ACCA-Financial Reporting (FR)-Teaching Slides.pptx

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ACCA FR
Financial Reporting
For exams in September 2018,
December 2018, March 2019 and June 2019

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Case study
Syllabus
Technical content
Question to consider
Answer
Past exam question
Answer to past exam
question
Real world example
Diagram
Key model
Tackling the exam
Summary
Key to icons

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Exam Format from September 2018
Section Marks Question Type
A 30 15 objective test questions worth two marks
each.
B 30
15 objective test questions worth two marks
each arranged around three scenarios
C 40
Two constructed response (written) questions
worth 20 marks each – can be financial
statement preparation or interpretation

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Paper-based and CBE exams
ACCA began to transition PM–FM (formerly F5-F9) to computer
based examination (CBE), beginning with a pilot in limited markets in
September 2016. Students initially have the choice of CBE or paper
exams.
In the CBE exams the two-mark questions in Sections A and B are
objective testing question (OTQ) format. OTQs include a wider
variety of questions types including MCQ as well as number entry,
multiple response and drag and drop. More information on these
question types is available on the ACCA website.
http://www.accaglobal.com/content/dam/ACCA_Global/Students/exa
m/Guide%20to%20CBEs_FINAL.PDF

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Syllabus 1
The FR syllabus sections are as follows.
A The conceptual and regulatory framework for financial reporting
1. The need for a conceptual framework and the characteristics of
useful information
2. Recognition and measurement
3. Regulatory framework
4. The concepts and principles of groups and consolidated financial
statements

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Syllabus 2
B Accounting for transactions in financial statements
1. Tangible non-current assets
2. Intangible assets
3. Impairment of assets
4. Inventory and biological assets
5. Financial instruments
6. Leasing
7. Provisions and events after the reporting period
8. Taxation
9. Reporting financial performance
10. Revenue
11. Government grants
12. Foreign currency transactions

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Syllabus 3
C Analysing and interpreting financial statements
1. Limitations of financial statements
2. Calculation and interpretation of accounting ratios and trends to
address users' and stakeholders' needs
3. Limitations of interpretation techniques
4. Specialised, not-for-profit and public sector entities

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Syllabus 4
D Preparation of financial statements
1. Preparation of single entity financial statements
2. Preparation of consolidated financial statements including an
associate

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Tackling the exam
The FR exam comprises 15 2-mark objective test questions,
three scenarios comprising 5 2-mark objective test questions
each and two 20-mark constructed response (written)
questions.
In the computer-based exam the 2-mark questions are OTQs.
All questions are compulsory, so there is no need to spend
time working out which questions to answer.
Go carefully through the 20-mark written questions, and
highlight the important points. Pay particular attention to dates
– especially acquisition and disposal dates – and work out
shareholdings if they have not been given to you.

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Tackling the exam
It is probably a good idea to begin with the MCQs. If there are
any to which you absolutely don't know the answer – guess.
You have a 25% chance of being right and you are not
penalised for incorrect answers.
For accounts preparation questions start by writing down the
format – you need to be able to write these from memory.
Make sure you remember to include lines relating to
associates or discontinued operations, if these apply.

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Tackling the exam
Paper-based exams
Your workings must be legible and cross-referenced. If you
have arrived at the wrong figure but used the correct method,
the marker can give you credit for using the correct method – if
they can understand your working.
Computer-based exams
You will need to show your workings (either as formula or by
writing out your workings on the worksheet provided on the
screen).
You will have rough working paper – but this is NOT submitted
so ensure your workings are visible on the online response
form.

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Tackling the exam
If the amount you end up with is wrong and your workings are
illegible or indecipherable – or non-existent – you won't get any
marks.
As you do each working, transfer the amounts to the format.
Students sometimes forget to do this, which is a waste of all
that work.
If you are preparing a statement of profit or loss or statement
of profit or loss and other comprehensive income, you need to
arrive at final profit for the year, because you may need to
allocate some of it to the non-controlling interest, for which
there are marks available.
If you are doing a statement of cash flows, you need to total it
down to get to the reconciliation of cash and cash equivalents
b/f and c/f, for which there are marks available.

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Tackling the exam
However, in a statement of financial position there are no
marks available for adding up the two sections. You can spend
time in the exam doing this just to see if it balances (it won't)
and then spend more time worrying about where the difference
comes from and scrabbling back through your workings
looking for it. This is not a good idea. Leave it and move on.
Come back to it if you have time at the end.
There is likely to be a question on analysis of financial
statements. These are often badly answered. It is important to
read the information carefully, preferably twice, and be really
clear about what the question is asking. You are not being
tested on your ability to work out lots of ratios and if you
produce any that are not relevant you will get no marks for
them.

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Tackling the exam
Having produced a few, relevant ratios, you then have to say
something intelligent about them. The examining team does
not want to be told that they have gone up or gone down. They
can see that. They also do not want information that they have
provided in the question fed back as your answer.
What you need to do is look for how the information in the
question – perhaps an acquisition or disposal or a
restructuring, or even a major investment in non-current assets
– will have impacted the financial situation and how that is
reflected in the ratios. So spend some time thinking about this.
One page of proper, reasoned argument will earn you more
marks than six pages of everything you know about ratios.

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September 2016 Specimen exam
Paper-based exam:
http://www.accaglobal.com/content/dam/acca/global/PDF-
students/acca/f7/specimen/f7_specimen_s16.pdf
CBE-based exam:
http://www.accaglobal.com/gb/en/student/exam-support-
resources/fundamentals-exams-study-resources/f7/cbe-
specimen-exams.html
If you are taking the CBE based exam, do ensure you
have attempted the online specimen (CBE) version.

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Chapter 1
The conceptual
framework
• Conceptual framework and GAAP
• The IASB's Conceptual Framework
• The objective of general purpose
financial reporting
• Underlying assumption
• Qualitative characteristics of financial
information
• The elements of financial statements
• Recognition and measurement of the
elements of financial statements
• Fair presentation and compliance with
IFRS

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Syllabus learning outcomes 1
The need for a conceptual framework and the characteristics
of useful information
• Describe what is meant by a conceptual framework for financial
reporting
• Discuss whether a conceptual framework is necessary and what an
alternative system might be
• Discuss what is meant by relevance and faithful representation and
describe the qualities that enhance these characteristics
• Discuss whether faithful representation constitutes more than
compliance with accounting standards
• Discuss what is meant by understandability and verifiability in relation
to the provision of financial information
• Discuss the importance of comparability and timeliness to users of
financial statements

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Recognition and measurement
• Define what is meant by 'recognition' in financial statements and
discuss the recognition criteria.
• Apply the recognition criteria to
i. assets and liabilities
ii. income and expenses
• Explain and compute amounts using the following measures:
i. Historical cost
i. Current cost
ii. Net realisable value
iii. Present value of future cash flows
iv. Fair value

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Chapter summary diagram
Need for a
conceptual
framework
Generally accepted
accounting practice
(GAAP)
True and fair view
Advantages and
disadvantages
The IASB's conceptual
framework
Conceptual framework and
GAAP
The conceptual framework

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Conceptual Framework and GAAP 1
What is a conceptual framework?
• A statement of generally accepted theoretical principles
which form a frame of reference for financial reporting.
• These provide a basis for developing new accounting
standards and a platform to evaluate those already in
existence.
Users and their information needs
Users of accounting information consist of:
• Investors
• Lenders and creditors
• Customers

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Scope of Conceptual Framework
The Conceptual Framework deals with:
(a) The objective of financial statements
(b) The qualitative characteristics that determine the
usefulness of information in financial statements
(c) The definition, recognition and measurement of the
elements from which financial statements are constructed
(d) Concepts of capital and capital maintenance---states that a
profit should not be recognized unless a business has at least
maintained the amount of its net assets during an accounting period.
Stated differently, this means that profit is essentially the increase
in net assets during a period.

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Advantages of a conceptual framework
• Having a consistent conceptual base should avoid
contradictions and inconsistencies in basic concepts
and so produce standardised consistent accounting
practices.
• The development of standards is less subject to
political pressure.
• A consistent statement of financial position driven or
profit or loss driven approach is used.

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Disadvantages of a conceptual framework
• Financial statements have many users all with differing
needs:
– A single framework cannot satisfy the needs of all
users.
– There may be a need for a variety of accounting
standards, each produced for a different purpose
with different conceptual bases.
• Having a conceptual framework may not make it any
easier to prepare accounting standards.

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Generally accepted accounting practice (GAAP)
• Comprises the rules, from all sources, which govern accounting
• The major components include:
– National accounting standards, for example those prepared by
the Financial Accounting Standards Board (FASB) in the USA
– National company law, for example the Companies Act in the
UK
– Local stock exchange requirements
– Regional bodies, such as the European Union. For example, an
Accounting Directive issued by the EU requires companies
listed on an EU stock exchange to prepare their consolidated
financial statements using IFRSs.

