Summer Exam-2014Corporate Sector

Financial Reporting (05.05.2014)Duration: 3 hrs. M a r k s - 1 0 0

[Instructions] Ensure that the question paper delivered to you is the same, in which you intend to appear. Read the instructions given on the title page of Answer Script. Start each question from fresh page.

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Q.1. An entity has incurred the following expenditures on a plant purchased on January 01, 2013;however, the asset was ready for use on March 01, 2013 and actual production started onJune 30, 2013.

Rs.Purchase price (including Rs. 2,000 for income tax deducted at import stage) 150,000Import duties paid 12,000Demurrage paid to port authorities 18,000Site preparation 15,000Repair cost incurred due to damage during installation 3,000Trial run cost net (cost of Rs. 30,000 less sale proceeds Rs. 15,000) 15,000Dismantling cost gross (legal obligation) 20,000

The asset has a useful life of 5 years and the effective discount rate entity uses for its presentvalue calculations is 10%.

Required:

a) The cost of asset at initial recognition. 07

b) The depreciation charge for the year ended December 31, 2013. 03

Q.2. An entity is finalizing its financial statements for the year ended December 31, 2013 and cameacross the following events after the reporting date. You being the Manager Reportingrequired discussing the implication of the following events on the financial statements.

a) The Government has changed the applicable corporate tax rate for the subsequent yearsfrom 35% to 30%. The current tax calculated at then applicable rate was Rs. 215,000 anddeferred tax liability was Rs. 515,000. The announcement was made after the year end by thePrime Minister to attract foreign investment.

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b) A suit has been filed against the company by one of the customers of the company who gotseriously injured by explosion of its electric equipment. The event happened after the yearend however, goods were sold before the year end. This event can happen but chances ofoccurrence have been remote. The legal advisor of the company has advised for out of courtsettlement and the expected compensation is Rs. 1 million.

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c) During the last month of the year the company sold Rs. 1.5 million goods under warranty ofsix months. The provision has been recognized for the expected claims at Rs. 0.2 million,but the claims have soared to Rs. 0.3 million in the first three months. The management hasdecided to revise the amount of provision to Rs. 0.5 million.

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d) The entity has recognized the provision against dismantling and site restoration for Rs. 0.25million. After the year end a new technology has been introduced, which has resulted inrevision in expected cash outflows relating to dismantling and site restoration, whichultimately changed the present value of provision to be recognized.

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Contd. on back

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Q.3. An entity has acquired an asset on lease on January 01, 2013. The terms of the lease are asunder: -

The fair value of the asset is Rs. 160,000. Initial direct cost incurred by the lessee is Rs.5,000. Term of the lease is 3 years. The lessee has the bargain purchase option at the end of the lease term but the price

will be determined at the end of the lease term. The economic life of the asset is 7 years. The amount of rental is Rs. 10,000 payable at the beginning of each quarter. The interest rate implicit in the lease is 4% per quarter.

Required:

a) Identify the kind of lease. 02

b) Determine the amount of expense for the year ended December 31, 2013. 05

Q.4. You have been recently hired in the Financial Reporting Department of Jeewan Limited (JL) alisted company and required to identify the related party relationship and prepare a note to theannual Financial Statements from the following information:a) Mr. Jamil is Chief Executive of JL and his wife is Managing Director of Kama Limited (KL).

During the year JL sold goods to KL amounting to Rs. 2.5 million and KL owes wholeamount at the year end.

b) During the year goods sold to Galaxy Limited (GL) amounting to Rs. 2.2 million. Themanaging director of GL is wife of the Chief Executive of LAL Limited (LL). LL issubsidiary company of JL.

c) A donation of Rs. 0.25 million paid to Life Line a charitable organization. The wife of one ofdirectors of JL is trustee of this Life Line.

d) Goods purchased from LL at arm’s length price amounting to Rs. 10 million. The wholeamount has been paid during the year and nothing is outstanding at the yearend.

e) JL has a joint venture with Millennium Limited (ML).

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Q.5. On 1st January 2013 an entity contracted for the construction of a building for Rs. 2 million onland that it had previously purchased. The building was completed at the end of December2013, and during the period the following payments were made to the contractor:

Payment Date Rs. (000)1st January 2013 200

31st March 2013 600

30th September 2013 1,000

31st December 2013 200

Total 2,000

The company borrowed specifically loan from National Bank Limited @ 15.5% pa. The fundshave been evenly invested in the project during the year. The unused funds can be invested @7.5% pa.

Required:

Calculate the borrowing cost eligible for capitalization 07

Contd….

