ACCA F7 FR Revision Kit BPP

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PAPER F7
FINANCIAL REPORTING
BPP Learning Media is anACCA Approved Learning Partner – content for the ACCA
qualification. This means we work closely with ACCA to ensure our products fully
prepare you for your ACCA exams.
In this Practice and Revision Kit which is has been reviewed by theACCA examination
team,we:
Discuss thebest strategies for revising and taking your ACCA exams
 Ensure you are well preparedfor your exam
Provide you withlots of great guidanceon tackling questions
Provide you withthree mock exams.
  Provide ACCA exam answers as well as our own for selected questions
Our Passcardand i-Passproducts also support this paper.
FOR EXAMS UP TO JUNE 2015
ii
First edition 2008
Eighth edition June 2014
ISBN 9781 4727 1103 8
(previous ISBN 9781 4453 7996 8)
e-ISBN 9781 4727 1167 0
British Library Cataloguing-in-Publication Data
A catalogue record for this book
is available from the British Library
Published by
BPP Learning Media Ltd
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Printed in Singapore by
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We are grateful to the Association of Chartered Certified
Accountants for permission to reproduce past
examination questions. The suggested solutions in the
practice answer bank have been prepared by BPP
Learning Media Ltd, except where otherwise stated.
©
BPP Learning Media Ltd
2014
iii
Contents
Page
Finding questions
Question index .................................................................................................................................................................. v
Helping you with your revision..................................................................................................................... ix
Revising F7
Topics to revise................................................................................................................................................................. x
Question practice .............................................................................................................................................................. x
Passing the F7 exam........................................................................................................................................................ xi
Exam information ............................................................................................................................................................ xii
Questions and answers
Questions..........................................................................................................................................................................3
Answers ..........................................................................................................................................................................97
Exam practice
Mock exam 1
Questions ............................................................................................................................................................217
 Plan of attack .......................................................................................................................................................227
Answers...............................................................................................................................................................228
Mock exam 2
Questions ............................................................................................................................................................241
 Plan of attack .......................................................................................................................................................255
Answers...............................................................................................................................................................256
Mock exam 3 (Specimen paper)
Questions ............................................................................................................................................................269
 Plan of attack .......................................................................................................................................................281
Answers...............................................................................................................................................................282
ACCA examiner's answers
Specimen paper...................................................................................................................................................293
Review form

iv
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Finding questions  v
Question index
The headings in this checklist/index indicate the main topics of questions, but many questions cover several
different topics.
Each topic area begins with MCQs on the topic. Your exam will have 20 MCQs.
Examiner's answers.For the Mock exam 3 the examiner's answers can be found at the end of this Kit.
Time  Page number
Marks
allocation
Mins  Question  Answer
Part 1: The conceptual framework
1 MCQs – conceptual framework  10 18  3 97
2  Lisbon (pilot paper amended)  15 27  4 97
3 Concepts (6/08 amended)  15 27  4 98
Part 2: The regulatory framework
4  MCQs – regulatory framework  6 11  5 100
5 Baxen (6/12 amended)  15 27  5 100
6 Regulatory framework (2.5 12/04 amended)  15 27  6 101
Part 3: Presentation of published financial
statements
7 MCQs – presentation of published financial statements  10 18  7 103
8 Preparation question: Candel (12/08)  – –  8 103
9 Preparation question: Dexon  – –  9 105
10 Highwood (6/11 amended)  30 54  10 108
11 Keystone (12/11 amended)  30 54  12 111
12 Fresco (6/12 amended)  30 54  13 114
Part 4: Non-current assets
13 MCQs – non-current assets  20 36  15 119
14  Preparation question: Plethora plc  – –  17 120
15  Dearing (12/08 amended)  15 27  18 121
16  Flightline (6/09 amended)  15 27  18 122
Part 5: Intangible assets
17 MCQs – intangible assets  8 14  20 125
18 Emerald (12/07 amended)  15 27  20 125
19 Dexterity (2.5 6/04 amended)  15 27  21 127
20 Darby (12/09)  15 27  22 128
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vi  Finding questions
Time  Page number
Marks
allocation
Mins  Question  Answer
Part 6: Impairment of assets  
21 MCQs – impairment of assets  12 22  23 130
22 Telepath (6/12)  15 27  24 131
Part 7: Reporting financial performance
23 MCQs – reporting financial performance  8 14  26 133
24  Preparation question: Partway (2.5 12/06 amended)  – –  26 133
25 Tunshill (12/10)  15 27  27 134
26 Manco (12/10 amended)  15 27  28 136
Part 8: Introduction to groups
27 MCQs – introduction to groups  10 18  29 138
28 Preparation question: Group financial statements  – –  30 138
29  Preparation question with helping hands: Simple consolidation  – –  30 138
Part 9: Consolidated statement of financial position
30 MCQs – consolidated statement of financial position  12 22  32 141
31 Preparation question: Goodwill  – –  33 142
32  Pedantic (12/08 amended)  30 54  34 142
Part 10: Consolidated statement of profit or loss
and other comprehensive income
33 MCQs – consolidated statement of profit or loss and OCI  8 14  36 146
34  Preparation question: Acquisition during the year  – –  37 146
35  Preparation question: Pandar (12/09 amended)  – –  38 148
36 Viagem (12/12 amended)  15 27  39 151
37 Prodigal (6/11 amended)  30 54  40 152
Part 11: Accounting for associates
38 MCQs – accounting for associates  10 18  43 156
39  Preparation question: Laurel  – –  44 156
40  Preparation question: Tyson  – –  47 158
41  Preparation question: Plateau (12/07 amended)  – –  48 159
42 Paladin (12/11 amended)  30 54  50 162
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Finding questions  vii
Time  Page number
Marks
allocation
Mins  Question  Answer
Part 12: Inventories and biological assets
43  MCQs –inventories and biological assets  18 32  52 165
Part 13: Provisions, contingent liabilities and
contingent assets
44  MCQs – provisions, contingent liabilities and contingent assets  8 14  54 166
45 Promoil (12/08)  15 27  55 166
46 Borough (12/11)  15 27  55 167
47 Shawler (12/12 amended)  15 27  56 169
Part 14: Financial instruments
48  MCQs – financial instruments  8 14  57 170
49 Bertrand (12/11 amended)  15 27  58 171
Part 15: Revenue
50 MCQs - revenue  20 18  59 173
51 Preparation question: Derringdo  – –  61 174
52 Preparation question: Contract  – –  62 175
53 Preparation question: Beetie (pilot paper amended)  – –  63 176
54 Mocca (6/11 amended)  15 27  63 178
55 Wardle (6/10 amended)  15 27  64 179
Part 16: Leasing
56 MCQs - leasing  10 18  65 181
57  Preparation question: Branch  – –  66 182
58  Fino (12/07 amended)  15 27  66 183
Part 17: Accounting for taxation
59  MCQs – accounting for taxation  10 18  67 185
60 Preparation question: Julian  – –  68 186
61  Preparation question: Bowtock  – –  69 186
Part 18: Earnings per share
62 MCQs – earnings per share  10 18  70 188
63  Preparation question: Fenton  – –  71 189
64  Barstead (12/09 amended)  15 27  72 190
65 Rebound (6/11 amended)  15 27  72 192
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viii  Finding questions
Time  Page number
Marks
allocation
Mins  Question  Answer
Part 19: Analysing and interpreting financial
statements
66 MCQs – analysing and interpreting financial statements  12 22  74 194
67  Preparation question: Victular (12/08)  – –  75 194
68 Bengal (6/11 amended)  15 27  77 196
Part 20: Limitations of financial statements and
interpretation techniques
69 MCQs – limitations of FSs and interpretation techniques  14 25  79 198
70 Waxwork (6/09)  15 27  80 198
71 Quartile (12/12 amended)  15 27  81 199
Part 21: Statement of cash flows
72 MCQs – statement of cash flows  8 14  83 201
73  Preparation question: Dickson  – –  84 202
74 Mocha (12/11)  30 54  87 205
Part 22: Alternative models and practices
75 MCQs – alternative models and practices  10 18  89 209
76  Preparation question: Changing prices  – –  90 209
77  Update (2.5 6/03 part amended)  15 27  91 210
Part 23: Specialised not-for-profit and public sector
entities
78 MCQs – specialised, not-for-profit and public sector entities  10 18  92 211
79  Preparation question: Appraisal  – –  93 212
Mock exam 1
Mock exam 2
Mock exam 3 (Specimen paper)
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Revising F7  ix
Helping you with your revision
BPP Learning Media – Approved Learning Partner – content
As ACCA’s Approved Learning Partner – content, BPP Learning Media gives you the opportunity to use exam
team–reviewedrevision materials. By incorporating the examination team’s comments and suggestions regarding
syllabus coverage, the BPP Learning Media Practice and Revision Kit provides excellent, ACCA-approvedsupport
for your revision.
