000 400

Cash payment Book


Date

Narrative Bank Payables Rent Van

4.1.2010 5,000 5,000

5.11.2010 450 450

8.11.2010 7,000 7,000

Total 12,450 5,000 450 7,000

Petty cash book

Receipt Date Narrative Cash Postage

100 12.11.2010 Cash

received

13.11.2010 Stamps 10 10

Total 10 10


Step 3, Post to Ledger (copy from tutor)

Step 4, Trial Balance

DR CR

Bank

Capital

Sales

Purchases

Payable

Rent

Van

Receivable

Petty cash

Stamps

Total

Step 5, Adjustment

Year-end inventory journal

$

2.11.2010 Purchases 5,000

3.11.2010 Sale(half) (6,000)

6.11.2010 Sale(half) (6,000)

7.11.2010 Purchases 8,000

1,000

DR inventory (closing-statement of financial position) 1,000

CR cost of sales (expenses-statement of profit or loss and other comprehensive

income) 1,000


Step6, Financial statements

Jimmy’s statement of profit or loss and other comprehensive income for year

ended 30/11/2010

$ $

Sales

-Cost of sales

Opening inventory

+purchases

-closing inventory

Gross profit

Other income

-expenses

Rent

Stamps

Profit before interest and tax

Interest expense

Profit for the year


1.3.3 Controlling the bookkeeping systems

Controlling the booking system

So before we actually prepare the financial statements we should be able to make sure

that the balances we extracted from each ledger account is correct.

In order to do so

1, we should reconcile the control account balance with the individual ledger account

balance.

2, we should reconcile the bank control account balance with the bank statement that

bank presents to us.

3, we should correct any errors in the balances as well.


Control account reconciliations

So what if the individual supplier account balance is different from the total balance from

the payable control account?-so we reconcile the payables control account with the list

of payable balances

Scenario 1:

At 31 December 2011 Mary had a balance on the payables control account of $22,550.

The balance on their payables ledger was $20,650. The accountant found the following

discrepancies:

1. An invoice of $1,200 had been omitted from the control account.

2. The purchase day book total was overstated by $1,000.

3. Goods returned of $1,590 had not been recorded in the control account.

4. Discounts received of $10 had not been posted in the control account.

5. Contra entries of $500 need to be recorded in the control account.


So what if the individual customers account balance is different from the total balance

from the receivable control account?- so we reconcile the receivable control account

with the list of receivable balances

Scenario 2:

Mary has a debit balance of $72,266 on the trade receivables control account, which

does not equal to the list of receivables balances figure of $70,659. The accountant

Jam found the following differences:

1. A contra of $7,296 with the trade payables control account was entered on the

wrong side of the trade receivables control account.

2. The sales day book was overcast by $2,500.

3. Discounts totaling $36,015 have been omitted from the control account.

4. A debt of $3,000 needs to written off and an allowance for receivables needs to be

adjusted to 2% of the remaining receivables balance.

5. A cash receipt for $20,000 has been omitted from the individual customers account.

6. A customer invoice of $3,500 was entered into the ledger account as $35,000.

Errors Summary:

1. Casting error in the day books.

2. Posting error.

3. A one sided contra.

4. An entry that has been made in the individual account but not in the control

accounts.

5. An entry being omitted from the control account.

Bank reconciliations


In theory, the balance from the cash book posted into the cash at bank ledger should

be equal to the balance in the bank statement.

But in reality, these are quite different due to:

1, unrecorded differences: [appear in bank statement but not in cash book]

-BACS transfer: money transferred from other bank to our bank

-standing orders: money paid out from bank to supplier

-direct debits: money pay out from the bank

-dishonouredcheques: cheque rejected by bank(but has recorded in cash book)

-bank interest and bank charges. (bank paid for you and charged you but not

recorded in cash book)

2, timing difference:

-outstanding lodgment: we receive the cheque but we haven’t clear it in the bank

-unpresentedcheques: we’ve written off the cheque but supplier not clear it in the

bank

3, errors

After we’ve reconciled bank statement and cash book we can then extract the balance

from the cash book which is correct now to the trial balance in order to finally prepare

the financial statements.