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The IASB's Conceptual Framework 1
• Published in September 2010 to update the IASB
Framework for the preparation and presentation of
financial statements which was issued in 1989
• Joint project by the IASB and FASB to be completed in
two phases

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• Currently comprises four chapters:
– Chapters 1 & 3 are from the new Conceptual
Framework for Financial Reporting. Published
September 2010.
– Chapter 4 consists of the parts of the former 1989
Framework which will be updated in Phase 2 of the
project.

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• Chapter 1
– The objective of general purpose financial reporting
• Chapter 2
– The reporting entity (still to be issued)
• Chapter 3
– Qualitative characteristics of useful financial
information

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• Chapter 4
– Remaining text of the 1989 Framework
– Underlying assumption
– The elements of financial statements
– Recognition of the elements of financial statements
– Measurement of the elements of financial statements
– Concepts of capital and capital maintenance

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In September 2017, it was announced that the IASB
expected to publish a revised Conceptual Framework in
early 2018 following feedback from the Exposure Draft:
The Conceptual Framework for Financial Reporting.
• Revisions to the definitions of elements in the
• Guidance on derecognition
• Discussions on measurement bases
• Principles for including items in other comprehensive
income

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The objective of general purpose financial reporting 1
Objective of general purpose financial reporting
• The economic resources of the entity
• The claims against the entity
• Changes in the entity's economic resources and claims
Such decisions are likely to include:
• Decisions to buy, hold or sell equity investments
• Assessment of management stewardship and accountability
• Assessment of the entity's ability to pay employees
• Assessment of the security of amounts lent to the entity

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The objective of general purpose financial reporting 2
Basis of preparation
This information should be prepared on an accruals basis.
Accruals basis: The effects of transactions and other
events are recognised when they occur (and not as
cash or its equivalent is received or paid) and they are
recorded in the accounting records and reported in the
financial statements of the periods to which they relate.

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Underlying assumption
Underlying assumption
• Going concern:
The financial statements are normally prepared on
the assumption that the entity is a going concern
and will continue to trade for the foreseeable
future.
• It is assumed that the entity has neither the intention
not the need to liquidate the business or curtail major
operations.
• If it did the financial statements would be prepared on a
different basis and this basis would be disclosed.

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Qualitative characteristics of financial information 1
Qualitative characteristics of useful financial information
• These describe the attributes that information needs to
have in order for it to be most useful for existing and
potential investors, lenders and other creditors for making
decisions about the reporting entity.
• They are divided into two categories:
– Fundamental qualitative characteristics
– Enhancing qualitative characteristics

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Fundamental qualitative characteristics
Relevance Faithful representation
Relevant financial information is
capable of making a difference in the
decisions made by users, ie if it has:
• Predictive value; and/or
• Confirmatory value.
Information is material if omitting it
or misstating it could influence
decisions that users make on the
basis of financial information.
To be useful, financial information
must faithfully represent the
phenomena it purports to
represent.
A perfect faithful representation
would be:
• Complete
• Neutral
• Free from error
Materiality

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Comparability
Information is more
useful if it can be
compared with similar
information about:
• Other entities; and
• Other periods.
Consistency helps
achieve comparability.
Enhancing qualitative characteristics
Verifiability Timeliness Understandability
Assures users that
information faithfully
represents the
economic phenomena
it purports to represent
Verification can be
direct or indirect
Having information
available to
decision-makers in
time to be capable
of influencing their
decisions
Classifying,
characterising and
presenting
information clearly
and concisely

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The elements of financial statements 1
The elements of financial statements
• An item can only be recognised in the financial
statements if it can be defined as one of the following
elements:
• Asset
• Liability
• Equity
• Income
• Expense

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ASSET A resource controlled by an entity as a result of past
events and from which future economic benefits are
expected to flow to the entity
LIABILITY A present obligation of the entity arising from past
events, the settlement of which is expected to result in
an outflow of resources embodying economic benefits
EQUITY The residual interest in the assets of an entity after
deducting its liabilities

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INCOME Increases in economic benefits during the period other
than contributions from equity participants
EXPENSE Decreases in economic benefits during the period
other than distributions to equity participants

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Recognition and measurement 1
Recognition of the elements of financial statements
• Recognition is the process of recording or showing an
item in the financial statements.
• An item can only be recognised in the financial statements
when it satisfies the recognition criteria.

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Recognition of the elements of financial statements
• Recognition criteria:
– An item meets the definition of an element of the
financial statements,
– It is probable that any future economic benefit
associated with the item will flow to or from the entity;
and
– The item has a cost or value that can be measured with
reliability.

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Case study: Footballers 1
Are transfer fees paid for footballers an asset?

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Are the recognition criteria satisfied?
• Firstly, is there an asset?
– Control
– Past event
– Expected generation of future economic benefit

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Asset?
• Control: the football club has purchased the right to
use the player for match fixtures/training and
merchandising (player rights)
• Past event: the transaction to purchase the player
• Future economic benefits

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What are the future economic benefits?

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• Asset?
– Yes, an intangible asset
• Secondly, is there probable future economic benefit?
– Yes as discussed above
• Thirdly, can the amount be measured with reliability?
– Fee paid → yes
• Capitalise the transfer fee paid as an intangible non-
current asset

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Measurement of the elements of financial statements
• The process of determining the monetary amounts at
which the elements of the financial statements are to be
recognised and carried in the statement of financial
position and the statement of profit or loss
• There are four choices available:
– Historical cost
– Realisable value
– Current cost
– Present value

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Measurement
basis
Definition
Historical cost Assets are recorded at the amount of cash or
cash equivalents paid or the fair value of the
consideration given to acquire them at the time of
their acquisition.
Liabilities are recorded at the amount of proceeds
received in exchange for the obligation.
Realisable value The amount of cash or cash equivalents that
could currently be obtained by selling an asset in
an orderly disposal.

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Measurement
basis
Definition
Current cost Assets are recorded at the amount of cash or
cash equivalents that would have to be paid if the
same or an equivalent asset was acquired at the
current time.
Liabilities are carried at the undiscounted amount
of cash or cash equivalents that would be
required to settle the obligation at the current
time.
Present value A current estimate of the present discounted value
of the future net cash flows in the normal course
of business.

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Fair presentation and compliance with IFRS 1
• Financial statements should present fairly the financial position,
financial performance and cash flows of an entity.
• It is presumed that this fair presentation will be achieved where
an entity complies with both the Conceptual Framework and
IFRSs.
• Fair presentation also requires an entity to:
– Select and apply appropriate accounting policies
– Present information in a manner that provides relevance
information and which is a faithful representation
– Provide additional disclosures where further information is
required to enable users to understand the impact of
transactions

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Tackling the exam 1
It is likely that this area of the syllabus will be tested as part
of the Section A and Section B OTQ questions.
An example may test knowledge as follows:
Question
The Conceptual Framework identifies an UNDERLYING
ASSUMPTION in preparing financial statements. This is:
A Going concern
B Materiality
C Substance over form
D Accruals

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Tackling the exam 2
Answer
The Conceptual Framework identifies an UNDERLYING
ASSUMPTION in preparing financial statements. This is:
A Going concern
B Materiality
C Substance over form
D Accruals
The underlying assumption is going concern.

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Tackling the exam 3
An example may test application as follows:
Question
Which of the following would be classified as a liability?
A Alpha Co's business manufactures a product under licence. In 12
months' time the licence expires and Alpha Co will have to pay
$50,000 for it to be renewed.
B Bravo Co purchased an investment 9 months ago for $120,000.
The market for these investments has now fallen and Bravo Co’s
investment is valued at $90,000.
C Charlie Co has estimated the tax charge on its profits for the year
just ended as $165,000.
D Delta Co is planning to invest in a new warehouse and has been
quoted a price of $1,570,000

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Tackling the exam 4
Answer
Which of the following would be classified as a liability?
A Alpha Co's business manufactures a product under licence. In 12
months' time the licence expires and Alpha Co will have to pay
$50,000 for it to be renewed.
B Bravo Co purchased an investment 9 months ago for $120,000.
The market for these investments has now fallen and Bravo Co’s
investment is valued at $90,000.
C Charlie Co has estimated the tax charge on its profits for the year
just ended as $165,000.
D Delta Co is planning to invest in a new warehouse and has been
quoted a price of $1,570,000
C is the only valid liability as A may be avoided by stopping
production. B is a loss chargeable to the P&L. D is only planned
expenditure and not an obligation.

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Chapter 2
The regulatory
framework
• The need for a regulatory
framework
• The International Accounting
Standards Board (IASB)
• Setting of International Financial
Reporting Standards (IFRS)

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• Explain why a regulatory framework is needed, including
the advantages and disadvantages of IFRS over a national
regulatory framework.
• Explain why accounting standards on their own are not a
complete regulatory framework.
• Distinguish between a principles based and a rules based
framework and discuss whether they can be
complementary.