Tackling revision and the exam
Using feedback obtained from ACCA exam team review:
 We look at the dos and don’ts of revising for, and taking, ACCA exams
 We focus on Paper F7; we discuss revising the syllabus, what to do (and what not to do) in the exam, how to
approach different types of question and ways of obtaining easy marks
Selecting questions
We provide a full question indexto help you plan your revision.
Making the most of question practice
At BPP Learning Media we realise that you need more thanjust questions and model answers to get the most from
your question practice.
Our top tips included for certain questions provide essential advice on tackling questions, presenting
answers and the key points that answers need to include.
 We show you how you can pick up easy marks on some questions, as we know that picking up all readily
available marks often can make the difference between passing and failing.
We include marking guidesto show you what the examiner rewards.
We include comments from the examinersto show you where students struggled or performed well in the
actual exam.
We refer to the 2014 BPP Study Text (for exams up to June 2015) for detailed coverage of the topics
covered in questions.
 In a bank at the end of this Kit we include the official ACCA answersto the Specimen paper. Used in
conjunction with our answers they provide an indication of all possible points that could be made, issues
that could be covered and approaches to adopt.
Attempting mock exams
There are three mock exams that provide practice at coping with the pressures of the exam day. We strongly
recommend that you attempt them under exam conditions. Mock exams 1 and 2reflect the question styles and
syllabus coverage of the exam; Mock exam 3is the Specimen paper.
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x  Revising F7
Revising F7
Topics to revise
From December 2014 the F7 paper has a Section A with twenty MCQs. This gives the examiner greater scope to
examine the whole of the syllabus and bring in topics thatdo not feature in the longer questions. The MCQ section
accounts for 40% of the marks on the paper. So it is really not possible to pass this paper by only revising certain
topics.
The MCQ section will be followed by three long questions, which are most likely to be consolidations, accounts
preparation questions, statements of cash flows or interpretation of accounts, but questions on other areas of the
syllabus are also possible.
A consolidation question can be a statement of financial position or statement of profit or loss or both, and it may
include an associate, so be prepared for all of this. Therefore you must revise all the consolidation workings, and
you must know how to account for an associate. All questions are compulsory.
A single company accounts preparation question allows the examiner to bring in more complex issues that he
would not test in the consolidation question. Make sure you can deal with finance leases, deferred tax, calculating
finance costs using the effective interest rate, prior period adjustments, discontinued operations and construction
contracts.
Other possibilities are statements of cash flow or interpretation of accounts. You have studied both of these at
F3/FFA, so make sure you can do them well.
Issues that could appear anywhere are non-current assets and impairment, intangible assets, EPS, provisions and
regulatory issues.
There will be a certain amount of discussion in some of the questions, so be prepared to write about financial
reporting topics, such as the Conceptual Framework or specific accounting standards.
Question practice
This is the most important thing to do if you want to get through. Many of the most up-to-date exam questions are
in this Kit, some of them amended to reflect the new exam format. Practise doing them under timed conditions,
then go through the answers and go back to the Study Text for any topic you are really having trouble with. Come
back to a question week later and try it again – you will be surprised at how much better you are getting. Be very
ruthless with yourself at this stage – you have to do the question in the time, without looking at the answer. This
will really sharpen your wits and make the exam experience less worrying. Just keep doing this and you will get
better at doing questions and you will really find out what you know and what you don’t know.
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Revising F7  xi
Passing the F7 exam
If you have honestly done your revision then you can pass this exam. What you must do is remain calm and tackle
it in a professional manner. The examiner stresses a number of points which you should bear in mind. These apply
particularly to the long questions.
 You must read the question properly. Students often fail to read the question properly and miss some of the
information. Time spent reading the question a second time would be time well spent. Make yourself do this,
don’t just rush into it in a panic.
 Workings must be clear and cross-referenced. If the marker can read and understand your workings they
can give you credit for using the right method, even if your answer is wrong. If your answer is wrong and
there are no workings, or they are illegible and incomprehensible, you will get no marks for that part of the
question.
 Stick to the timings and answer all questions. Do not spend too long on one question at the expense of
others. The number of extra marks you will gain on that question will be minimal, and you could have at
least obtained the easy marks on the next question.
 Do not neglect the short parts of the question. If you get a consolidation with a five-mark discussion topic at
the end, leave time for that last part. You can’t afford to throw away five marks.
 Make sure you get the easy marks. If an accounts preparation question contains something that you are
unable to do, just ignore it and do the rest. You will probably only lose a few marks and if you start trying to
puzzle it out you might waste a lot of minutes.
 Answer the question. In a discussion-type question you may be tempted to just write down everything you
know about the topic. This will do you no good. The marking parameters for these questions are quite
precise. You will only get marks for making points that answer the question exactly as it has been set. So
don’t waste your time waffling – you could be scoring marks somewhere else.
Note that you have 15 minutes reading time at the start of this exam, during which you are allowed to make notes
on the question paper. Use this to read the questions carefully and underline important points. Make note of any
points that occur to you which you may otherwise forget. Get really familiar with the paper and focus on what you
can do, not the bits you think you can't do.
Gaining the easy marks
The first point to make is that you do not get any marks for just writing down the formats for a financial statement.
But, once you have put the formats down, you are then in a position to start filling in the numbers and getting the
easy marks. Also, correct formats will give you a guide so that you don’t miss things. For instance, it’s easy to
forget about the non-controlling interest in a group statement of profit or loss. So that’s a good place to start.
Having put down the formats, then go through the workings and slot in the figures. Make sure you get in all the
ones you can do easily. Complicated parts are well worth doing if you are able to do them – there will be marks for
those. Complicated parts which you don’t know how to do are best left alone.
If you have an interpretation question, you will not get many marks for just producing lots of ratios or restating
information you have already been given in the question. You have to be able to evaluate the information and see
what judgements can be made. So go through the information critically and see which ratios are actually relevant.
Then calculate them and say something sensible about them.
Multiple choice questions
Some MCQs are easier than others. Answer those that you feel confident about as quickly as you can. Come back
later to those you find more difficult. Read the multiple choice questions carefully. If you are really clear about what
is being asked then you will be less likely to fall for one of the distractors. If you really cannot do a question, guess
the answer and move on. You lose no marks for a wrong answer and you may even be right!
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xii  Revising F7
Exam information
Format of the exam
All questions are compulsory.
Number of
marks
Section A – 20 MCQs  40
Section B:
Question 1  15
Question 2  15
Question 3   30
100
Time allowed: 3 hours plus 15 minutes reading time
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Questions
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Questions  3
1 Multiple choice questions – conceptual framework
1  How does the Conceptual Frameworkdefine an asset?
A  A resource owned by an entity as a result of past events and from which future economic
benefits are expected to flow to the entity
B  A resource over which an entity has legal rights as a result of past events and from which
economic benefits are expected to flow to the entity
C  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
D  A resource to which an entity has a future commitment as a result of past events and from
which future economic benefits are expected to flow from the entity  (2 marks)
2  Which one of the following would be classified as a liability?
A  Dexter's business manufactures a product under licence. In 12 months' time the licence
expires and Dexter will have to pay $50,000 for it to be renewed.
B  Reckless purchased an investment 9 months ago for $120,000. The market for these
investments has now fallen and Reckless's investment is valued at $90,000.
C  Carter has estimated the tax charge on its profits for the year just ended as $165,000.
D  Expansion is planning to invest in new machinery and has been quoted a price of $570,000.
(2 marks)
3  Which one of the following would correctly describe the net realisable value of a two year old
asset?
A  The original cost of the asset less two years' depreciation
B  The amount that could be obtained from selling the asset, less any costs of disposal
C  The cost of an equivalent new asset less two years' depreciation
D  The present value of the future cash flows obtainable from continuing to use the asset  (2 marks)
4 The Conceptual Frameworkidentifies an underlying assumptionin preparing financial statements.
This is:
A Going concern
B Materiality
C  Substance over form
D Accruals  (2 marks)
5 The Conceptual Framework identifies four enhancing qualitative characteristics of financial
information. For which of these characteristics is disclosure of accounting policiesparticularly
important?
A Verifiability
B Timeliness
C Comparability
D Understandability  (2 marks)
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4  Questions
2 Lisbon (pilot paper amended)  27 mins
(a)  The qualitative characteristics of relevance, faithful representation, comparability and understandability
identified in the IASB's Conceptual Framework for Financial Reportingare some of the attributes that make
financial information useful to the various users of financial statements.
Required
Explain what is meant by relevance, faithful representation, comparability and understandability and how
they make financial information useful.  (11 marks)
(b)  During the year ended 31 March 20X6, Lisbon experienced the following transactions or events.
(i)  Sold an asset to a finance company and leased it back for the remainder of its useful life.
(ii)  The company's statement of profit or loss prepared using historical costs showed a loss from
operating its shops, but the company is aware that the increase in the value of its properties during
the period far outweighed the operating loss.