Scenarios of bank reconciliations:

Scenario1:

Jim prepared his cashbook for the month of Oct. 2012:

DR Cash Book CR

Date Narrative $

Date Narrative $

1 Oct. Balance b/f 14,500 1 Oct. Cheque 1437 450

3 Oct. Cheque 345 3,650 1 Oct. Cheque 1438 600


12 Oct. Cheque 741 1,100 1 Oct. Cheque1440 150


12 Oct. Cheque 1442 350

27 Oct. Cheque 1443 395

27 Oct. Cheque 1444 165

27 Oct. Cheque 1445 245

30 Oct. Balance c/f 20,095

23,450 23,450

1 may balance b/f 20,095


Jim received his bank statement on 26thOct 2012:

HSBC Bank

To: Jim account number: 556233655 26 Oct. 2012

Date Details Paid out Paid in Balance

2012 $ $ $

1 Oct. Opening balance 14,500C

4 Oct. 1473 450 14,050C

5 Oct. 1438 600 13,450C

8 Oct. 345 3,650 17,100C

10 Oct. 95464 1,200 18,300C

11 Oct. Standing order- HP plc 750 17,550C

12 Oct. 1439 750 16,800C

14 Oct. Direct debit-Dragon ltd 750 16,050C

17 Oct. 1441 250 15,800C

18 Oct. BACS transfer 3,500 19,300C

20 Oct. 1442 350 18,950C

20 Oct. 741 1,100 20,050C

24 Oct. Bank charges 500 19,550C

D=Debit C=Credit

So prepare the bank reconciliation for Jim and update the cash book.


Scenario2:

You have been asked to prepare a bank reconciliation as at 30 November 2012 for

Jonny. The cashbook has a credit balance of $2,400 and the bank statement at that

date has an overdrawn balance of $1,550.

Upon investigation you find the following differences:

1. A cheque issued by Jonny has been entered into the cash book twice for $459.

2. A direct debit of $225 has been taken from the account and not been entered into

the cash book.

3. There are unpresentedcheques totaling $5,840.

4. There are outstanding lodgements of $8,390.

5. A cheque receipt for $1,450 has been dishonoured by the bank.

6. Bank charges of $1,400 have been charged by the bank.

7. A BACS transfer of $6,196 has been received by the bank and not been accounted

for in the cash book.

8. He has entered cheque payment number 56882 into the cash book as $1,680, when

the correct amount is $1,860.

Required:

Correct the cash book with the above and prepare a bank reconciliation.


Correcting errors

Introduction:

After the reconciliation process we can then come to trial balance.

Because we know that in order to prepare the financial statements we need to extract

balances from the account to the trial balance to check whether or not balances within

the trial balance are actually correct.

If the trial balance is presented to you with DR =CR but still it is not guaranteed that

balance within the trial balance is correct, i.e., maybe there are some mistakes within

the double entries.

If the trial balance is presented to you with DR = CR so this means that there’s a

definitely a mistakes existing within the double entries. In this case the account can’t

use this imbalance trial balance to prepare its financial statements but instead they

should firstly force the trial balance to balance using “suspense account” and then

correct the errors in it one by one.


1, Trial Balance (DR=CR),

A: potential errors:

1, omission of whole transaction

2, commission

3, principle

4, original entry

5, reversal

6, compensating error

B: How to correct errors

1, what is the correct entry?

2, what was the wrong entry?

3, correct it!

Example: (Geoge Ltd)

The accountant of Geoge Ltd has found the following errors and prepare the journal

entries for him to correct each error:

1. A purchase of stationery for $500 cash has not been recorded in the ledger accounts.

2. Computer repairs worth $400 were posted on the debit side of the computer

equipment account.