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• Describe the IASB's Standard setting process including
revisions to and interpretations of Standards.
• Explain the relationship of national standard setters to the
IASB in respect of the standard setting process.

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Principles-
based versus
rules-based
approach
The IASB's
relationship with
other standard
setters
The IASB
The regulatory framework
The IASB's
structure
The standard
setting process
The need for a
regulatory
framework

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The need for a regulatory framework 1
• A regulatory framework is required for two main
reasons:
– To act as a central source of reference of generally
accepted accounting practice (GAAP) in a given
market
– To designate a system of enforcement of that GAAP
to ensure consistency between companies
• Its aim is to narrow the areas of difference and choice
in financial reporting and to improve comparability.

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Principles-based vs rules-based systems
• A principles-based system works within a set of laid
down principles.
• International Financial Reporting Standards use a
principles-based system: they are written based on the
definitions of the elements of financial statements and
the recognition and measurement principles as detailed
in the Conceptual Framework for Financial Reporting.
• These principles are designed to cover a wide range of
scenarios without the need for a set of rules which
govern every eventuality.

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Principles-based vs rules-based systems (continued)
• A rules-based system regulates for issues as they
arise, this means that accounting standards contain
rules which apply to specific scenarios.
• US GAAP has historically used a rules-based system
however many of the recent corporate accounting
scandals have arisen as a direct result of companies
acting in a way that avoids rules.
• Consequently the US is moving towards a more
principles-based system.

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There are both advantages and disadvantages of a
principles vs rules-based system:
• Advantages:
– A principles-based approach on a single conceptual
framework ensures that standards are consistent with
each other.
– Rules can be broken and 'loopholes' found whereas
principles are more likely to offer a 'catch all' scenario.
– Principles reduce the need for excessive detail in
standards.
• Disadvantages:
– Principles can become out of date and can be overly
flexible and therefore subject to manipulation.

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The IASB
• The International Accounting Standards Board (IASB) is an
independent accounting standard setter established in 2001.
• It has three formal objectives:
– To develop, in the public interest, a single set of high
quality, understandable and enforceable global accounting
standards that require high quality, transparent and
comparable information in general purpose financial
statements
– To promote the use and vigorous application of those
standards
– To work actively with national accounting standard setters
to bring about convergence of national accounting
standards and IFRS to high quality solutions

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Setting of IFRS (1)
Below are the key steps in the process used to issue an International Financial
Reporting Standard.
IASB staff prepare an issues paper including studying the
approach of national standards setters.
The IFRS Advisory Council is consulted about the
advisability of adding the topic to the IASB's agenda.
A Discussion Paper may be published for public
comment.
An Exposure Draft is published for public comment.
After considering all comments received, and IFRS is
approved by a majority of the IASB. The final standard
includes both a basis for conclusions and any dissenting
opinions.
Issues Paper
Discussion Paper
Exposure Draft
International
Financial Reporting
Standard

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Setting of IFRS (2)
• For the IASB to achieve its objective in relation to the
harmonisation of accounting standards it is important
that it works closely with other national standard setters.
• The IASB is trying to co-ordinate its work plan with
national standard setters such that when it adds an item
to its agenda that national standard setters do the same
thing so that a standard can be agreed which has
international consensus.
• There are also plans to review all standards where there
are significant differences between IFRS and national
standards.

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Setting of IFRS (3)
Current standards examinable in the FR exam are:
• IAS 1 (revised)
• IAS 2
• IAS 7
• IAS 8
• IAS 10
• IAS 12
• IAS 16
• IAS 20

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Setting of IFRS (4)
• IAS 21
• IAS 23
• IAS 27 (revised)
• IAS 28
• IAS 32
• IAS 33
• IAS 36
• IAS 37
• IAS 38

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Setting of IFRS (5)
• IAS 40
• IAS 41
• IFRS 3 (revised)
• IFRS 5
• IFRS 7
• IFRS 9
• IFRS 10
• IFRS 13
• IFRS 15
• IFRS 16

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Tackling the exam
• It is likely that this area of the syllabus will be tested as
part of the Section A and Section B OTQ questions.
• Ensure that you understand the process of how new
standards are issued and you are familiar with the process
and aims of the IASB.

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Chapter 3
Tangible non-current
assets
• IAS 16 Property, plant and
equipment
• Depreciation accounting
• IAS 40 Investment property
• IAS 23 Borrowing costs

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• Define and compute the initial measurement of a non-
current asset (including borrowing costs and an asset that
has been self-constructed).
• Identify subsequent expenditure that may be capitalised,
distinguishing between capital and revenue items.
• Discuss the requirements of relevant accounting standards
in relation to the revaluation of non-current assets.
• Account for revaluation and disposal gains and losses for
non-current assets.

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• Compute depreciation based on the cost and revaluation
models and on assets that have two or more significant
parts (complex assets).
• Discuss why the treatment of investment properties should
differ from other properties.
• Apply the requirements of relevant accounting standards
to an investment property.

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Measurement
at recognition
Borrowing costs
(IAS 23)
Investment property
(IAS 40)
Measurement
after recognition
Depreciation Disclosure note
Tangible non-current assets
Recognition
Definition
Property, plant and
equipment (IAS 16)

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IAS 16 Property, plant and equipment 1
Definition
Property, plant and equipment are tangible items that:
• Are held by an entity for use in the production or supply
of goods or services, for rental to others, or for
administrative purposes
• Are expected to be used during more than one period

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Recognition
Property, plant and equipment should be recognised once
the recognition criteria from the Conceptual Framework
have been met:
• It is probable that future economic benefits that are
attributable to the asset will flow to the entity
• The cost of the asset can be reliably measured

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Initial measurement at recognition
Initially recognise at cost.
Cost includes:
• Purchase price – including import duties and non-
refundable purchase taxes less trade discounts and
rebates
• Directly attributable costs:
– Cost of site preparation
– Initial delivery and handling costs
– Installations and assembly costs
– Costs of testing
– Professional fees

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Initial measurement at recognition (continued)
Cost includes (continued):
• Estimated cost of dismantling/removing the item
(IAS 37)
• Finance costs (IAS 23)

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Subsequent expenditure
• Capitalise as a non-current asset if the asset
recognition criteria are met
• Consider:
– Complex assets – assets which are made up of
separate components
– Assets requiring overhauls

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Subsequent expenditure (continued)
• Examples:
– Furnace
– Aircraft
• Treat each component separately for depreciation
purposes and capitalise the costs when they are
replaced/overhauled

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• Eg airframe, depreciate over 20 years
• Eg seating, depreciate over 8 years
• Eg engines, depreciate over 6 years

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Subsequent expenditure (continued)
• Where subsequent expenditure does not meet the
asset recognition criteria the expenditure should be
included as part of the profit or loss for the period.
• Recognise as an expense

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Measurement after recognition
• Choice of accounting treatment, the entity can either
maintain the asset at cost or revalue it to fair value.
• Cost model:
– Property, plant and equipment is carried in the
financial statements at cost less accumulated
depreciation and impairment losses.

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Measurement after recognition (continued)
• Revaluation model:
– Property, plant and equipment is carried in the
financial statements at fair value less accumulated
depreciation and impairment losses.
– Fair value is 'the price that would be received to sell
an asset or paid to transfer a liability in an orderly
transaction between market participants at the market
date'.

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What is the fair value of an asset?
• Land and buildings  market value where the valuation
is usually carried out by a professionally qualified valuer
• Plant and equipment  market value
• Specialised assets  depreciated replacement cost if
the market value is not available…..('that is rarely, if
ever, sold in the market except by way of a sale of
the business or entity of which it is part, due to
uniqueness arising from its specialized nature and
design, its configuration, size, location, or
otherwise‘)

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Revaluations
• Where an item of property, plant and equipment is
revalued the whole class of assets to which it belongs
should be revalued.
• Revaluations should be performed sufficiently often so
that the carrying amount of the asset is not materially
different from the fair value of the asset.
• Where an asset has increased in value, the revaluation
gain is reported in other comprehensive income and in
the revaluation surplus in the statement of financial
position unless the gain reverses a previous revaluation
loss which was charged to profit or loss.

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Revaluations (continued)
• A revaluation loss is charged first to other
comprehensive income (and the revaluation surplus)
with any excess reported in profit or loss.
• Where an asset is revalued depreciation is charged on
the revalued amount.
• If the asset has been revalued upwards the depreciation
charge will be higher than before the revaluation.
• The excess depreciation can be transferred to retained
earnings from the revaluation surplus.
• This adjustment will be shown in the statement of
changes in equity.