Required
Explain how you would treat the items above in Lisbon's financial statements and indicate on which of the
Conceptual Framework'squalitative characteristics your treatment is based.  (4 marks)
(Total = 15 marks)
3 Concepts (6/08 amended)  27 mins
(a) The IASB's Conceptual Framework for Financial Reportingrequires financial statements to be prepared on
the basis that they comply with certain accounting concepts, underlying assumptions and (qualitative)
characteristics. Five of these are:
Matching/accruals
Going concern
Verifiability
Comparability
Materiality
Required
Briefly explain the meaning of each of the above concepts/assumptions.  (5 marks)
(b)  For most entities, applying the appropriate concepts/assumptions in accounting for inventories is an
important element in preparing their financial statements.
Required
Illustrate with examples how each of the concepts/assumptions in (a) may be applied to accounting for
inventory.  (10 marks)
(Total = 15 marks)
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Questions  5
4 Multiple choice questions – regulatory framework
1  The process for developing an International Financial Reporting Standard involves a number of stages.
Following receipt and review of comments on a Discussion Paper, what will be the next step undertaken by
the IASB?
A  Publication of an Exposure Draft
B  Establishment of an Advisory Committee
C  Consultation with the Advisory Committee
D  Issue of a final IFRS  (2 marks)
2  Which one of the following would notbe an advantage of adopting IFRS?
A  It would be easier for investors to compare the financial statements of companies with those of
foreign competitors.
B  Cross-border listing would be facilitated.
C  Accountants and auditors would have more defence in case of litigation.
D  Multinational companies could more easily transfer accounting staff across national borders.
(2 marks)
3  Which of the following statements regarding systems of regulation of accounting are true?
(i)  A principles-based system is more prescriptive than a rules-based system.
(ii)  A rules-based system will require more detailed regulations than a principles-based system.
(iii)  A principles-based system will tend to give rise to a larger number of accounting standards than a
rules-based system.
(iv)  A rules-based system seeks to cover every eventuality.
(v)  A rules-based system requires the exercise of more judgement in application than a principles –
based system.
A  (i) and (iii)
B  (ii) and (iv)
C  (i), (ii) and (v)
D  (iii), (iv) and (v)  (2 marks)
5 Baxen (6/12 amended)  27 mins
(a)  The US is currently contemplating the transition to IFRS. US GAAP is regarded by many in the US as the
'gold standard'. It is detailed and rules-based and in many cases industry-specific and there is a perception
among some that the adoption of IFRS will compromise the quality of financial reporting.
Required
(i)  Explain in what ways IFRS differs from US GAAP, as described above.
(ii)  Discuss the advantages that a country may gain from transitioning to IFRS.  (9 marks)
(b)  Baxen is a public listed company that currently uses local Accounting Standards for its financial reporting.
The board of directors of Baxen is considering the adoption of International Financial Reporting Standards
(IFRS) in the near future. The company has ambitious growth plans which involve extensive trading with
many foreign companies and the possibility of acquiring at least one of its trading partners as a subsidiary in
the near future.
Required
Identify the advantages that Baxen could gain by adopting IFRS for its financial reporting purposes.
(6 marks)
(Total = 15 marks)
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6  Questions
6 Regulatory framework (2.5 12/04 amended)  27 mins
Historically financial reporting throughout the world has differed widely. The IFRS Foundation is committed to
developing, in the public interest, a single set of high quality, understandable and enforceable global accounting
standards that require transparent and comparable information in general purpose financial statements. The various
pronouncements of the IFRS Foundation are sometimes collectively referred to as International Financial Reporting
Standards (IFRS) GAAP.
Required
(a)  Describe the IFRS Foundation's standard setting process including how standards are produced, enforced
and occasionally supplemented.  (10 marks)
(b)  Comment on whether you feel the move to date towards global accounting standards has been successful.
(5 marks)
(Total = 15 marks)
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Questions  7
7 Multiple choice questions – presentation of published
financial statements
1  Which one of the following would not necessarilylead to a liability being classified as a current liability?
A  The liability is expected to be settled in the course of the entity's normal operating cycle.
B  The liability has arisen during the current accounting period.
C  The liability is held primarily for the purpose of trading.
D  The liability is due to be settled within 12 months after the end of the reporting period.
(2 marks)
2  Which one of the following would be shown in the 'other comprehensive income' section of the
statement of profit or loss and other comprehensive income?
A  A revaluation gain on an investment property
B  Profit on sale of an investment
C  Receipt of a government grant
D  Gain on revaluation of a factory building  (2 marks)
3  Which of the following are notitems required by IAS 1 Presentation of Financial Statements to be
shown on the face of the statement of financial position?
A Inventories
B Provisions
C Government grants
D  Intangible assets  (2 marks)
4  How does IAS 1 define the 'operating cycle' of an entity?
A  The time between acquisition of assets for processing and delivery of finished goods to
customers
B  The time between delivery of finished goods and receipt of cash from customers
C  The time between acquisition of assets for processing and payment of cash to suppliers
D  The time between acquisition of assets for processing and receipt of cash from customers
(2 marks)
5  Where are equity dividends paid presented in the financial statements?
A  As a deduction from retained earnings in the statement of changes in equity
B  As a liability in the statement of financial position
C  As an expense in profit or loss
D  As a loss in 'other comprehensive income'  (2 marks)
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8  Questions
8 Preparation question: Candel (12/08)
The following trial balance relates to Candel at 30 September 20X8.
$'000    $'000
Leasehold property – at valuation 1 October 20X7 (Note 1)    50,000
Plant and equipment – at cost (Note 1)    76,600
Plant and equipment – accumulated depreciation at 1 October 20X7    24,600
Capitalised development expenditure – at 1 October 20X7 (Note 2)    20,000
Development expenditure – accumulated amortisation at 1 October 20X7    6,000
Closing inventory at 30 September 20X8    20,000
Trade receivables    43,100
Bank      1,300
Trade payables and provisions (Note 3)    23,800
Revenue (Note 1)    300,000
Cost of sales    204,000
Distribution costs    14,500
Administrative expenses (Note 3)    22,200
Preference dividend paid    800
Interest on bank borrowings  200
Equity dividend paid    6,000
Research and development costs (Note 2)    8,600
Equity shares of 25 cents each    50,000
8% redeemable preference shares of $1 each (Note 4)    20,000
Retained earnings at 1 October 20X7    24,500
Deferred tax (Note 5)    5,800
Leasehold property revaluation reserve      10,000
466,000    466,000
Notes
The following notes are relevant.
1  Non-current assets – tangible:
The leasehold property had a remaining life of 20 years at 1 October 20X7. The company's policy is to
revalue its property at each year end and at 30 September 20X8 it was valued at $43 million. Ignore deferred
tax on the revaluation.
On 1 October 20X7 an item of plant was disposed of for $2.5 million cash. The proceeds have been treated
as sales revenue by Candel. The plant is still included in the above trial balance figures at its cost of
$8 million and accumulated depreciation of $4 million (to the date of disposal).
All plant is depreciated at 20% per annum using the reducing balance method. Depreciation and
amortisation of all non-current assets is charged to cost of sales.
2  Non-current assets – intangible:
In addition to the capitalised development expenditure (of $20 million), further research and development
costs were incurred on a new project which commenced on 1 October 20X7. The research stage of the new
project lasted until 31 December 20X7 and incurred $1·4 million of costs. From that date the project incurred
development costs of $800,000 per month. On 1 April 20X8 the directors became confident that the project
would be successful and yield a profit well in excess of its costs. The project is still in development at
30 September 20X8.
Capitalised development expenditure is amortised at20% per annum using the straight-line method. All
expensed research and development is charged to cost of sales.
3  Candel is being sued by a customer for $2 million for breach of contract over a cancelled order. Candel has
obtained legal opinion that there is a 20% chance that Candel will lose the case. Accordingly Candel has
provided $400,000 ($2 million 20%) included in administrative expenses in respect of the claim. The
unrecoverable legal costs of defending the action are estimated at $100,000. These have not been provided
for as the legal action will not go to court until next year.
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Questions  9
4  The preference shares were issued on 1 April 20X8 at par. They are redeemable at a large premium which
gives them an effective finance cost of 12% per annum.
5  The directors have estimated the provision for income tax for the year ended 30 September 20X8 at
$11.4 million. The required deferred tax provision at 30 September 20X8 is $6 million.
Required
(a)  Prepare the statement of profit or loss and other comprehensive income for the year ended
30 September 20X8.
(b)  Prepare the statement of changes in equity for the year ended 30 September 20X8.
(c)  Prepare the statement of financial position as at 30 September 20X8.
Note.Notes to the financial statements are not required.