3. Commission received of $60 was posted to the credit side of the discount received

account.

4. Cash paid of $5,500 for property maintenance has been entered into the property

maintenance account and cash account as $550.

5. A contra between the receivables control account and the payables control account

of $1,000 has been posted to both accounts on the wrong side.


2, Trial Balance (DR=CR),

So a suspense account needs to be created

The suspense account has two functions:

Function1: force trial balance to balance

DR CR

Bank 71,675

Capital 65,000

Purchases 18,000

Trade

payables

14,000

Sales 26,000

Insurance 75

Trade

receivebales

12,000

Computer

equipment

3,000

Rent 150

Petty cash 70

Total 104,950 105,000

Function2, if one side of the entry has nowhere to go

Accountant Cheung investigated why there’s an imbalance between DR and CR balance

and found that the electricity purchased for $50 was credited to the bank account but

no other entry had been made.

Should:

DR electricity expense 50

CR Bank 30

DR CR

Bank 71,675

Capital 65,000

Purchases 18,000

Trade

payables

14,000

Sales 26,000

Insurance 75

Trade

receivebales

12,000

Computer

equipment

3,000

Rent 150

Petty cash 70

Suspense 50

Total 105,000 105,000

Did:

DR suspense account 50

CR bank 50

Correct it:

DR electricity expense 50

CR suspense account 50


Situations where trial balance doesn’t balance implying errors occurred:

1, casting error

2, one sided posting error (double DR or CR)

3, Omission (trial balance error or single entry)

4, transposition error

And these four will lead to a suspense account being created.


Example:

Lily has prepared her trial balance for the year ended 31 May 2012 that does not

balance. A suspense account was opened for the difference of $2,812 credit.

On further investigation the following issues were discovered:

And lily has asked you to prepare the journals to correct the following issues

and enter any relevant entries into the suspense account to clear it.

And secondly, her draft profit for the year ended 31 May 2012 before posting of the

journal corrections was $199,871 and she wonders whether after correcting the

following issues will have an impact on the profit figure?

1. A payment for stationery for cash of $440 was debited to the stationery account as

$780.

2. Discounts given to credit customers as a reward for early payment of $1,310 have

been recorded on the wrong side of the discounts allowed ledger account.

3. Commission received of $125 has been recorded as a debit in the commission

received account.

4. Rental income of $3,742 has only been recorded in the bank ledger account.

5. The debit side of the utilities ledger account has been undercast by $600.

6. Lily made cash drawings of $400 in the year; this has been recorded on the credit

side of the purchases account but correctly posted to the cash account.

7. A contra made between the trade payables and trade receivables control accounts of

$1,250 has been debited to both accounts.


Chapter2 Accounting Standards

-IAS2 Inventory

-IAS8 accounting policies, changes in accounting estimates and errors

-IAS10 events after the reporting period

-IAS11 Construction Contracts

-IAS12 Income Taxes

-IAS16 property, plant & equipment

-IAS17 Leases

-IAS18 revenue recognition

-IAS20 Accounting for Government Grants and Disclosure of Government

Assistance

- IAS23 Borrowing Costs

-IAS32 Financial Instruments: Presentation

-IAS33 Earnings per Share

-IAS36 Impairment of Assets

-IAS37 provisions, contingent liabilities and contingent assets

-IAS38 Intangible Assets

-IAS39 Financial Instruments: Recognition and Measurement

-IAS40 Investment Property

-IFRS5 Non-Current Assets Held for Sale and Discontinued Operations

-IFRS7 Financial Instruments: Disclosures

-IFRS9 Financial Instruments

-conceptual and regulatory framework


IAS 2 Inventory

1, initial recognition

How to establish the cost of inventory initially? (example1)

2, subsequent measurement

Basic idea: The lower of cost and net realizable value (prudence concept)

Cost: FIFO; Weighted average method (example2)

Net realizable value (example3)

3, where does it fit into the financial statements? (example 4)