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Question: Xavier
Xavier has a year end of 30 September and purchased a piece of
production equipment on 1 July 20X5 incurring the following costs.
$
List price of machine 8,550
Trade discount (855)
Delivery costs 105
Set-up costs incurred internally 356
8,156

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Question: Xavier (continued)
Notes
1 The machine was expected to have a useful life of 12 years and a
residual value of $2,000.
2 Xavier's accounting policy is to charge a full year's depreciation in the
year of purchase and no depreciation is the year of retirement or sale.
3 Xavier has a policy of keeping all equipment at revalued amounts. No
revaluations had been necessary until 30 September 20X8 when one
of the major suppliers of such machines went bankrupt causing a rise
in prices. A specific market value for Xavier's machine was not
available, but an equivalent machine would now cost $15,200
(including relevant disbursements). Xavier treats revaluation
surpluses as being realised through use of the asset and transfers
them to retained earnings over the life of the asset. The remaining
useful life and residual value of the machine remained the same.

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Question: Xavier (continued)
Required
Show the accounting effect of the above transaction at 30 September
20X5, 20X8 and 20X9.

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Answer: Xavier
At 30 September 20X5
Plant and equipment $
Cost (8,550 – 855 + 105 + 356) 8,156
Accumulated depreciation (8,156 – 2,000) / 12 years (513)
7,643
Revalued amount (W1) 10,800
Accumulated depreciation 0
10,800
Equity
Revaluation surplus (10,800 (W1) – 6,104 (W2)) 4,696

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Answer: Xavier (continued)
Working 1
Revalued amount (depreciated replacement cost) $
Gross replacement cost 15,200
Depreciation (15,200 – 2,000) × 4/12 (4,400)
10,800
Working 2
Carrying amount before revaluation $
Cost 8,156
Accumulated depreciation (8,156 – 2,000) × 4/12 (2,052)
6,104

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Answer: Xavier (continued)
Revalued amount 10,800
Accumulated depreciation (10,800 – 2,000) / 8 years (1,100)
9,700
Equity
Revaluation surplus (4,696 – (4,696 / 8 years)) 4,109

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Depreciation accounting 1
Definition
• The systematic allocation of the depreciable amount of
an asset over its estimated useful life
• Where the depreciable amount of an asset is its
historical cost (or other amount) less the estimated
residual value
• Where the useful life is the period over which a
depreciable asset is expected to be used by the entity or
the number of production or similar units expected to be
obtained from the asset by the entity

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Depreciation accounting 2
Definition (continued)
• The useful life, residual value and depreciation method
must be reviewed at least each financial year end and
adjusted where necessary.
• The need for depreciation of non-current assets arises
from the accruals assumption. If money is expended in
purchasing an asset then the amount expended must at
some time be charged against profits. If the asset is
one which contributes to an entity's revenue over a
number of accounting periods, it would be inappropriate
to charge any single period with the whole of the
expenditure.

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IAS 40 Investment property 1
Definition
• Property (land or buildings – or part of a building – or
both) held (by the owner or by the lessee as a right-of-
use asset) to earn rentals or for capital appreciation or
both, rather than for:
– Use in the production or supply of goods or services
or for administrative purposes(IAS 2); or
– Sale in the ordinary course of business(IAS 2).

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Recognition
• An investment property is recognised when and only
when:
– It is probable that the future economic benefits
associated with the investment property will flow to
the entity
– The cost of the investment property can be measured
reliably

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Measurement at recognition
• The investment property is initially recognised at cost.
• Cost comprises:
– Purchase price plus
– Any directly attributable expenditure (for example
professional fees)
• For self-constructed investment properties, cost is the
cost at the date when the construction/development is
complete.
• An investment property held by a lessee as a right-of-
use asset must be measured initially in accordance with
IFRS 16 Leases.

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There is a choice of accounting policy which must be
applied to all investment properties held by the entity.
• Cost model:
– The investment property is carried in the financial
statements at cost less accumulated depreciation and
impairment losses, ie it is treated as a non-current
asset under IAS 16.

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Measurement after recognition (continued)
• Fair value model:
– The investment property is measured at fair value at
the end of each reporting period.
– Any gain or loss on remeasurement is included in
profit or loss for the period.
– The investment property is not depreciated.

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Question: Propex Co
Propex Co has the following properties but is unsure how to account
for them:
(1) Tennant House cost $150,000 five years ago. The property is
freehold and is let out to private individuals for six monthly
periods. The current market value of the property is $175,000.
(2) Stowe Place cost $75,000. This is used by Propex Co as its
headquarters. The building was acquired ten years ago.
(3) Crocket Square is a recently started development which is two
thirds complete. Propex Co intends to let this out to a company
called Speedex Co in which it has a controlling interest.
Propex Co depreciates its buildings at 2% per annum on cost.
Required
Describe the most appropriate accounting treatment for each of these
properties.

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Answer: Propex Co
(1) Tennant House
• Held for its investment potential and not for use by Propex Co
• Treat as investment property in accordance with IAS 40
• Rental income to profit or loss
• If following fair value model – revalue to market value of
$175,000. The difference of $25,000 credited to profit or loss
• If following cost model – depreciate based on cost and do not
revalue. Depreciation for current period is $3,000 and carrying
amount is $135,000 (150,000 – (5  3,000))
• Need to be consistent and use either fair value or cost model
for all investment properties

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Answer: Propex Co (continued)
(2) Stowe Place
• Held for use by Propex Co therefore cannot be an investment
property
• Depreciate over useful life $75,000  2% = $1,500 per annum
– charge as an expense to profit or loss
• Carrying amount of $75,000 – ($1,500  10) = $60,000 to be
shown in statement of financial position

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Answer: Propex Co (continued)
(3) Crocket Square
• Not yet complete so accounting treatment relates to the cost
incurred to date.
• Propex Co does not wish to sell the property so no need to treat it as
inventories or work in progress.
• Costs should be capitalised and disclosed under 'Assets in course of
construction' until construction is complete.
• Intention to rent the property out to a group company and so will not
be treated as an investment property in the group financial
statements as it is owner-occupied. However, in the separate
financial statements of Propex Co the property can be classified as
investment property when construction is complete.
• In the group financial statements, it will be depreciated as soon as it
comes into use. This will also apply in Propex Co's separate
financial statements if the cost model of IAS 40 is used.

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IAS 23 Borrowing costs 1
Definition
• Borrowing costs:
– Interest and other costs incurred by an entity in
connection with the borrowing of funds
• Qualifying asset:
– An asset that necessarily takes a substantial period of
time to get ready for its intended use or sale
Accounting treatment
• Borrowing costs that directly relate to the acquisition,
construction or production of a qualifying asset must be
capitalised as part of the cost of that asset.

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Types of borrowing costs
• Funds borrowed specifically:
– Capitalise actual borrowing costs incurred less
investment income on temporary investment of funds
• Funds borrowed generally:
– Capitalise borrowing costs calculated as the weighted
average cost of borrowings for the period multiplied
by the expenditure on the qualifying asset
– Note that the amount capitalised should not exceed
total borrowing costs incurred in the period

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Commencement of capitalisation
• Capitalisation of borrowing costs should begin when:
– Expenditures for the asset are being incurred
– Borrowing costs are being incurred
– Activities that are necessary to prepare the asset for
its intended use or sale are in progress

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Suspension and cessation of capitalisation
• Capitalisation of borrowing costs should be suspended
during extended periods when development is
interrupted. For example due to workforce strikes or
inclement weather..(abnormal climatic conditions
including, but not limited to, hail, cold, high winds,
severe dust storms, extreme high temperatures or
any combination).
• Capitalisation of borrowing costs should cease when
substantially all of the activities necessary to prepare the
qualifying asset for its intended use or sale are
complete.
• This is likely to be when the asset is ready for use (even
if it is not being used).

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Exam questions
Nature of question Exam details
Adjustments relating to property, plant and equipment
are frequently examined in the financial statement
preparation question. These may involve:
• Adjustments for depreciation
• Revaluations
• Acquisitions and disposals
Dec 2013 – revaluation
of NCA (as part of
SOFP presentation)
Jun 2012 – revaluation
(as part of SOFP
presentation)
Under the new format there could also be
MCQs/OTQs on PPE – both on knowledge and
application.

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Past exam question (March 2017)
An entity has decided to adopt the revaluation model for the first time
from 31 December 20X6. At that date, details relating to two
properties were as follows:
What is the total gain to be recorded in the revaluation surplus as at 31
December 20X6?
A $0
B $225,000
C $375,000
D $600,000
Asset as at 31.12.X6 Carrying amount
($’000)
Fair value
($’000)
Head office 10,200 10,800
Factory 7,875 7,500

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Past exam answer (March 2017)
What is the total gain to be recorded in the revaluation surplus as at 31
December 20X6?
A $0
B $225,000
C $375,000
D $600,000
A revaluation deficit should be recognised in the statement of
profit or loss, unless the asset has been revalued upwards before
which, in this case, it has not.