9 Preparation question: Dexon
Below is the summarised draft statement of financial position of Dexon, a publicly listed company, as at
31 March 20X8.
$'000 $'000 $'000
ASSETS
Non-current assets
Property at valuation (land $20,000; buildings $165,000 (Note 2)    185,000
Plant (Note 2)    180,500
Financial assets at fair value through profit or loss at 1 April 20X7 (Note 3)  12,500
378,000
Current assets
Inventory   84,000
Trade receivables (Note 4)   52,200
Bank   3,800 140,000
Total assets    518,000
EQUITY AND LIABILITIES
Equity
Ordinary shares of $1 each    250,000
Share premium   40,000
Revaluation surplus   18,000
Retained earnings  – At 1 April 20X7  12,300
– For the year ended 31 March 20X8   96,700 109,000 167,000
417,000
Non-current liabilities
Deferred tax – at 1 April 20X7 (Note 5)    19,200
Current liabilities    81,800
Total equity and liabilities    518,000
Notes
The following information is relevant.
1  Dexon's statement of profit or loss includes $8 million of revenue for credit sales made on a 'sale or return'
basis. At 31 March 20X8, customers who had not paid for the goods, had the right to return $2.6 million of
them. Dexon applied a mark up on cost of 30% on all these sales. In the past, Dexon's customers have
sometimes returned goods under this type of agreement.
2  The non-current assets have not been depreciated for the year ended 31 March 20X8.
Dexon has a policy of revaluing its land and buildings at the end of each accounting year. The values in the
above statement of financial position are as at 1 April 20X7 when the buildings had a remaining life of 15
years. A qualified surveyor has valued the land and buildings at 31 March 20X8 at $180 million.
Plant is depreciated at 20% on the reducing balance basis.
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10  Questions
3  The financial assets at fair value through profit and loss are held in a fund whose value changes directly in
proportion to a specified market index. At 1 April 20X7 the relevant index was 1,200 and at 31 March 20X8 it
was 1,296.
4  In late March 20X8 the directors of Dexon discovered a material fraud perpetrated by the company's credit
controller that had been continuing for some time. Investigations revealed that a total of $4 million of the
trade receivables as shown in the statement of financial position at 31 March 20X8 had in fact been paid and
the money had been stolen by the credit controller. Ananalysis revealed that $1.5 million had been stolen in
the year to 31 March 20X7 with the rest being stolen inthe current year. Dexon is not insured for this loss
and it cannot be recovered from the credit controller, nor is it deductible for tax purposes.
5  During the year the company's taxable temporary differences increased by $10 million of which $6 million
related to the revaluation of the property. The deferred tax relating to the remainder of the increase in the
temporary differences should be taken to profit or loss. The applicable income tax rate is 20%.
6  The above figures do not include the estimated provision for income tax on the profit for the year ended
31 March 20X8. After allowing for any adjustments required in items 1 to 4, the directors have estimated the
provision at $11.4 million (this is in addition to the deferred tax effects of item 5).
7  On 1 September 20X7 there was a fully subscribed rights issue of one new share for every four held at a
price of $1.20 each. The proceeds of the issue have been received and the issue of the shares has been
correctly accounted for in the above statement of financial position.
8  In May 20X7 a dividend of 4 cents per share was paid. In November 20X7 (after the rights issue in item 7
above) a further dividend of 3 cents per share was paid. Both dividends have been correctly accounted for in
the above statement of financial position.
Required
Taking into account any adjustments required by items 1 to 8 above:
(a)  Prepare a statement showing the recalculation of Dexon's profit for the year ended 31 March 20X8
(b)  Prepare the statement of changes in equity of Dexon for the year ended 31 March 20X8
(c)  Redraft the statement of financial position of Dexon as at 31 March 20X8
Note.Notes to the financial statements are notrequired.
10 Highwood (6/11 amended)  54 mins
The following trial balance relates to Highwood at 31 March 20X6:
$'000 $'000
Equity shares of 50 cents each   56,000
Retained earnings (Note 1)   1,400
8% convertible loan note (Note 2)   30,000  Freehold property – at cost 1 April 20X0 (land element $25 million (Note 3)  75,000   Plant and equipment – at cost  74,500
Accumulated depreciation – 1 April 20X5 – building   10,000
 – plant and equipment   24,500  Current tax (Note 4)   800
Deferred tax (Note 4)   2,600  Inventory – 4 April 20X6 (Note 5)  36,000   Trade receivables  47,100
Bank  11,500
Trade payables   24,500
Revenue 339,650  Cost of sales  207,750   Distribution costs  27,500   Administrative expenses (Note 6)  30,700
Loan interest paid (Note 2)  __ 2,400
__
500,950 500,950
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Questions  11
Notes
The following notes are relevant.
1  An equity dividend of 5 cents per share was paid in November 20X5 and charged to retained earnings.
2  The 8% $30 million convertible loan note was issued on 1 April 20X5 at par. Interest is payable annually in
arrears on 31 March each year. The loan note is redeemable at par on 31 March 20X8 or convertible into
equity shares at the option of the loan note holders on the basis of 30 equity shares for each $100 of loan
note. Highwood's finance director has calculated that toissue an equivalent loan note without the conversion
rights it would have to pay an interest rate of 10% per annum to attract investors.
The present value of $1 receivable at the end of each year, based on discount rates of 8% and 10% are:
8% 10%
End of year 1  0.93  0.91
2  0.86  0.83
3  0.79  0.75
3  Non-current assets:
On 1 April 20X5 Highwood decided for the first time to value its freehold property at its current value. A
qualified property valuer reported that the market value of the freehold property on this date was $80 million,
of which $30 million related to the land. At this date the remaining estimated life of the property was 20
years. Highwood does not make a transfer to retained earnings in respect of excess depreciation on the
revaluation of its assets.
Plant is depreciated at 20% per annum on the reducing balance method.
All depreciation of non-current assets is charged to cost of sales.
4  The balance on current tax represents the under/over provision of the tax liability for the year ended
31 March 20X5. The required provision for income tax for the year ended 31 March 20X6 is $19.4 million.
The difference between the carrying amounts of the net assets of Highwood (including the revaluation of the
property in Note 3 above) and their (lower) tax base at 31 March 20X6 is $27 million. Highwood's rate of
income tax is 25%.
5  The inventory of Highwood was not counted until 4 April 20X6 due to operational reasons. At this date its
value at cost was $36 million and this figure has been used in the cost of sales calculation above. Between
the year end of 31 March 20X6 and 4 April 20X6, Highwood received a delivery of goods at a cost of
$2.7 million and made sales of $7.8 million at a mark-up on cost of 30%. Neither the goods delivered nor
the sales made in this period were included in Highwood's purchases (as part of cost of sales) or revenue in
the above trial balance.
6  On 31 March 20X6 Highwood factored (sold) trade receivables with a book value of $10 million to
Easyfinance. Highwood received an immediate payment of $8.7 million and will pay Easyfinance 2% per
month on any uncollected balances. Any of the factored receivables outstanding after six months will be
refunded to Easyfinance. Highwood has derecognised the receivables and charged $1.3 million to
administrative expenses. If Highwood had not factored these receivables it would have made an allowance of
$600,000 against them.
Required
(a)  Prepare the statement of profit or loss and other comprehensive income for Highwood for the year ended
31 March 20X6.  (11 marks)
(b)  Prepare the statement of changes in equity for Highwood for the year ended 31 March 20X6.  (4 marks)
(c)  Prepare the statement of financial position of Highwood as at 31 March 20X6.  (10 marks)
(d)  Prepare the basic and diluted EPS of Highwood for the year ended 31 March 20X6.  (5 marks)
(Total = 30 marks)
Note.Apart from EPS your answers and workings should be presented to the nearest $1,000; notes to the financial
statements are not required.
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12  Questions
11 Keystone (12/11 amended)  54 mins
The following trial balance relates to Keystone at 30 September 20X1:
$'000  $'000
Revenue (Note 1)    380,000
Material purchases (Note 2)  64,000
Production labour (Note 2)  124,000
Factory overheads (Note 2)  80,000
Distribution costs  14,200
Administrative expenses (Note 3)  46,400
Finance costs  350
Investment income    800
Leased property – at cost (Note 2)  50,000
Plant and equipment – at cost (Note 2)  44,500
Accumulated amortisation/depreciation at 1 October 20X0
– leased property    10,000
– plant and equipment    14,500
Financial asset: equity investments (Note 5)  18,000
Inventory at 1 October 20X0  46,700
Trade receivables  33,550
Trade payables    27,800
Bank  2,300
Equity shares of 20 cents each    50,000
Retained earnings at 1 October 20X0    33,600
Deferred tax (Note 6)        2,700
521,700 521,700
Notes
The following notes are relevant:
1  Revenue includes goods sold and despatched in September 20X1 on a 30-day right of return basis. Their
selling price was $2.4 million and they were sold at a gross profit margin of 25%. Keystone is uncertain as
to whether any of these goods will be returned within the 30-day period.