Statement of financial position-closing inventory

Statement of profit or loss and other comprehensive income-cost of sales

Accruals concept (matching principle)-closing inventory adjustment

4, Disclosures


1, Initial measurement

Inventory= quality X value

(Number of inventory purchased X historical cost)*

*Historical cost:

1, Cost of purchase: purchase price, import duties but excluding discounts

2, Cost of conversion relating to production (direct/variable overheads),

E.g. labor costs in factory; (but labor costs relating to marketing department is

not) machinery depreciation

3, other costs happened necessary to bring the inventory to its intended location and

condition.

E.g. Carriage inwards can be cost. But carriage outwards is expense

Example 1: Manny Co

Manny company buys the desk in order to sell to the customer. The purchase price for

the desk is $100. Import duty is $10. Discount of the desk is $10. Manny company is

charged by raw material provider of $10 for carriage inwards of the wood.

Also Manny company manufactures chairs at a production cost of $20 and the labor

cost to manufacture the chairs is $30.direct overheads relating to this is $5.

Required:

1, what is the cost of desk?

2, what is the cost of chairs?


2, Subsequent Measurement (valuing closing inventory)

Inventory= quality X value

(Closing inventory X (using FIFO, WAC))

Lower of cost and net realizable value

Aim: not to overstate the asset (inventory) figure, i.e. be prudent.

For statement of financial position, closing inventory will appear under

current assets and if there’s more closing inventory then it will make

statement of financial position look better.

For statement of profit or loss and other comprehensive income, if there’s

more closing inventory, then there’ll be less cost of sales then overstate the

profit.


1, What is “and”?

Inventory

number

Cost NRV Lower of cost or NRV

*1 5 3 3

*2 5 2 2

*3 3 5 3

*4 2 3 2

15 13 10

No netting off.

-inventory 3, 4 have risen in value and it will be net off by inventory1,2

if we choose NRV=13.

-so we should choose 10.

2, Cost (Example 2 George Ltd)

FIFO:

What comes in first then goes out first;

Used for perish goods such as meat

Weighted Average Cost: used when inventory movement is unknown and

price is not consistent. Think about petrol

-periodic

-continuous

LIFO (banned): what comes in last then goes out first. Think about technology

companies. In USA, this is allowed.

3, Net realizable value (NRV) (Example 3 Jonny ltd)

=estimated selling price-estimated cost to sell

*Usually the cost should be less than the net realizable value because for

profitable companies, they sell the goods for profit (selling price>cost)

*But in some circumstances that the goods (inventory) may be obsolete or

damaged so they may be sold at a discount price which is less than cost.


Example 2 George Ltd

George Ltd made the following purchases and sales in March.

There’s no opening inventories.

Purchases:

Date Bottles Unit cost Total

3rd 500 $4.00 $2,000

12th 500 $4.60 $2,300

16th 400 $4.75 $1,900

22th 700 $5.25 #3,675

31st 900 $5.40 $4,860

3,000 $14,735

Sales

Date Bottles Unit cost Total

7th 300 $10.00 $3,000

13th 400 $10.00 $4,000

17th 300 $10.00 $3,000

29th 700 $10.00 $7,000

1,700 $17,000

Required:

Prepare the statement of profit or loss and other comprehensive income extract for

George Ltd using:

*FIFO (first in, first out)

*Weighted Average cost (periodic method)

(continuous method)


Example 3: Jonny Ltd

Jonny Ltd has the following items in their financial statements for the year ended 31

December 2014:

Inventory at 1 January 2014 $45,678

Purchases $98,000

Inventory at 31 December 2014 $42,800

Closing inventory includes the following damaged items:

- A fridge was purchased for $500. Due to fire damage the maximum it can be sold

for is $200 after a wax product costing $50 has been applied.

- Four electronic pens costing $100 each were also damaged in the fire. They can be

sold for $20 each.