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Q.6. Discuss the accounting of the following in the Financial Statements of an entity in the processof finalizing the Financial Statements for the year ended December 31, 2013.a) The entity has opening deferred tax liability of Rs. 19,425 calculated @ tax rate of 35%. The

deferred tax liability is net of un-used tax loss carried forward of Rs. 20,000. During thecurrent year the taxable income is Rs. 125,400 and taxable temporary differences haveincreased by Rs. 40,200 out of which Rs. 20,000 is due revaluation surplus of building. Thebuilding was revalued at the year end.Required:Calculate current and deferred tax expense for the year. 05

b) The entity has started the construction of its new factory during the year by raising loanthrough five year TFC’s issued to general public (1 million TFC’s of Rs. 100 each). Thecoupon rate on the loan was 12% but due to redemption premium the effective rate hasimproved to 13% pa. The excess funds can be invested in bank deposit account @ 5.5% pa.The loan was raised on March 01, 2013 but construction started on May 01, 2013. The interestearned in the months from March 01, to April 30, was Rs. 1.2 million and thereafter up toDecember 31, 2013 was Rs. 0.5 million. The project was suspended because of Governmentintervention for one month after commencement.Required:Calculate the amount of borrowing cost eligible for addition in cost of qualifying asset. 05

c) The entity has acquired an investment of 25% in an associate by issuing its own 200,000 sharesof Rs. 10 each to the shareholders of Investee Company. The fair value of one share ofInvestor Company is Rs. 25 each. The associated company’s fair value of net assets wasRs. 26.4 million. The associated company has earned a profit of Rs. 5.4 million after the dateof acquisition and paid dividend of Rs. 1.2 million to its shareholders.Required:Calculate the value of investment under equity method to be included in the ConsolidatedFinancial Statements.

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Q.7. Rahim Limited is a listed company having a Bio-Chemical Plant installed on leasehold landtaken from Government. The plant started production on January 01, 2012. The company wasrequired to dismantle the plant and landscape the affected area. However, the companyoverlooked the provision to be recognized. The present value of provision on January 01, 2012was Rs. 4.5 million at discount rate of 12%. The interest expense will be allowed on payment ofdismantling provision.

The income statement for the current year and for the previous year is as under:

2013 2012(Rs. 000) (Rs. 000)

Sales 72,200 52,400Cost of goods sold (60,800) (39,570)Gross profit 11,400 12,830Operating expenses (5,000) (3,830)Operating profit 6,400 9,000Tax expense (2,560) (1,920)Profit after tax 3,840 7,080

Retained profits at the beginning of 2012 were Rs. 15 million. The issued share capital of thecompany is Rs. 50 million divided into 5 million shares of Rs. 10 each at the beginning of thecurrent year. During the year a bonus issue using retained earnings was issued amounting toRs. 5 million. The tax rate has been 35% for all the years.

Required:

Show the Income Statement and Statement of Changes in Equity in comparative. 14

Contd. on back

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Q.8. HAQ Limited (HL) is a listed company and has held shares in SAJAWAL Limited (SL) sinceJuly 1, 2011. HL acquired 27 million shares in SL, when SL’s reserves were Rs. 25 million. Theacquisition was made by issuing three shares in HL for every five shares in SL. The marketprice of HL’s shares at July 1, 2011 was Rs. 18 per share and of SL’s shares was Rs. 12 pershare. A fair value exercise was carried out for SL’s assets and liabilities at the time of itsacquisition with the following results:

Book Value Fair ValueRs. in million Rs. in million

Land 170 200Machines 25 40Inventory 25 30

The remaining life of machine on acquisition was 5 years. The fair values of the assets have notbeen accounted for in HL’s Financial Statements and assets still exist on current reporting dateexcept inventory which have been completely sold within six months of the date of acquisition.The summarized Statements of Comprehensive Income for the year ended June 30, 2013 are asfollows:

HL SLRs. in million

Sales 18,750 13,500Cost of sales (5,670) (5,060)Gross profit 13,080 8,440Selling expenses (2,030) (2,010)Administrative expenses (1,630) (1,140)Interest expenses (310) (202)Other income 75 -Profit before tax 9,185 5,088Income tax (1,170) (1,235)

Profit for the period 8,015 3,853

The following relevant information is available:(i) The share capital and reserves as at July 1, 2012 were as follows:

HL SLRs. in million

Ordinary share capital of Rs. 10 each 1,000 300Reserves 6,660 130

The share capital of all companies have remained unchanged since their incorporation.(ii) During the year, SL sold goods amounting to Rs. 200 million to HL. The sales were made at

a margin of 25% on sales price. 50% of the goods remained unsold at June 30, 2013.(iii) All assets are depreciated on straight line method.

(iv) Other income includes dividend received from SL on April 15, 2013. The dividend declaredby SL is 20% of share capital.

(v) HL has the policy of measuring NCI at fair value.(vi) An impairment test was carried out on June 30, 2013 on goodwill and goodwill has impaired

by 20%. The impairment expense is charged to cost of sales.

Required:

a) Calculate goodwill arising at the date of acquisition 05

b) Prepare, in a format suitable for inclusion in the Annual Report, a Consolidated Statementof Comprehensive Income for the year ended June 30, 2013

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