2 Non-current assets:
During the year Keystone manufactured an item of plant for its own use. The direct materials and labour
were $3 million and $4 million respectively. Production overheads are 75% of direct labour cost and
Keystone determines the final selling price for goods by adding a mark-up on total cost of 40%. These
manufacturing costs are included in the relevant expense items in the trial balance. The plant was completed
and put into immediate use on 1 April 20X1.
All plant and equipment is depreciated at 20% per annum using the reducing balance method with time
apportionment in the year of acquisition.
The directors decided to revalue the leased property in line with recent increases in market values. On
1 October 20X0 an independent surveyor valued the leased property at $48 million, which the directors have
accepted. The leased property was being amortised over an original life of 20 years which has not changed.
Keystone does not make a transfer to retained earnings in respect of excess amortisation. The revaluation
gain will create a deferred tax liability (see Note 6).
All depreciation and amortisation is charged to cost ofsales. No depreciation or amortisation has yet been
charged on any non-current asset for the year ended 30 September 20X1.
3  On 15 August 20X1, Keystone's share price stood at $2.40 per share. On this date Keystone paid a dividend
(included in administrative expenses) that was calculated to give a dividend yield of 4%.
4  The inventory on Keystone's premises at 30 September 20X1 was counted and valued at cost of
$54.8 million.
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Questions  13
5  The equity investments had a fair value of $17.4 million on 30 September 20X1. There were no purchases or
disposals of any of these investments during the year. Keystone has not made the election in accordance
with IFRS 9 Financial Instruments. Keystone adopts this standard when accounting for its financial assets.
6  A provision for income tax for the year ended 30 September 20X1 of $24.3 million is required. At
30 September 20X1, the tax base of Keystone's net assets was $15 million less than their carrying amounts.
This excludes the effects of the revaluation of the leased property. The income tax rate of Keystone is 30%.
7  On 1 June 20X1 Keystone made a 1 for 4 bonus issue, utilising the share premium account. The issue was
correctly accounted for.
Required
(a)  Prepare the statement of profit or loss and other comprehensive income for Keystone for the year ended
30 September 20X1.  (15 marks)
(b)  Prepare the statement of changes in equity for Keystone for the year ended 30 September 20X1.  (6 marks)
(c)  Prepare the statement of financial position for Keystone as at 30 September 20X1.  (9 marks)
Notes to the financial statements are not required.  (Total = 30 marks)
12 Fresco (6/12 amended)  54 mins
The following trial balance relates to Fresco at 31 March 20X2:
$'000  $'000
Equity shares of 50 cents each (Note 1)   45,000
Share premium (Note 1)   5,000
Retained earnings at 1 April 20X1   5,100
Leased property (12 years) – at cost (Note 2)  48,000
Plant and equipment – at cost (Note 2)   47,500
Accumulated amortisation of leased property at 1 April 20X1   16,000
Accumulated depreciation of plant and equipment at 1 April 20X1  33,500
Inventory at 31 March 20X2  25,200
Trade receivables (Note 3)   28,500
Bank   1,400
Deferred tax (Note 4)   3,200
Trade payables    27,300
Revenue   350,000
Cost of sales  298,700
Lease payments (Note 2)  8,000
Distribution costs   16,100
Administrative expenses  26,900
Bank interest  300
Current tax (Note 4)  800
Suspense account (Note 1)    13,500
500,000  500,000
Notes
The following notes are relevant:
1  The suspense account represents the corresponding credit for cash received for a fully subscribed rights
issue of equity shares made on 1 January 20X2. The terms of the share issue were one new share for every
five held at a price of 75 cents each. The price of the company's equity shares immediately before the issue
was $1.20 each.
2 Non-current assets:
To reflect a marked increase in property prices, Fresco decided to revalue its leased property on 1 April
20X1. The directors accepted the report of an independent surveyor who valued the leased property at $36
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14  Questions
million on that date. Fresco has not yet recorded the revaluation. The remaining life of the leased property is
eight years at the date of the revaluation. Fresco makes anannual transfer to retained profits to reflect the
realisation of the revaluation surplus. In Fresco's tax jurisdiction the revaluation does not give rise to a
deferred tax liability.
On 1 April 20X1, Fresco acquired an item of plant under a finance lease agreement that had an implicit
finance cost of 10% per annum. The lease payments in the trial balance represent an initial deposit of $2
million paid on 1 April 20X1 and the first annual rental of $6 million paid on 31 March 20X2. The lease
agreement requires further annual payments of $6 million on 31 March each year for the next four years.
Had the plant not been leased it would have cost $25 million to purchase for cash.
Plant and equipment (other than the leased plant) is depreciated at 20% per annum using the reducing
balance method.
No depreciation/amortisation has yet been charged on any non-current asset for the year ended 31 March
20X2. Depreciation and amortisation are charged to cost of sales.
3  In March 20X2, Fresco's internal audit department discovered a fraud committed by the company's credit
controller who did not return from a foreign business trip. The outcome of the fraud is that $4 million of the
company's trade receivables have been stolen by the credit controller and are not recoverable. Of this
amount, $1 million relates to the year ended 31 March 20X1 and the remainder to the current year. Fresco is
not insured against this fraud.
4  Fresco's income tax calculation for the year ended 31 March 20X2 shows a tax refund of $2.4 million. The
balance on current tax in the trial balance represents the under/over provision of the tax liability for the year
ended 31 March 20X1. At 31 March 20X2, Fresco had taxable temporary differences of $12 million
(requiring a deferred tax liability). The income tax rate of Fresco is 25%.
Required:
(a)  (i)  Prepare the statement of profit or loss and other comprehensive income for Fresco for the year
ended 31 March 20X2.  (9 marks)
(ii)  Prepare the statement of changes in equity for Fresco for the year ended 31 March 20X2.  (5 marks)
(iii)  Prepare the statement of financial position of Fresco as at 31 March 20X2.  (8 marks)
(b)  Calculate the basic earnings per share for Fresco for the year ended 31 March 20X2.  (3 marks)
Notes to the financial statements are not required.
(c)  Explain why a company such as Fresco may decide torevalue non-current assets and what the requirements
are for revaluations as set out in IAS 16 Property, Plant and Equipment.  (5 marks)
(Total = 30 marks)
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Questions  15
13 Multiple choice questions – non-current assets
1  Kaplow purchased a machine for $30,000 on 1 January 20X5 and assigned it a useful life of 12 years. On 31
March 20X7 it was revalued to $32,000 with no change in useful life.
What will be depreciation charge in relation to this machine in the financial statements of Kaplow for the year
ending of 31 December 20X7?
A $3,087
B $2,462
C $2,500
D $3,200  (2 marks)
2  Foster has built a new factory incurring the following costs:
$'000
Land  1,200
Materials  2,400
Labour  3,000
Architect's fees  25
Surveyor's fees  15
Site overheads  300
Apportioned administrative overheads  150
Testing of fire alarms  10
Business rates for first year   12
7,112
What will be the total amount capitalised in respect of the factory?
A $6,112,000
B $6,950,000
C $7,112,000
D $7,100,000  (2 marks)
3  Capita had the following bank loans outstanding during the whole of 20X8:
$m
9% loan repayable 20X9  15
11% loan repayable 20Y2  24
Capita began construction of a qualifying asset on 1 April 20X8 and withdrew funds of $6 million on that
date to fund construction. On 1 August 20X8 an additional $2 million was withdrawn for the same purpose.
Calculate the borrowing costs which can be capitalised in respect of this project for the year ended
31 December 20X8.
A $560,000
B $472,500
C $750,000
D $350,000  (2 marks)
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16  Questions
4  Following a delayering exercise, Carter vacated an office building and let it out to a third party on
30 June 20X8. The building had an original cost of $900,000 on 1 January 20X0 and was being depreciated
over 50 years. It was judged to have a fair value on 30 June 20X8 of $950,000. At the year end date of 31
December 20X8 the fair value of the building was estimated at $1.2 million.
Carter uses the fair value model for investment property.
What amount will be shown in revaluation surplus at31 December 20X8 in respect of this building?
A $417,000
B $300,000
C $250,000
D $203,000  (2 marks)
5  Leclerc has borrowed $2.4 million to finance the building of a factory. Construction is expected to take
two years. The loan was drawn down and incurred on 1 January 20X9 and work began on
1 March 20X9. $1 million of the loan was not utilised until 1 July 20X9 so Leclerc was able to invest it
until needed.
Leclerc is paying 8% on the loan and can invest surplus funds at 6%.
Calculate the borrowing costs to be capitalised for the year ended 31 December 20X9 in respect of this
project.
A $130,000
B $192,000
C $100,000
D $162,000  (2 marks)
6  Which one of the following would be recognised as an investment property under IAS 40 in the
consolidated financial statements of Buildco?