Required:

Calculate the cost of sales in the statement of profit or loss and other comprehensive

income for the year ended 31 December 2014.


3, Where does inventory fit into?

Statement of financial position as at 31 DEC 2014 for Manny company:

Current assets $

Inventory 8,990

Statement of profit or loss and other comprehensive income (extract) for the year

ended 31 DEC 2014 for Manny company:

$ $

Sales revenue $78,559

Cost of sales

Opening inventory 8,009

Purchase 5,889

-closing inventory (8,990)

(4,908)

Gross profit 73,651

[Example 4: How to record in journals for Manny company?]

[Accruals concept: we haven’t sold $8,990 of inventory at the end of the year so get

rid of it to match the revenue we earned of $78,559 with cost of sales $4908 in this

particular year.]


4, disclosures

1, Accounting policy for inventories:

-FIFO?

-Weighted average method?

2, Carrying amount of any inventories at fair value less costs to sell (NRV).

3, Total carrying amount of inventories and each type of inventories:

$

Raw materials 1,000

Work in progress 2,000

Finished goods 1,000

Total 4,000


[Q about inventory from published account]

Trial Balance : ($‘000)

DR CR

Equity shares of 50 cents each 50,000

Retained earnings (note (i)) 15,000

Inventory (note) 36,000

Freehold property 19,000

Cost of sales 207,750

Revenue 197,750

262,750 262,750

Note:

The inventory of Highwood was not counted until 4 April 2011 due to operational

reasons. At this date its value at cost was $36 million ($36,000,000) and this figure has

been used in the cost of sales calculation above.

Between the year end of 31 March 2011 and 4 April 2011, Highwood received a delivery

of goods at a cost of $2.7 million and made sales of $7.8 million at a mark-up on cost

of 30%.

Neither the goods delivered nor the sales made in this period were included in

Highwood’s purchases (as part of cost of sales) or revenue in the above trial balance.


[June 2008 Q4 Inventory]

4

(a) The IASB’s Framework for the Preparation and Presentation of Financial Statements

requires financial statements to be prepared on the basis that they comply with certain

accounting concepts, underlying assumptions and (qualitative) characteristics. Five of

these are:

Matching/accruals

Substance over form

Prudence

Comparability

Materiality

Required:

Briefly explain the meaning of each of the above concepts/assumptions. (5 marks)

(b) For most entities, applying the appropriate concepts/assumptions in accounting for

inventories is an important element in preparing their financial statements.

Required:

Illustrate with examples how each of the concepts/assumptions in (a) may be applied

to accounting for inventory. (10 marks)

(15 marks)


IAS 8 Accounting policies, changes in accounting

estimates and errors

If the company is going to use another accounting policy this year and find an error

relating to last year’s account then the company should adjust for this year and last

year’s financial statements. (retrospective adjusting)

If the company is going to use another accounting estimate this year and the company

should adjust for current year financial statements and future one. (prospective

adjusting)

But how to determine whether this is a change in accounting policy or estimate?

Well, if there’s a change in

Measurement basis of the figure, e.g., value the inventory using FIFO but now

use weighted average method; use replacement cost rather than historic cost.

Recognition basis of the figure, e.g., recognize as an expense before but now for

asset(e.g. IAS 23 borrowing costs)

Presentation basis of the figure, e.g., recognize the depreciation expense into

cost of sales now rather than in administrative expenses before.

You are going to change in the accounting policy only if:

1, a change in laws / accounting standards and you are required to do so;

2, gives a fairer presentation to the users of FS.

And anything that is not changing the measurement, recognition or presentation of

figures are deemed to be a change in accounting estimate such as:

Allowance for receivables;

Useful life/ depreciation method of the non-current assets;

Warranty provision relating to return of goods from customers.

An error may happen if there’s a

Misuse of the accounting standard last year;

Fraud happened last year;

Omit some figures in last year’s account.