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Chapter 4
Intangible assets
• IAS 38 Intangible assets
• Research and development costs
• Goodwill (IFRS 3)

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• Discuss the nature and accounting treatment of internally
generated and purchased intangibles.
• Distinguish between goodwill and other intangibles.
• Describe the criteria for the initial recognition and
measurement of intangible assets.
• Describe the subsequent accounting treatment, including
the principle of impairment tests in relation to goodwill.

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• Indicate why the value of purchase consideration for an
investment may be less than the value of the acquired
identifiable net assets and how the difference should be
accounted for.
• Describe and apply the requirements of relevant
accounting standards to research and development
expenditure.

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Definition
Recognition
Disclosure note
Amortisation/impairment
tests
Finite useful life Indefinite
useful life
Cost model Revaluation model
Measurement at
recognition
Internally
generated
intangibles
Internally
generated
goodwill
Acquired as part
of a business
combination
Separate
acquisition
Intangible assets

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IAS 38 Intangible assets 1
Definition
• An identifiable non-monetary asset without physical
substance
• Examples:
– Patents
– Copyrights
– Brands
– Goodwill

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Recognition
An intangible asset should be recognised when the
recognition criteria from the Conceptual Framework are
met:
• It is probable that future economic benefit from the
asset will flow to the entity.
• The cost of the asset can be reliably measured.

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Measurement at recognition
Depends on how the intangible was acquired:
Cost Fair value
(IFRS 3)
NOT
recognised
Only
recognised
if PIRATE
criteria met
Asset/grant @
FV
or
Nominal
amount + direct
expenditure
Separate
acquisition
Acquired as
part of
business
combination
Internally
generated
goodwill
Internally
generated
intangible
assets
Acquired by
government
grant

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Research and development costs 1
Research definition
• Costs incurred to gain new scientific or technical
knowledge and understanding
• No certainty of future economic benefit
• Recognise as an expense in profit or loss as incurred

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Development costs definition
• Application of research findings to a plan/design for the
production of new or substantially improved materials,
products or processes prior to commercial production
or use
• Expenditure incurred now will lead to future
revenues/benefits
• Capitalise expenditure as an intangible non-current
asset if all IAS 38 criteria are met

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Capitalisation criteria
• All six criteria must be met:
– P robable future economic benefits
– I ntention to compete and use/sell the asset
– R esources adequate and available to complete and use/
sell asset
– A bility to use/sell asset
– T echnical feasibility of completing asset for use/sale
– E xpenditure can be reliably measured
• Should any of the criteria not be met, the expenditure must
be treated as an expense.

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• Expenditure on internally generated brands,
mastheads, publishing titles, customer lists and similar
items should be treated as an expense because they
cannot be distinguished from the cost of developing the
business as a whole.
• Start-up, training, advertising, promotional, relocation
and reorganisation costs are all recognised as
expenses as they relate to ongoing business costs.

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• Choice of accounting policy.
• Cost model:
– The intangible asset is carried at cost less
accumulated amortisation and impairment losses.
• Revaluation model:
– The intangible asset is carried at a revalued amount
(fair value) less accumulated amortisation ad
impairment losses.
• The fair value must be determined by reference to an
active market.

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• An active market is a 'market in which transactions for
the asset or liability take place with sufficient frequency
and volume to provide pricing information on an
ongoing basis' (IFRS 13, para.18).
• It is uncommon for an active market to exist for
intangible assets because by their very nature they
tend to be unique.
• Active markets do exist however for intangibles such as
freely transferable taxi licences and quotas.

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• Revaluations should be carried out
sufficiently/Frequently often so that the carrying
value of the intangible is not materially different from its
fair value at the end of the reporting period.
• Where intangibles are revalued all intangibles in the
same class must be revalued unless there is no active
market for them. In this case they would be recognised
according to the cost model.

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Amortisation
• Intangible assets with a finite useful life should be amortised
over their useful life.
• The depreciable amount of an intangible is the cost/revalued
amount less residual value, although the residual value is
generally assumed to be zero.
• Amortisation should begin when the asset is available for
use and the method used should reflect the pattern in which
the asset's future economic benefits are consumed.
• The useful life and amortisation method used should be
reviewed at least every financial year end and adjusted
where necessary.

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Amortisation (continued)
• Intangible assets with an indefinite useful life should not be
amortised.
• The appropriateness of the indefinite useful life assessment
should be reviewed each period to determine whether the
assessment is still appropriate.
• Intangible assets with an indefinite useful life should be
subject to annual impairment reviews.

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Question: Stauffer
Stauffer is a public listed company reporting under IFRSs. It has asked
for your opinion on the accounting treatment of the following items.
(a) The Stauffer brand has become well known and has developed a
lot of customer loyalty since the company was set up eight years
ago. Recently, valuation consultants valued the brand for sale
purposes at $14.6m. Stauffer's directors are delighted and plan to
recognise the brand as an intangible asset in the financial
statements. They plan to report the gain in the revaluation surplus
as they feel that crediting it to profit or loss would be imprudent.
(b) On 1 October 20X5 the company was awarded one of six licences
issued by the government to operate a production facility for five
years. A 'nominal' sum of $1m was paid for the licence, but its fair
value is actually $3m.

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Question: Stauffer (continued)
(c) The company undertook an expensive, but successful advertising
campaign during the year to promote a new product. The campaign
cost $1m, but the directors believe that the extra sales generated by
the campaign will be well in excess of that over its four year
expected useful life.
(d) Stauffer owns a thirty-year patent which it acquired two years ago
for $8m which is being amortised over its remaining useful life of
sixteen years from acquisition. The product sold is performing much
better than expected. Stauffer's valuation consultants have valued
its current market price at $14m.

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Answer: Stauffer
(a) Stauffer brand
The Stauffer brand is an 'internally generated' intangible asset
rather than a purchased one. IAS 38 specifically prohibits the
recognition of internally generated brands, on the grounds that
they cannot be reliably measured in the absence of a commercial
transaction. Stauffer will not therefore be able to recognise the
brand in its statement of financial position.

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Answer: Stauffer (continued)
(b) Licence
The licence is an intangible asset acquired by a government
grant. It can be accounted for in one of two ways:
• The asset is recorded at the nominal price (cash paid) of $1m
and depreciated at $200,000 per annum of its five year life; or
• The asset is recorded at its fair value of $3m and a
government grant is shown as deferred income at $2m. The
asset is depreciated over the five years at annual rate of
$600,000 per annum. The grant is amortised as income
through profit or loss over the same period at a rate of
$400,000 per annum. This results in the same net cost of
$200,000 in profit or loss per annum as the first method.

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(c) Advertising campaign
The advertising campaign is treated as an expense. Advertising
expenditure cannot be capitalised under IAS 38, as the economic
benefits it generates cannot be clearly identified so no intangible
asset is created.

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(d) Patent
The patent is amortised to a nil residual value at $500,000 per
annum based on its acquisition cost of $8m and remaining useful
life of 16 years.
The patent cannot be revalued under the IAS 38 rules as there is
no active market as a patent is unique. IAS 38 does not permit
revaluation without an active market as the value cannot be
reliably measured in the absence of a commercial transaction.

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Question: Stauffer (continued)
(e) On 1 August 20X6, Stauffer acquired a smaller company in the
same line of business. Included in the company's statement of
financial position was an in-process research and development
project, which showed promising results (and was the main reason
why Stauffer purchased the other company), but was awaiting
government approval. The project was included in the company's
own books at $3m at the acquisition date, while the company's net
assets were valued at a fair value of $12m (excluding the project).
Stauffer paid $18m for 100% of the company and the research and
development project was valued at $5m by Stauffer's valuation
consultants at that date. Government approval has now been
received, making the project worth $8m at Stauffer's year end.
Required
Explain how the directors should treat the above items in the financial
statements for the year ended 30 September 20X6.

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(e) Acquisition
The difference between the price that Stauffer paid and the fair
value of the net assets of the acquired company will represent
goodwill.
The research and development project must also be valued at
fair value in a business combination to ensure the goodwill is
stated accurately, while in the acquiree's own financial
statements it would not be revalued as there is no active market
because it is unique.
Consequently, in a business combination IAS 38 requires
intangible assets that are separable or arise from contractual or
other legal rights that do not have an active market to be valued
using fair value measurement techniques (IFRS 13).

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(e) Acquisition (continued)
The values attributed in the group financial statements on the
acquisition date are therefore:
Net assets (excluding R&D project) 12
R&D project 5
Goodwill (remainder) 1
Purchase price 18
The fair value of the research and development project is
measured at the acquisition date, not at the year end and so it is
not recorded at $8m. The project will be amortised over the
expected useful life of the product developed once the product is
available for production.