A  A property intended for sale in the ordinary course of business
B  A property being constructed for a customer
C  A property held by Buildco under a finance lease and leased out under an operating lease
D  A property owned by Buildco and leased out to a subsidiary  (2 marks)
7  Which one of the following is not trueconcerning the treatment of investment properties under IAS
40?
A  Following initial recognition, investment property can be held at either cost or fair value.
B  If an investment property is held at fair value, this must be applied to all of the entity's
investment property.
C  An investment property is initially measured at cost, including transaction costs.
D  A gain or loss arising from a change in the fair value of an investment property should be
recognised in other comprehensive income.  (2 marks)
8  A company has the following loans in place throughout the year ended 31 December 20X8.
 $m  10% bank loan  140
8% bank loan  200
On 1 July 20X8 $50 million was drawn down for construction of a qualifying asset which was completed
during 20X9.
What amount should be capitalised as borrowing costs at 31 December 20X8 in respect of this asset?
A $5.6 million
B $2.8 million
C $4.4 million
D $2.2 million  (2 marks)
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Questions  17
9  Wetherby purchased a machine on 1 July 20X7 for $500,000. It is being depreciated on a straight line
basis over its expected life of ten years. Residual value is estimated at $20,000. On 1 January 20X8,
following a change in legislation, Wetherby fitted a safety guard to the machine. The safety guard cost
$25,000 and has a useful life of five years with no residual value.
What amount will be charged to profit or loss for the year ended 31 March 20X8 in respect of
depreciation on this machine?
A $38,750
B $37,250
C $41,000
D $39,750  (2 marks)
10  An aircraft requires a planned overhaul each year at a cost of $5,000. This is a condition of being
allowed to fly.
How should the cost of the overhaul be treated in the financial statements?
A  Accrued for over the year and charged to maintenance expenses
B  Provided for in advance and charged to maintenance expenses
C  Capitalised and depreciated over the period to the next overhaul
D  Charged to profit or loss when the expenditure takes place  (2 marks)
14 Preparation question: Plethora plc
The draft financial statements of Plethora plc for the year to 31 December 20X9 are being prepared and the
accountant has requested your advice on dealing with the following issues.
(a)  Plethora plc has an administration building which it no longer needs following a delayering exercise. On
1 July 20X9 Plethora plc entered into an agreement to let the building out to another company. The building
cost $600,000 on 1 January 20X0 and is being depreciatedover 50 years. Plethora plc applies the fair value
model under IAS 40 and the fair value of the building was judged to be $800,000 on 1 July 20X9. This
valuation had not changed at 31 December 20X9.
Another building has been let out for a number of years. It had a fair value of $550,000 at
31 December 20X8 and $740,000 at 31 December 20X9.
Required
Explain how these two buildings should be accounted for in the financial statements of Plethora plc for the
year to 31 December 20X9 and quantify the amounts involved.
(b)  Plethora plc owns a retail business which has suffered badly during the recession. Plethora plc treats this
business as a separate cash generating unit.
The carrying amounts of the assets comprising the retail business are:
$'000
Building 900
Plant and equipment  300
Inventory 70
Other current assets  130
Goodwill 40
An impairment review has been carried out as at 31 December 20X9 and the recoverable amount of the cash
generating unit is estimated at $1.3m.
Required
Restate the carrying amounts of the assets of the retail business after accounting for the result of the
impairment review.
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18  Questions
15 Dearing (12/08 amended)  27 mins
(a)  On 1 October 20X5 Dearing acquired a machine under the following terms.
Hours  $
Manufacturer's base price   1,050,000
Trade discount (applying to base price only)   20%
Early settlement discount taken (on the payable amount of the base cost
only)
5%
Freight charges   30,000
Electrical installation cost   28,000
Staff training in use of machine   40,000
Pre-production testing   22,000
Purchase of a three-year maintenance contract   60,000
Estimated residual value   20,000
Estimated life in machine hours  6,000
Hours used – year ended 30 September 20X6  1,200
 – year ended 30 September 20X7  1,800
 – year ended 30 September 20X8 (see below)  850
On 1 October 20X7 Dearing decided to upgrade the machine by adding new components at a cost of
$200,000. This upgrade led to a reduction in the production time per unit of the goods being manufactured
using the machine. The upgrade also increased the estimated remaining life of the machine at 1 October
20X7 to 4,500 machine hours and its estimated residual value was revised to $40,000.
Required
Prepare extracts from the statement of profit or loss and statement of financial position for the above
machine for each of the three years to 30 September 20X8.  (10 marks)
(b)  Dearing is building a new warehouse. The directors are aware that in accordance with IAS 23 Borrowing
costscertain borrowing costs have to be capitalised.
Required
Explain the circumstances when, and the amount at which, borrowing costs should be capitalised in
accordance with IAS 23.  (5 marks)
(Total = 15 marks)
16 Flightline (6/09 amended)  27 mins
(a)  Explain what is meant by a 'complex' non-current asset and explain briefly how IAS 16 requires expenditure
on complex non-current assets to be accounted for.  (5 marks)
(b)  Flightline is an airline which treats its aircraft as complex non-current assets. The cost and other details of
one of its aircraft are:
$'000  Estimated life
Exterior structure – purchase date 1 April 20W5*  120,000  20 years
Interior cabin fittings – replaced 1 April 20X5  25,000  5 years
Engines (2 at $9 million each) – replaced 1 April 20X5  18,000  36,000 flying hours
*Ten years before 20X5
No residual values are attributed to any of the component parts.
At 1 April 20X8 the aircraft log showed it had flown 10,800 hours since 1 April 20X5. In the year ended
31 March 20X9, the aircraft flew for 1,200 hours for the six months to 30 September 20X8 and a further
1,000 hours in the six months to 31 March 20X9.
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Questions  19
On 1 October 20X8 the aircraft suffered a 'bird strike' accident which damaged one of the engines beyond
repair. This was replaced by a new engine with a life of 36,000 hours at cost of $10.8 million. The other
engine was also damaged, but was repaired at a cost of $3 million; however, its remaining estimated life was
shortened to 15,000 hours. The accident also caused cosmetic damage to the exterior of the aircraft which
required repainting at a cost of $2 million. As the aircraft was out of service for some weeks due to the
accident, Flightline took the opportunity to upgrade its cabin facilities at a cost of $4.5 million. This did not
increase the estimated remaining life of the cabin fittings, but the improved facilities enabled Flightline to
substantially increase the air fares on this aircraft
Required
Calculate the charges to profit or loss in respect of the aircraft for the year ended 31 March 20X9 and its
carrying amount in the statement of financial position as at that date.
Note.The post accident changes are deemed effective from 1 October 20X8.  (10 marks)
(Total = 15 marks)
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20  Questions
17 Multiple choice questions – intangible assets
1  Geek is developing a new product and expects to be able to capitalise the costs. Which one of the
following would preclude capitalisation of the costs?
A  Development of the product is not yet complete.
B  No patent has yet been registered in respect of the product.
C  No sales contracts have yet been signed in relation to the product.
D  It has not been possible to reliably allocate costs to development of the product.  (2 marks)
2  A company had $20 million of capitalised development expenditure at cost brought forward at 1 October
20X7 in respect of products currently in production and a new project began on the same date.
The research stage of the new project lasted until 31 December 20X7 and incurred $1.4 million of
costs. From that date the project incurred development costs of $800,000 per month. On 1 April 20X8
the directors became confident that the project would be successful and yield a profit well in excess of
costs. The project was still in development at 30 September 20X8. Capitalised development
expenditure is amortised at 20% per annum using the straight line method.
What amount will be charged to profit or loss for the year ended 30 September 20X8 in respect of
research and development costs?
A $8,280,000
B $6,880,000
C $7,800,000
D $3,800,000  (2 marks)
3  Which one of the following internally-generated items may be eligible for capitalisation as intangible
assets in accordance with IAS 38 Intangible Assets? (Ignore business combinations.)
A  A customer list
B  A pre-production prototype
C Goodwill
D  The cost of researching new material  (2 marks)
4  At 30 September 20X9 Sandown's trial balance showed a brand at cost of $30 million, less accumulated
amortisation brought forward at 1 October 20X8 of $9 million. Amortisation is based on a ten-year useful
life. An impairment review on 1 April 20X9 concluded that the brand had a value in use of $12 million and a
remaining useful life of three years. However, on the same date Sandown received an offer to purchase the
brand for $15 million.
What should be the carrying amount of the brand in the statement of financial position of Sandown as at
30 September 20X9?
A $12,500,000
B $14,250,000
C $15,000,000
D $10,000,000  (2 marks)
18 Emerald (12/07 amended)  27 mins
(a)  In accordance with IAS 38, briefly discuss whether intangible assets should be recognised, and if so how
they should be initially recorded and subsequently amortised in the following circumstances:
(i)  When they are purchased separately from other assets
(ii)  When they are obtained as part of acquiring the whole of a business
(iii)  When they are developed internally
(5 marks)
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Questions  21
Note. Your answer should consider goodwill separately from other intangibles.