Accounting Summary:


Changes in accounting policy this year:

Assume it happens in last year as well and of course this year happens;

Adjust for last year closing retained earnings taken into account in the changes to be

brought forward in this year’s statement of changes in equity.

Material prior period errors found:

Correct last year’s material errors;

Adjust for last year closing retained earnings taken into account in the error effect to

be brought forward in this year’s statement of changes in equity.

Changes in accounting estimate:

Use the new one to continue the calculation.

Q Account Ltd (accounting policy and accounting estimate)


1, Account Ltd charged interest expenses incurred from the construction of tangible

non-current assets to the income statement before but now it capitalizes the interest

as an addition to the cost of tangible non-current asset as per IAS 23 borrowing costs.

2, Account Ltd depreciate the machine using the reducing balance basis method at 30%

but now it use the new depreciation method over 10 years.

3, Account Ltd shows overhead expenses within cost of sales before but now it shows

under administrative expense.

4, Account Ltd has previously measured inventory at weighted average cost but now it

uses FIFO method.

Required:

Whether the above transactions are a change in accounting policy or accounting

estimate.

Q Martin Construction (change in accounting policy)


Martin Construction incurs significant finance costs on its financing for the construction of

supermarkets. Its chosen accounting policy to date has been expense the finance costs as

incurred. The final accounts for the year ended 31 December 2012, and the 2013 draft

accounts, reflect this policy and show the following.

2013 2012

$000 $000

Profit before interest and tax 8,700 6,200

Finance costs (2,500) (1,750)

Profit before tax 6,200 4,450

Income tax expense (1,900) (1,400)

Profit after tax 4,300 3,050

Retained earnings B/F: 26,050 23,000

The directors of Martin Construction have now decided to change the accounting policy in

2013 to 54 capitalization of finance costs per IAS23. Martin Construction incurs no finance

costs other than those related to the construction of the supermarkets.

Martin Construction paid a dividend of $1m during the year ended 31 December 2013.

Required:

Show how the change in accounting policy will be reflected in the income statement and

statement of changes in equity for the year ended 31 December 2013.

Q JJK (prior period errors)

During the year 2013 JJK Ltd discovered certain items that had been included in


inventory at 31 DEC 2012 at a value of $2.5m but they had been in fact sold before the

year end.

The income statement below for JJK for 2012 and 2013 are as follows:

2013 2012

Sales 52,100 48,300

Cost of sales (33,500) (30,200)

Gross profit 18,600 18,100

Tax expense (4,600) (4,300)

Profit after tax 14,000 13,800

The retained earnings at 1 Jan 2012 were $11.2million.

Required:

Show the 2013 income statement with comparative figures and the retained earnings

for each year.

Q Giant (changes in accounting estimate)

Giant Ltd has an asset which was purchased for $80,000 on 1 January 2005 when its

useful life was estimated to be ten years with a residual value of $10,000. A straight

line depreciation policy was selected. On 1 January 2011 the directors reviewed the

useful life of the asset and found that it had a remaining life of eight years.

Required:

Calculate the NBV as at 31 December 2011?


IAS10 events after the reporting period

Time line:

This is the event happened between financial statement year end and the financial

statements are authorized to be issued to the shareholders to be discussed at the AGM

(annual general meeting).

They will be either adjusting events or non-adjusting events

Magical way to distinguish the adjusting events and non-adjusting events:

Is it because of this event then it will affect the figure as at the year end?

-Adjusting events

Change in judgments, estimate or assumptions after the year end.

E.g., 1, inventory sold at a loss? Change in assumptions that closing inventory should

be valued at the lower of cost and net realizable value (IAS 2);

2, Customers go bankruptcy so that recoverability of the receivable balance at the

year-end has been changed.

3, If company is involved in going concern problems after the year end and

because the financial statement should be prepared under going concern

basis and now this is changed.

-Non-adjusting events

There’s no link between financial statement figures at the year end and events after the

FS year end.

E.g., 1, fire destroyed the inventory after the year end (cant’s predict!)