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Goodwill (IFRS 3) 1
Definition
• Goodwill is the future economic benefits arising from
assets that are not capable of being individually
identified and separately recognised.
• Arises due to factors such as an entity's reputation and
branding.
• There are two types of goodwill:
– Internally generated goodwill (IAS 38)
– Purchased goodwill (IFRS 3) (Chapter 4)

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Goodwill (IFRS 3) 2
Goodwill
Purchased (IFRS 3)
Positive
• Capitalise and test annually
for impairment
'Negative' or Bargain
purchase (acquired net
assets exceed cost)
• Reassess and then credit any
remainder to profit or loss
attributable to the parent
Internally generated
• Not recognised in the books

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Past exam questions
Impairment of goodwill (as part of a groups
question)
Calculation of goodwill on acquisition
Presentation of intangibles on the SOFP
Dec 2012
Jun 2011
Dec 2014
Treatment of research & development costs
Patents/licences
Calculation of goodwill
Recognition of different treatments of assets
MCQ/OTQ style
questions

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Chapter 5
Impairment of assets
• IAS 36 Impairment of assets
• Cash generating units
• Goodwill and the impairment of
assets
• Accounting treatment of an
impairment loss

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Syllabus learning outcomes
• Define, calculate and account for an impairment loss
• Account for the reversal of an impairment loss on an
individual asset
• Identify the circumstances that may indicate impairments
to assets
• Describe what is meant by a cash generating unit
• State the basis on which impairment losses should be
allocated, and allocate an impairment loss to the assets of
a cash generating unit

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Recoverable
amount
After the
impairment
review
Impairment
indicators
Recognition of
impairment
losses
Cash-generating
units
Impairment of assets

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IAS 36 Impairment of assets 1
• IAS 36 aims to ensure that the carrying amount of
assets in the financial statements is not more than their
recoverable amount.
• Carrying amount:
– The value at which the asset is included in the
– Cost/valuation less accumulated depreciation and
impairment losses

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Recoverable amount
Fair value less
costs to sell
Value in
use
Higher of

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• Fair value less costs to sell:
– The price that would be received to sell the asset in an orderly
transaction between market participants at the measurement
date
– If there is an active market in the asset, the fair value should
be based on the market price, or on the price of the recent
transactions in similar assets
– If there is no active market in the asset it might be possible to
estimate fair value using best estimates of what market
participants might pay in an orderly transaction
– Less the direct incremental costs attributable to the disposal of
the asset
• Value in use:
– The present value of future cash flows expected to be derived
from the asset or cash-generating unit

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• If the carrying value of an asset in the statement of
financial position is higher than the recoverable amount
of the asset then the asset is said to be impaired.
• The impairment loss is the amount by which the
carrying amount exceeds the recoverable amount.
• An entity should consider whether there are indications
that an asset might have been impaired at the end of
each reporting period.

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Impairment indicators – external sources
Indicators that an asset's value has declined during the period
significantly more than would have been expected due to the passage of
time or normal use
Significant changes with an adverse effect on the entity in the
technological, market, economic or legal environment in which the entity
operates
Increased market interest rates or other market rates of return affecting
discount rates and therefore reducing value in use
The carrying amount of the entity's net assets exceeds market
capitalisation

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Impairment indicators – internal sources
Evidence of obsolescence or physical damage
Adverse changes to the asset's use
Internal evidence that the asset's performance will be worse than
expected

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Cash-generating units
Definition
• Where it is not possible to estimate the recoverable
amount of an individual asset, an entity should
determine the recoverable amount of the cash-
generating unit to which the asset belongs.
• A cash-generating unit is the smallest identifiable group
of assets that generates cash inflows that are largely
independent of the cash inflows from other assets or
groups of assets.

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Goodwill and the impairment of assets
• Goodwill and corporate assets (such as a head office)
should be allocated to a cash-generating unit in order
to determine its carrying amount and recoverable
amount.
• Where an impairment loss is allocated to reduce the
carrying amount of the assets in a cash-generating
unit, it will firstly be taken against any goodwill
allocated to the cash-generating unit!!!!

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Accounting treatment of an impairment loss 1
It may be possible to identify a specific asset which has
suffered an impairment.
Where an individual asset is impaired:
• If the asset is held at historic cost, the impairment loss
is recognised as an expense in profit or loss
• If the asset is held at a revalued amount, the
impairment loss is charged:
– Firstly to other comprehensive income (to remove
any previous revaluation surplus relating to the
asset)
– Any remainder is recognised as an expense in profit
or loss

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Where a cash-generating unit is impaired, the impairment
loss is allocated in the following order:
• Firstly to an goodwill allocated to the cash-generating
unit
• Then to the other assets of the unit on a pro-rata basis
based on the carrying amount of each asset in the
cash-generating unit

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After the recognition of an impairment loss the asset's
carrying value should be depreciated/amortised over its
remaining useful life.

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Question: Invest
On 31 December 20X1 Invest purchased all the shares of MH for
$2m. The net fair value of the identifiable assets acquired and
liabilities assumed of MH at that date was $1.8m.
MH made a loss in the year ended 31 December 20X2 and at 31
December 20X2 the net assets of MH – based on fair values at 1
January 20X2 – were as follows:
$'000
Property, plant and equipment 1,300
Capitalised development expenditure 200
Net current assets 250
1,750

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Question: Invest (continued)
An impairment review on 31 December 20X2 indicated that the
recoverable amount of MH at that date was $1.5m.
The capitalised development expenditure has no ascertainable
external market value and the current fair value less costs of disposal
of the property, plant and equipment is $1,120,000.
Value in use could not be determined separately for these two items.

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Question: Invest (continued)
Required
Calculate the impairment loss that would arise in the consolidated
financial statements of Invest as a result of the impairment review of
MH at 31 December 20X2 and show how the impairment loss would
be allocated.

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Answer: Invest
$'000 $'000 $'000
Goodwill
PPE
Development exp.
Net current assets
(2,000 – 1,800) 200
1,300
200
250
1,950
Asset values Allocation of Carrying
at 31.12.X2 impairment amount
before loss after
impairment (W1)/(W2) imp. loss

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Answer: Invest (continued)
$'000
Carrying value (1,750 + 200 (GW)) 1,950
Recoverable amount (1,500)
450
Impairment loss to write off goodwill 200
Impairment loss to write off other assets
on a pro-rata basis 250
(W1) Calculation of impairment loss

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$'000 $'000 $'000
Goodwill
PPE
Dev exp
Net current assets
(2,000 – 1,800) 200
1,300
200
250
1,950
(200) –
before loss after
impairment (W1)/ (W2) imp. loss

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Loss
allocated
$'000
180
70
250
$'000
PPE (250 × 1,300 / 1,500) 217
Dev exp (250 × 200 / 1,500) 33
250
37
However, PPE cannot be reduced below FV – CTS of
$1,120,000
1,083
(W2) Allocation of impairment loss to other assets (pro-rata basis)

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(2,000 – 1,800) 200 (200) –
1,300
200
250
1,950
before loss after
impairment (W1)/(W2) imp. loss
$'000 $'000 $'000
Goodwill
PPE
Dev. exp.
Net current assets
(180)
(70)
–
(450)
1,120
130
250
1,500

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Past exam questions
Explain the meaning of an impairment review.
Calculate the carrying amount of assets after
impairment losses.
The impairment of goodwill is often examined in
consolidated financial statement questions.
Impairment of associate Dec 2011
These topics could now be examined by
MCQ/OTQ, both as knowledge (what drives an
impairment review) and application (calculate
the impairment)

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Chapter 6
Revenue
• IFRS 15 Revenue from contracts
with customers
• Recognition and measurement
• Common types of transaction
• Presentation and disclosure
• Performance obligations satisfied
over time
• IAS 20 Government grants

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(a) Explain and apply the principles of recognition of
revenue:
i. Identification of contracts
i. Identification of performance obligations
ii. Determination of transaction price
iii. Allocation of the price to performance obligations
iv. Recognition of revenue when/as performance
obligations are satisfied
(b) Explain and apply the criteria for recognising revenue
generated from contracts where performance obligations
are satisfied over time or at a point in time.

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(c) Describe the acceptable methods for measuring
progress towards complete satisfaction of a
performance obligation
(d) Explain and apply the criteria for the recognition of contract
costs.
(e) Apply the principles of recognition of revenue and
specifically account for the following types of transaction:
– Principal versus agent
– Repurchase agreements
– Bill and hold arrangements
– Consignments
.

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(f) Prepare financial statement extracts for contracts
where performance obligations are satisfied over time.
Government grants
Apply the provisions of relevant accounting standards in
relation to accounting for government grants.

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IFRS 15 Revenue from contracts with customers 1
IFRS 15 was issued in May 2014 as the result of a joint
IASB/FASB project on revenue recognition.
IFRS 15 replaces both IAS 18 Revenue and IAS 11 Construction
contracts.
Under IFRS 15 the recognition of revenue is based on the transfer
of goods and services. This is evidenced by the transfer of
control.
Control of an asset is described as the ability to direct the use of,
and obtain substantially all of the remaining benefits from, the
asset.