(b)  Product development costs are a material cost for many companies. They are either written off as an
expense or capitalised as an asset.
Required
Discuss the conceptual issues involved and the definition of an asset that may be applied in determining
whether development expenditure should be treated as an expense or an asset.  (4 marks)
(c)  Emerald has had a policy of writing off development expenditure to profit or loss as it was incurred. In
preparing its financial statements for the year ended 30 September 20X7 it has become aware that, under
IFRS rules, qualifying development expenditure should be treated as an intangible asset. Below is the
qualifying development expenditure for Emerald:
$'000
Year ended 30 September 20X4  300
Year ended 30 September 20X5  240
Year ended 30 September 20X6  800
Year ended 30 September 20X7  400
All capitalised development expenditure is deemed to have a four year life. Assume amortisation commences
at the beginning of the accounting period following capitalisation. Emerald had no development expenditure
before that for the year ended 30 September 20X4.
Required
Treating the above as the correction of an error in applying an accounting policy, calculate the amounts
which should appear in the statement of profit or loss and statement of financial position (including
comparative figures), and statement of changes in equity of Emerald in respect of the development
expenditure for the year ended 30 September 20X7.
Note.Ignore taxation.  (6 marks)
(Total = 15 marks)
19 Dexterity (2.5 6/04 amended)  27 mins
Dexterity is a public listed company. It has been considering the accounting treatment of its intangible assets and
has asked for your opinion on how the matters below should be treated in its financial statements for the year to 31
March 20X4.
(i)  On 1 October 20X3 Dexterity acquired Temerity, a small company that specialises in pharmaceutical drug
research and development. The purchase consideration was by way of a share exchange and valued at $35
million. The fair value of Temerity's net assets was $15 million (excluding any items referred to below).
Temerity owns a patent for an established successful drug that has a remaining life of eight years. A firm of
specialist advisors, Leadbrand, has estimated the current value of this patent to be $10 million, however the
company is awaiting the outcome of clinical trials where the drug has been tested to treat a different illness.
If the trials are successful, the value of the drug is thenestimated to be $15 million. Also included in the
company's statement of financial position is $2 million for medical research that has been conducted on
behalf of a client.  (4 marks)
(ii)  Dexterity has developed and patented a new drug which has been approved for clinical use. The costs of
developing the drug were $12 million. Based on early assessments of its sales success, Leadbrand have
estimated its market value at $20 million.  (3 marks)
(iii)  Dexterity's manufacturing facilities have recently received a favourable inspection by government medical
scientists. As a result of this the company has been granted an exclusive five-year licence to manufacture
and distribute a new vaccine. Although the licence had no direct cost to Dexterity, its directors feel its
granting is a reflection of the company's standing and have asked Leadbrand to value the licence.
Accordingly they have placed a value of $10 million on it.  (3 marks)
(iv)  In the current accounting period, Dexterity has spent $3 million sending its staff on specialist training
courses. Whilst these courses have been expensive, they have led to a marked improvement in production
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22  Questions
quality and staff now need less supervision. This in turn has led to an increase in revenue and cost
reductions. The directors of Dexterity believe these benefits will continue for at least three years and wish to
treat the training costs as an asset.  (2 marks)
(v)  In December 20X3, Dexterity paid $5 million for a television advertising campaign for its products that will
run for 6 months from 1 January 20X4 to 30 June 20X4. The directors believe that increased sales as a  result of the publicity will continue for two years from the start of the advertisements.
Required
Explain how the directors of Dexterity should treat the above items in the financial statements for the year to
31 March 20X4.  (3 marks)
(Total =15 marks)
Note.The values given by Leadbrand can be taken as being reliable measurements. You are not required to
consider depreciation aspects.
20 Darby (12/09)  27 mins
(a)  An assistant of yours has been criticised over a piece of assessed work that he produced for his study
course for giving the definition of a non-current asset as 'a physical asset of substantial cost, owned by the
company, which will last longer than one year'.
Required
Provide an explanation to your assistant of the weaknesses in his definition of non-current assets when
compared to the International Accounting Standards Board's (IASB) view of assets.  (4 marks)
(b)  The same assistant has encountered the following matters during the preparation of the draft financial
statements of Darby for the year ending 30 September 20X9. He has given an explanation of his treatment of
them:
(i)  Darby spent $200,000 sending its staff on training courses during the year. This has already led to an
improvement in the company's efficiency and resulted in cost savings. The organiser of the course
has stated that the benefits from the training should last for a minimum of four years. The assistant
has therefore treated the cost of the training as an intangible asset and charged six months'
amortisation based on the average date during the year on which the training courses were
completed.  (3 marks)
(ii)  During the year the company started research work with a view to the eventual development of a new
processor chip. By 30 September 20X9 it had spent $1.6 million on this project. Darby has a past
history of being particularly successful in bringing similar projects to a profitable conclusion. As a
consequence the assistant has treated the expenditureto date on this project as an asset in the
statement of financial position.
Darby was also commissioned by a customer to research and, if feasible, produce a computer
system to install in motor vehicles that can automatically stop the vehicle if it is about to be involved
in a collision. At 30 September 20X9, Darby had spent $2.4 million on this project, but at this date it
was uncertain as to whether the project would be successful. As a consequence the assistant has
treated the $2.4 million as an expense in the statement of profit or loss.  (4 marks)
(iii)  Darby signed a contract (for an initial three years) in August 20X9 with a company called Media
Today to install a satellite dish and cabling system to a newly built group of residential apartments.
Media Today will provide telephone and television services to the residents of the apartments via the
satellite system and pay Darby $50,000 per annum commencing in December 20X9. Work on the
installation commenced on 1 September 20X9 and the expenditure to 30 September 20X9 was
$58,000. The installation is expected to be completed by 31 October 20X9. Previous experience with
similar contracts indicates that Darby will make a total profit of $40,000 over the three years on this
initial contract. The assistant correctly recorded the costs to 30 September 20X9 of $58,000 as a
non-current asset, but then wrote this amount down to $40,000 (the expected total profit) because he
believed the asset to be impaired.
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Questions  23
The contract is not a finance lease. Ignore discounting.  (4 marks)
Required
For each of the above items (i) to (iii) comment on the assistant's treatment of them in the financial
statements for the year ended 30 September 20X9 and advise him how they should be treated under
International Financial Reporting Standards.
Note.The mark allocation is shown against each of the three items above.  (Total = 15 marks)
21 Multiple choice questions – impairment of assets
1  A cash-generating unit comprises the following assets:
$'000
Building  700
Plant and equipment  200
Goodwill  90
Current assets  20
1,010
One of the machines, carried at $40,000, is damaged and will have to be scrapped. The recoverable amount
of the cash-generating unit is estimated at $750,000.
What will be the carrying amount of the building when the impairment loss has been recognised?
(to the nearest $'000)
A $597,000
B $577,000
C $594,000
D $548,000  (2 marks)
2  What is the recoverable amountof an asset?
A  Its current market value less costs of disposal
B  The lower of carrying amount and value in use
C  The higher of fair value less costs of disposal and value in use
D  The higher of carrying amount and market value  (2 marks)
3  A machine has a carrying amount of $85,000 at the year end of 31 March 20X9. Its market value is $78,000
and costs of disposal are estimated at $2,500. A new machine would cost $150,000. The company which
owns the machine expects it to produce net cash flows of $30,000 per annum for the next three years. The
company has a cost of capital of 8%.
What is the impairment loss on the machine to be recognised in the financial statements at
31 March 20X9?
A $7,687
B $9,500
C $1,667
D $2,200  (2 marks)
4 IAS 36 Impairment of Assetssuggests how indications of impairment might be recognised.
Which one of the following would notbe an external indicator that one or more of an entity's assets
may be impaired?
A  An unusually significant fall in the market value of an asset
B  Significant change in the technological environment of the business in which the assets are
employed
C  The carrying amount of the entity's net assets being less than its market capitalisation
D  An increase in market interest rates used to calculate value in use  (2 marks)
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24  Questions
5  The following information relates to an item of plant.
 Its carrying amount in the statement of the financial position is $3 million.
 The company has received an offer of $2.7 million from a company in Japan interested in buying the
plant.
 The present value of the estimated cash flows from continued use of the plant is $2.6 million.
 The estimated cost of shipping the plant to Japan is $50,000.
What is the amount of the impairment loss that should be recognised on the plant?
A $350,000
B $300,000
C $400,000
D $450,000  (2 marks)
6  A business which comprises a single cash-generating unit has the following assets.
$m
Goodwill  3
Patent  5
Property  10
Plant and equipment  15
Net current assets  2
35
Following an impairment review it is estimated that the value of the patent is $2 million and the recoverable
amount of the business is $24 million.
At what amount should the property be measured following the impairment review?