2, dividends are declared after the year end or share issues after the year end

(no link between figures and events)

YR start YR end

Audit

report

signed

FS

authorized

to issue


Example: (Orange Ltd) (IAS 10 events after the reporting period)

John has asked you to identify the following events happened in orange Ltd of whether

they’re adjusting or non-adjusting events between the accounting year end of 31

December 2013 and 31 March 2014:

1. Major acquisition of a competitor announced on 17 January 2014.

2. Inventory is sold for a price significantly lower than the original cost on 5 January

2014.

3. The bankruptcy of a major customer on 9 February 2014.

4. A Major fire happened in a warehouse, destroying two thirds of the company’s

inventory on 27 February 2014.

5. You discovered a material sales ledger fraud on 29 January 2014 that took place

throughout the financial year.

6. 100,000 ordinary shares issued on 1 March 2014.

7 Dividends were announced on 30 January 2014.


[June2009 Q4 Waxwork]

(a) The objective of IAS 10 Events after the Reporting Period is to prescribe the

treatment of events that occur after an entity's reporting period has ended.

Required

Define the period to which IAS 10 relates and distinguish between adjusting and

non-adjusting events.

(5 marks)

(b)

Waxwork's current year end is 31 March 2009. Its financial statements were authorised

for issue by its directors on 6 May 2009 and the AGM (annual general meeting) will be

held on 3 June 2009. The following matters have been brought to your attention:

(i) On 12 April 2009 a fire completely destroyed the company's largest warehouse and

the inventory it contained. The carrying amounts of the warehouse and the inventory

were $10 million and $6 million respectively. It appears that the company has not

updated the value of its insurance cover and only expects to be able to recover a

maximum of $9 million from its insurers. Waxwork's trading operations have been

severely disrupted since the fire and it expects large trading losses for some time to

come.

(4 marks)

(ii) A single class of inventory held at another warehouse was valued at its cost of

$460,000 at 31 March 2009. In April 2009 70% of this inventory was sold for $280,000

on which Waxworks' sales staff earned a commission of 15% of the selling price.

(3 marks)

(iii) On 18 May 2009 the government announced tax changes which have the effect of

increasing Waxwork's deferred tax liability by $650,000 as at 31 March 2009.

(3 marks)

Required

Explain the required treatment of the items (i) to (iii) by Waxwork in its financial

statements for the year ended 31 March 2009.

Note: assume all items are material and are independent of each other. (10 marks as

indicated)

(Total =15 marks)


IAS 11 construction contract

1, When you’re trying to build this tower it may take you more than 1 year to finish.

After finishing off this tower and you may try to sell off to the client.

So before finishing off this tower will you keep it as a inventory?(IAS2)

The answer is no! Remember inventory is current asset which is less than 1 accounting

year.

2, Next question is because the contractor is building this tower so he may have to pay

for material, labor costs etc. So when is the cost being recognized?

The contractor can get the sales revenue only when after selling off this tower to client.

So before selling off this tower, the contractor gets no cash from the client. So does the

contractor recognize no revenue at all?

To answer this question:

According to Prudence concept, the sales revenue should be recognized after this

tower has been sold off to the client.

According to Accruals concept, the expenses relating to the building of the tower

should be matched with the revenue from the tower.

So one is contradict with another. But here in this case, Accruals concept wins.

3, But how much does the revenue and expenses should be recognized?

IAS 11 Construction Contract gives us the guidance.

4, Guidance by IAS 11 construction contract (Diagram)


yes

No

yes

No

yes

5, Stage of completion

Sales basis method (work certified method):

work certified to date

contract price

Cost method:

costs incurred to date

total contract costs

6, exam approach: (big 5 steps) (mnemonic: PC IAS)

Recognize based on stage of

completion

Outcome is certain?

Profit making contract?

Fixed Price or Mark up?