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The following definitions are important:
Revenue – Income arising in the course of an entity's ordinary
activities.
Contract – An agreement between two or more parties that
creates enforceable rights and obligations.
Contract asset – An entity's right to consideration in exchange for
goods or services that the entity has transferred to a customer
when that right is conditioned on something other than the
passage of time (for example the entity's future performance).
Contract liability – An entity's obligation to transfer goods or
services to a customer for which the entity has received
consideration (or the amount is due) from the customer.

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Performance obligation – A promise in a contract with a
customer to transfer to the customer either:
(a) A good or service (or a bundle of goods or services) that is
distinct; or
(b) A series of distinct goods or services that are substantially the
same and that have the same pattern of transfer to the
customer.
Stand-alone selling price – The price at which an entity would
sell a promised good or service separately to a customer.
Transaction price – The amount of consideration to which an
entity expects to be entitled in exchange for transferring promised
goods or services to a customer, excluding amounts collected on
behalf of third parties.

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IFRS 15 sets out a five-step model for the recognition of revenue:
(1) Identify the contract with the customer
(2) Identify the separate performance obligations
(3) Determine the transaction price
(4) Allocate the transaction price to the performance obligations
(5) Recognise revenue when (or as) a performance obligation is
satisfied

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Step 1 – Identify the contract with the customer
A contract can be written, verbal or implied. It is within the scope of
IFRS 15 when:
(a) Both parties have approved it
(b) Each parties rights regarding the goods and services to be
transferred can be identified
(c) The payment terms can be identified
(d) The contract has commercial substance
(e) It is probable that the consideration will be received

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Step 2 – Identify the separate performance obligations
Promises to supply goods or services to a customer are
performance obligations.
Separate performance obligations must apply to distinct goods
or services.
A good or service is distinct if it is sold separately, or could be
sold separately.
This is important when considering contracts where goods and
services are bundled, such as cellphone contracts where the
handset is included free, but could be sold separately.

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Step 3 – Determine the transaction price
This is the amount of consideration that the entity expects to be
entitled to in exchange for transferring the goods or services.
Any variable amount, such as a volume discount, should only
be applied where there is no probability of it being reversed in
the future.

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Step 4 – Allocate the transaction price to the performance
obligations
When a contract contains more than one distinct performance
obligation, the transaction price is allocated in proportion to the stand-
alone selling price of the good or service underlying each
performance obligation.
Prior to IFRS 15, an entity which sold a phone contract with a free
handset would recognise no revenue from the handset and allocate
the revenue over the life of the contract.
IFRS 15 requires the revenue to be pro-rated between the handset
and the contract, based on the stand-alone selling price of the
handset and the total amount being charged for the contract.

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Step 5 – Recognise revenue when (or as) a performance
obligation is satisfied.
A performance obligation is satisfied when control of the good or
service is transferred to the customer.
This can be at a point in time or over time.
Some indicators of the transfer of control are:
(a) The entity has a right to payment
(b) The customer has legal title to the asset
(c) The entity has transferred physical possession
(d) Risks and rewards have been transferred
(e) The customer has accepted the asset

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Common types of transaction
IFRS 15 provides guidance on dealing with the following transactions:
Warranties. A warranty which is purchased separately from the
product to which it relates is regarded as a separate performance
obligation.
Principal versus agent. A principal controls the goods or services
prior to the transfer of control and recognised revenue when control
has been transferred. An agent will recognise as revenue any fee or
commission to which it is entitled for the satisfaction of its
performance obligation as agent.
Repurchase agreements. These are treated as either a lease in
accordance with IAS 17 or a financing arrangement. This depends on
the terms of the agreement and the option.
Consignment arrangements. No revenue is recognised until control
of the inventory has been transferred. This also applies to bill and
hold arrangements.

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Presentation and disclosure 1
Presentation
The presentation requirements of IFRS 15 are important in relation
to contracts where performance obligations are satisfied over time.
In the case of these contracts, there are likely to be contract assets
and liabilities to be accounted for at the end of the reporting period.
A contract liability is recognised where consideration has been
transferred in excess of the performance obligation satisfied.
A contract asset is recognised where performance obligation has
been satisfied but no consideration has yet been invoiced or
received.
Consideration which has been billed (invoiced) will be presented as
an amount receivable, not a contract asset.

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Presentation and disclosure 2
Disclosure
The standard requires the following disclosures:
(a) Revenue from contracts separately disclosed
(b) Impairment losses on any contract assets or receivables
(c) Opening and closing balances of assets, liabilities and receivables
(d) Revenue recognised that was included in opening contract liability
(e) Revenue recognised from performance obligations satisfied in the
previous period

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Performance obligations satisfied over time 1
Where performance obligations are satisfied over time,
an entity must determine what amounts to include as
revenue and costs in each accounting period.
This applies particularly to long-term infrastructure
projects where payment is made in stages as the contract
progresses.
• Examples include the construction of ships and
buildings.
• Note that the contract does not have to be more than
one year long, the activity however must take place
over more than one accounting period.

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Where performance obligations are satisfied over time,
the entity must be able to measure the amount of
performance completed at the end of the accounting
period. This determines how much revenue, costs and
profit can be recognised.
The amount of performance completed can be measured
using output methods (based on the value to the
customer of goods or services transferred) or input
methods (based on cost to the entity of goods or
services transferred).

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Using the example of a construction contract, costs comprise:
• Costs relating directly to the contract
– Site labour costs
– Cost of materials used in construction
– Depreciation of plant and equipment used on the contract
– Cost of moving plant and equipment and materials to and
from the contract site
– Cost of hiring plant and equipment
– Estimated costs of rectification and guarantee work
– Claims from third parties

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• Costs attributable to general contract activity which can be
allocated to the contract, for example:
– Insurance
– Cost of design and technical assistance not directly
related to a specific contract
– Construction overheads
• Any other costs which can be charged to the customer
under the contract
• Note that general administration and development costs
should not be included unless they are to be reimbursed by
the customer per the contract

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Issue
• Imagine you have been awarded a contract to build a
sports stadium for a price of $13.5m.
• The stadium will take three years to complete and cost
a total of $3.5m to construct.
• When should the $10m profit on the contract be
recognised? Over the life of the contract as the
performance obligations are satisfied.

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• Where the outcome of a construction contract can be
estimated reliably contract revenue and contract costs
are recognised as revenue and expenses according to
the stage of completion of the contract at the end of
the reporting period. This will be equivalent to the
amount of performance obligation satisfied.
• However any expected loss on the construction
contract is recognised as an expense immediately.

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• Methods to determine the stage of completion include:
• Input method
– Proportion of contract costs incurred
• Costs to date ÷ Total estimated costs
• Output methods
– Surveys of work performed
• Work certified ÷ Contract price
– Physical proportion completed
• This may be verified independently

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• Statement of profit or loss and other comprehensive income:
$
Revenue (x% × Total contract revenue) X
Expenses (x% × Total contract costs) (X)
Expected loss (X)
Recognised profits/ losses X
Where x% is the stage of completion

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• Statement of financial position:
Contract asset/liability $
Contract costs incurred to date X
Recognised profits less recognised losses X
X
Less invoices issued to date (X)
X/(X)
Trade receivables $
Invoices issued to date X
Less cash received (X)
X

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Question: Example 1 Invoices issued
$
Total contract price 100,000
Costs incurred to date 48,000
Estimated costs to completion 32,000
Invoices issued 58,000
Cash received 50,000
Stage of completion (proportion of contract
costs incurred)
60%
Required
(a) Prepare relevant extracts from the statement of profit or loss and
statement of financial position.
(b) Show how the statement of financial position would differ if invoices
issued were $64,000 (of which $50,000 was received).

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Question: Example 1 Invoices issued (continued)
Approach
• Determine whether contract is profitable
• Calculate amount of performance obligation satisfied (stage of
completion) (here given in example)

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Answer: Example 1 Invoices issued
Is the contract profitable?
$
Total revenue 100,000
Total expected costs (48,000 + 32,000) (80,000)
Overall expected profit 20,000
Stage of completion
60% per question

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Answer: Example 1 Invoices issued (continued)
(a) $
STATEMENT OF PROFIT OR LOSS (extract)
Revenue (60%  100,000) 60,000
Expenses (60%  80,000) (48,000)
Profit 12,000
STATEMENT OF FINANCIAL POSITION (extract)
Current assets
Contract asset
Contract costs incurred to date 48,000
Recognised profits 12,000
60,000
Less invoices issued to date (58,000)
2,000
Trade receivables
Invoices issued to date 58,000
Less cash received (50,000)
8,000

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Answer: Example 1 Invoices issued (continued)
(b) $
Current assets
Trade receivables
14,000
Current liabilities
Contract liability
Recognised profits 12,000
60,000
(4,000)

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Expected losses
• When it is probable that the total contract costs will
exceed total contract revenue, the expected loss is
recognised as an expense immediately.
• The full loss is recognised in the statement of profit or
loss.
• This also reduces the contract asset in the statement of
financial position.

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Question: Example 2 Expected losses
$
Total contract price 100,000
Costs incurred to date 72,000
Estimated costs to completion 48,000
Invoices issued 58,000
Cash received 50,000
Stage of completion (proportion of contract
costs incurred)
60%
Required
(a) Prepare relevant extracts from the statement of profit or loss and
statement of financial position.

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Question: Example 2 Expected losses (continued)
Approach
• Determine whether contract is profitable
• Calculate stage of completion (here given in example)

BPP LEARNING MEDIA
Answer: Example 2 Expected losses
Is the contract profitable?
$
Total revenue 100,000
Total expected costs (72,000 + 48,000) (120,000)
Overall expected loss (20,000)
Stage of completion
60% per question
Recognise full loss immediately

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Answer: Example 2 Expected losses (continued)
$
Revenue (100,000  60%) 60,000
Expenses (120,000  60%) (72,000)
Expected loss (balancing item) (8,000)
Recognised loss (100,000 – 120,000) (20,000)

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Answer: Example 2 Expected losses (continued)
STATEMENT OF FINANCIAL POSITION (extract) $
Current assets
Trade receivables
8,000
Current liabilities
Contract liability
Recognised losses (20,000)
52,000
(6,000)

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Outcome cannot be estimated reliably
• Where the outcome of a contract cannot be estimated
reliably:
– Revenue is recognised only to the extent of contract
costs incurred which are expected to be recoverable
– Contract costs are recognised as an expense in the
period in which they are incurred

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Question: Example 3 Outcome not reliable
WB entered into a five-year contract with the national
government to extend a metro line for an agreed fee of
$6,000m (including costs).
At the end of the first year, total costs incurred were $850m.
At this stage surveyors estimated that the total costs of the
contract would be in the range $4,000m to $5,500m. This
was based on the fact that delays had meant that the project
may take substantially more than five years to complete
together with their experience of similar contracts where
costs had spiralled out of control.

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Question: Example 3 Outcome not reliable (continued)
Invoicing was to be undertaken at regular stages of the
contract. By the end of the first year of the contract invoices
to the value of $1,130m had been issued and $675m had
been received in settlement of the debt. There is no
indication that the government would be unable to pay the
rest of the invoices.
Required
Prepare the numerical financial statement disclosures for the
contract.

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Answer: Example 3 Outcome not reliable
$m
Revenue (match to recoverable costs) 850
Expenses (costs incurred) (850)
Profit 0
Current assets
Trade receivables
Less cash received (675)
455

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Answer: Example 3 Outcome not reliable (continued)
Current liabilities
Contract liability
Contract costs incurred to date 850
Recognised profits less recognised losses 0
850
(280)

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IAS 20 Government grants 1
Definition
• Assistance by government in the form of transfers of
resources to an entity in return for past or future
compliance with certain conditions relating to the
operating activities of the entity.
• Government grants exclude forms of government
assistance which are not subject to reliable
measurement and transactions with government which
cannot be distinguished from normal trading activities.
• Government assistance: action by government designed
to provide an economic benefit specific to an entity or
range of entities qualifying under certain criteria.

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Recognition
• Government grants are only recognised once there
reasonable assurance that the conditions of the grant
will be complied with and the grant will be received.

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• There are two types of government grants:
– Grants which relate to income:
• For example, grants to assist with wages and
salaries costs
• These are recognised in profit or loss either
separately as part of 'other income' or as a
deduction from the related expense
– Grants relating to assets:
• For example, grants to assist with the acquisition of
non-current assets
• Choice of accounting treatment

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Grants relating to assets
Presented in the statement of financial position either:
• As deferred income
– This is then released over the useful life of the asset
with the reduction being shown as 'other income'; or
• By deducting the grant from the carrying amount of the
asset
– This means that the carrying amount of the asset and
therefore the associated depreciation is lower.
Either way the depreciation charge less the 'other income'
will show the same net expense.

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Repayment of grants
• Where a government grant becomes repayable it is
accounted for as a change in accounting estimate under
IAS 8.
• Repayment of grants relating to income are applied first
against any unamortised deferred credit and then in profit
or loss.
• Repayments of grants relating to assets are recorded by:
– Reducing the deferred income balance; or
– Increasing the carrying amount of the asset; or
– The cumulative additional depreciation that would have
been recognised to date had the grant not been
received is recognised in profit or loss immediately.

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Past exam questions
IFRS 15 is a new standard so could
appear as a discursive or numerical
question. Previous questions were
under the old standards.
Q2 Dec 2012
Q2 Dec 2011
Q2 June 2011
Q2 June 2010
Questions on revenue or government
grants could appear as MCQs/OTQs or
as part of a financial statement
preparation question.

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Chapter 7
Introduction to
groups
• Group accounts
• Consolidated and separate
• Content of group accounts and
group structure

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• Describe the concept of a group as a single economic unit.
• Explain and apply the definition of a subsidiary within
relevant accounting standards.
• Using accounting standards and other applicable
regulation identify and outline the circumstances in which
a group is required to prepare consolidated financial
statements.

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• Describe the circumstances when a group may claim
exemption from the preparation of consolidated financial
statements.
• Explain why directors may not wish to consolidate a
subsidiary and when this is permitted by accounting
standards and other applicable regulation.
• Explain the need for using coterminous year ends and
uniform accounting policies when preparing consolidated
financial statements.

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• Explain the objective of consolidated financial statements.
• Explain why it is necessary to eliminate intra group
transactions.

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Concept
Parent's separate
Group financial
statements
Definition of a
subsidiary
Non-controlling interests
and mid-year acquisitions
Introduction to groups

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Group accounts 1
• Companies may grow organically or by acquisition.
• Where companies grow by acquisition they acquire control of other
companies as below.
Shareholders
ABC
International Ltd
ABC Professional
Services Ltd
ABC Online
Services Ltd
ABC Holdings plc
95% 51%
100%

BPP LEARNING MEDIA
Group accounts 2
• The method used to account for the acquisition of
shares by one company in another company depends
on the type and extent of the investment acquired.
• Principal terms to be aware of are:
– Investments in subsidiaries
– Investments in associates

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Group accounts 3
Definitions
• Subsidiary: an entity that is controlled by another entity.
• Control: an investor controls an investee if and only if the
investor has all of the following.
– Power over the investee
– Exposure, or has rights, to variable returns from its
involvement with the investee
– The ability to affect those returns through its power over
the investee

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Group accounts 4
Definitions (continued)
• Examples of rights that, either individually or in combination, can give
an investor power include:
– Rights in the form of voting rights (or potential voting rights) of an
investee
– Rights to appoint, reassign or remove members of an investee's key
management personnel who have the ability to direct the relevant
activities
– Rights to appoint or remove another entity that directs the relevant
activities
– Rights to direct the investee to enter into, or veto any changes to,
transactions for the benefit of the investor
– Other rights (such as decision making rights specified in a
management contract) that give the holder the ability to direct the
relevant activities

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Group accounts 5
Definitions (continued)
• Parent: an entity that controls one or more subsidiaries.
• Group: a parent and all its subsidiaries.
• Associate: an entity over which an investor has
significant influence and which is neither a subsidiary
nor an interest in a joint venture.
• Significant influence: the power to participate in the
financial and operating policy decisions of an investee
but not control or joint control over those policies.

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Group accounts 6
• The different types of investment and the required
accounting treatment in both the parent's individual
(separate) financial statements and the group financial
statements is explained over the next few chapters.
• It is also summarised as follows.
Investment Criteria Required treatment in group accounts
Subsidiary Control (>50% rule) Full consolidation (IFRS 10)
Associate Significant influence
(20% + rule)
Equity accounting (IAS 28)
Investment
which is none of
the above
Asset held for
accretion of wealth
As for single company accounts (IFRS 9)

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(1) A holds no shares in B; however through an agreement with B's
shareholders, A chooses 6 of the 10 Board members.
(2) A owns 45% of C's shares. No other individual shareholder owns
more than 5%.
(3) A owns 55% of D's shares. Under an contract in place, A must make
all decisions in agreement with E, who owns 45% of the shares.
(4) A controls F, a partnership, under an agreement.
Question: Control?
Which one (or more) of the following would be accounted for as a
subsidiary of A?

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(1) A holds no shares in B; however through an agreement with B's
shareholders, A chooses 6 of the 10 Board members
(2) A owns 45% of C's shares. No other individual shareholder owns
more than 5%.
(3) A owns 55% of D's shares. Under an contract in place, A must make
all decisions in agreement with E, who owns 45% of the shares.
(4) A controls F, a partnership, under an agreement.
Answer: Control?
Which one (or more) of the following would be accounted for as a
subsidiary of A?

ACCA-Financial Reporting (FR)-Teaching Slides.pptx

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