Revenue=costs(no profit/loss)

Recognize loss in full

Profit=price (cost+mark up)-cost

Mark up


Step1: Profit/loss of contract (outcome)

Revenue (contract price)

-Total costs

*cost to date

*cost to complete

Profit/loss

Step2: Stage of Completion

Last year & This year (if variation of work is included then revise this figure)

Step3: Income statement

Contract

Revenue

Revenue to date X stage of completion

-Revenue last year X stage of completion

Revenue this year=X X

Cost of sales

Total costs X stage of completion=X (X)

Gross profit

Revenue to date (include variation revenue?) X stage of completion

-cost of sales to date (include variation costs?) X stage of completion

Gross profit to date

-last year’s gross profit

-rectification costs

Step4: Amounts due from/ (to) customers

Contract

Costs to date X

+gross profit to date /-(loss) to date X/(X)

-progress billing (X)

Amounts due from/(to) customers X

Step5: Statement of financial position extract & I/S extract


SOFP:

Current assets

Amounts due from customers X

Receivables

Progress billing-cash received

X

Current liabilities

Amounts due to customers X

I/S:

Revenue X

-cost of sales (x)

Gross profit/ (loss) X


Question: Tony [revenue and costs of construction contract recognised]

On 1 NOV 2013 Tony signs a contract to design and build a new golf course at a large

hotel in Malaysia for a fixed price of $2million. Tony’s contracts stipulate that a 10%

premium will be paid for completion of the golf course by 31 May 2014.

Tony has noted the costs incurred as follows:

$

Design costs 150,000

Site leveling and preparation 320,000

Direct labor 200,000

Site supervision 30,000

Turf, sand and gravel 120,000

Depreciation of digger used in the project 10,000

Before the year end the client requires that the golf course should also include some

water jets and this will cost an extra $15,000 and Tony charges the client for $25,000.

Before the year end the client found that Tony has used the material wrongly to build

the golf course and so Tony will have to incur an extra $5,000 to that.

Before the year end, Tony expects the golf course will be completed by 30 April 2014

very probably.

So at 31 DEC 2013 what should the total contract revenue and costs be included?

Answer:

Contract revenue $

Contract price 2,000,000

Incentive for early completion 200,000

Work variation (water jets-revenue) 25,000

2,225,000

Contract costs $

Design costs 150,000

Site leveling and preparation 320,000

Direct labor 200,000

Site supervision 30,000

Turf, sand and gravel 10,000

Cost variation(water jets-costs) 15,000

Rectification costs(wrong material) 5,000

730,000


Question: (Mary J Ltd)

(Note: Mary J ltd has covered almost every aspects of IAS11 and there’s no more exam questions that is more

complicated than this one.)

Mary J ltd is a construction company which specializes in building cafe bars.

There are particularly 3 cafe bars that Mary J ltd is building:

Mary A bar Mary B bar Mary C bar Mary D bar

$000 $000 $000 $000

Duration 3 years 3years 2years 2years

Commencement 1year ago now now now

Costs incurred to date 200 90 600 320

Costs to complete 200 110 200 Unable to predict

Contract price 600 300 750 800

Progress billings 40 70 630 0

Cash received from customer 36 63 400 0

The stage of completion in Mary A bar is calculated using work certified method (sales

basis method).

An independent surveyor certified the value of the work in progress as follows:

Last year: $300,000

This year: $400,000

The stage of completion in Mary B, Mary C and Mary D bar is calculated using cost

method.

Mary J ltd has been reviewing the Mary D bar is unsure about the future costs to

complete the Mary D bar and whether the Mary D bar will make a profit or a loss as

there are uncertainties surrounding the project’s completion.

Last year Mary A bar agreed to a contract variation (for extra roof) that would involve

an additional fee of $5,000 with associated additional estimated costs of $2,000. In

this year, the cost includes $2,500 relating to the replacement of seats made from

material that had been incorrectly specified by the contractor.

Required:

Prepare the income statement extract and statement of financial position extract for

the above bars.

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