A $8 million
B $10 million
C $7 million
D $5 million  (2 marks)
22 Telepath (6/12)  27 mins
(a)  The objective of IAS 36 Impairment of assetsis to prescribe the procedures that an entity applies to ensure
that its assets are not impaired.
Required
Explain what is meant by an impairment review. Your answer should include reference to assets that may
form a cash generating unit.
Note.You are notrequired to describe the indicators of an impairment or how impairment losses are
allocated against assets.  (4 marks)
(b)  (i)  Telepath acquired an item of plant at a cost of $800,000 on 1 April 20X0 that is used to produce and
package pharmaceutical pills. The plant had an estimated residual value of $50,000 and an estimated
life of five years, neither of which has changed. Telepath uses straight-line depreciation. On
31 March 20X2, Telepath was informed by a major customer (who buys products produced by the
plant) that it would no longer be placing orders with Telepath. Even before this information was
known, Telepath had been having difficulty finding work for this plant. It now estimates that net cash
inflows earned from the plant for the next three years will be:
 $'000  Year ended:  31 March 20X3  220
 31 March 20X4  180   31 March 20X5  170
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Questions  25
On 31 March 20X5, the plant is still expected to be sold for its estimated realisable value.
Telepath has confirmed that there is no market in which to sell the plant at 31 March 20X2.
Telepath's cost of capital is 10% and the following values should be used:
Value of $1 at:  $
End of year 1  0.91
End of year 2  0.83
End of year 3  0.75
(ii)  Telepath owned a 100% subsidiary, Tilda, that is treated as a cash generating unit. On
31 March 20X2, there was an industrial accident (a gas explosion) that caused damage to some of
Tilda's plant. The assets of Tilda immediately before the accident were:
$'000
Goodwill  1,800
Patent  1,200
Factory building  4,000
Plant  3,500
Receivables and cash  1,500
12,000
As a result of the accident, the recoverable amount of Tilda is $6.7 million.
The explosion destroyed (to the point of no further use) an item of plant that had a carrying amount
of $500,000.
Tilda has an open offer from a competitor of $1 million for its patent. The receivables and cash are
already stated at their fair values less costs to sell (net realisable values).
Required
Calculate the carrying amounts of the assets in (i) and (ii) above at 31 March 20X2 after applying any
impairment losses.
Calculations should be to the nearest $1,000.
The following mark allocation is provided as guidance for this requirement.
(i)  4 marks
(ii)  7 marks  (11 marks)
(Total = 15 marks)
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26  Questions
23 Multiple choice questions – reporting financial
performance
1  Which one of the following would be treated under IAS 8 Accounting Policies, Changes in Accounting
Estimates and Errorsas a change of accounting policy?
A  A change in valuation of inventory from a weighted average to a FIFO basis
B  A change of depreciation method from straight line to reducing balance
C  Adoption of the revaluation model for non-current assets previously held at cost
D  Capitalisation of borrowing costs which have arisen for the first time  (2 marks)
2  For an asset to be classified as 'held for sale' under IFRS 5 Non-current Assets Held for Sale and
Discontinued Operationsits sale must be 'highly probable'. Which one of the following is nota
requirement if the sale is to be regarded as highly probable?
A  Management must be committed to a plan to sell the asset.
B  A buyer must have been located for the asset.
C  The asset must be marketed at a reasonable price.
D  The sale should be expected to take place withinone year from the date of classification.  (2 marks)
3  At what amount should an asset classified as 'held for sale' be measured?
A  Lower of carrying amount and fair value less costs of disposal
B  Lower of carrying amount and value in use
C  Higher of value in use and fair value less costs of disposal
D  Higher of carrying amount and recoverable amount  (2 marks)
4  Which one of the following events taking place after the year end but before the financial statements were
authorised for issue would require adjustment in accordance with IAS 10 Events after the Reporting Period?
A  Three lines of inventory held at the year end were destroyed by flooding in the warehouse.
B  The directors announced a major restructuring.
C  Two lines of inventory held at the year end were discovered to have faults rendering them
unsaleable.
D  The value of the company's investments fell sharply.  (2 marks)
24 Preparation question: Partway (2.5 12/06 amended)
(a)  Partway is in the process of preparing its financial statements for the year ended 31 October 20X6. The
company's main activity is in the travel industry mainly selling package holidays (flights and
accommodation) to the general public through the Internet and retail travel agencies. During the current year
the number of holidays sold by travel agencies declined dramatically and the directors decided at a board
meeting on 15 October 20X6 to cease marketing holidays through its chain of travel agents and sell off the
related high-street premises. Immediately after the meeting the travel agencies' staff and suppliers were
notified of the situation and an announcement was made in the press. The directors wish to show the travel
agencies' results as a discontinued operation in the financial statements to 31 October 20X6. Due to the
declining business of the travel agents, on 1 August 20X6 (three months before the year end) Partway
expanded its Internet operations to offer car hirefacilities to purchasers of its Internet holidays.
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Questions  27
The following are Partway's summarised profit or loss results – years ended:
31 October 20X6   31 October 20X5
Internet Travel agencies   Car hire
Total
Total
$'000   $'000   $'000   $'000   $'000
Revenue   23,000   14,000   2,000   39,000   40,000
Cost of sales   (18,000) (16,500) (1,500) (36,000) (32,000)
Gross profit/(loss)   5,000
(2,500) 500   3,000   8,000
Operating expenses   (1,000) (1,500) (100) (2,600) (2,000)
Profit/(loss) before tax   4,000
(4,000) 400   400   6,000
The results for the travel agencies for the year ended 31 October 20X5 were: revenue $18 million, cost of
sales $15 million and operating expenses of $1.5 million.
Required
(i)  Discuss whether the directors' wish to show the travel agencies' results as a discontinued operation
is justifiable.
(ii)  Assuming the closure of the travel agencies is a discontinued operation, prepare the (summarised)
statement of profit or loss of Partway for the year ended 31 October 20X6 together with its
comparatives.
(b)  (i)  Describe the circumstances in which an entity may change its accounting policies and how a change
should be applied.
The terms under which Partway sells its holidays are that a 10% deposit is required on booking and the
balance of the holiday must be paid six weeks before the travel date. In previous years Partway has
recognised revenue (and profit) from the sale of its holidays at the date the holiday is actually taken. From
the beginning of November 20X5, Partway has made it a condition of booking that all customers must have
holiday cancellation insurance and as a result it is unlikely that the outstanding balance of any holidays will
be unpaid due to cancellation. In preparing its financial statements to 31 October 20X6, the directors are
proposing to change to recognising revenue (and related estimated costs) at the date when a booking is
made. The directors also feel that this change will helpto negate the adverse effect of comparison with last
year's results (year ended 31 October 20X5) which were better than the current year's.
Required
(ii)  Comment on whether Partway's proposal to changethe timing of its recognition of its revenue is
acceptable and whether this would be a change of accounting policy.
25 Tunshill (12/10)  27 mins
(a) IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors contains guidance on the use of
accounting policies and accounting estimates.
Required
Explain the basis on which the management of an entity must select its accounting policies and distinguish,
with an example, between changes in accounting policies and changes in accounting estimates.  (5 marks)
(b)  The directors of Tunshill are disappointed by the draft profit for the year ended 30 September 20X3. The
company's assistant accountant has suggested two areas where she believes the reported profit may be
improved:
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28  Questions
(i)  A major item of plant that cost $20 million to purchase and install on 1 October 20X0 is being
depreciated on a straight-line basis over a five-year period (assuming no residual value). The plant is
wearing well and at the beginning of the current year (1 October 20X2) the production manager
believed that the plant was likely to last eight years in total (ie from the date of its purchase). The
assistant accountant has calculated that, based on an eight-year life (and no residual value) the
accumulated depreciation of the plant at 30 September 20X3 would be $7.5 million ($20 million / 8
years × 3). In the financial statements for the year ended 30 September 20X2, the accumulated
depreciation was $8 million ($20 million / 5 years × 2). Therefore, by adopting an eight-year life,
Tunshill can avoid a depreciation charge in the current year and instead credit $0.5 million ($8 million
– $7.5 million) to profit or loss in the current year to improve the reported profit.  (5 marks)
(ii)  Most of Tunshill's competitors value their inventory using the average cost (AVCO) basis, whereas
Tunshill uses the first in first out (FIFO) basis. The value of Tunshill's inventory at 30 September
20X3 (on the FIFO basis) is $20 million, howeveron the AVCO basis it would be valued at $18
million. By adopting the same method (AVCO) as its competitors, the assistant accountant says the
company would improve its profit for the year ended 30 September 20X3 by $2 million. Tunshill's
inventory at 30 September 20X2 was reported as $15 million, however on the AVCO basis it would
have been reported as $13.4 million.  (5 marks)
Required
Comment on the acceptability of the assistant accountant's suggestions and quantify how they would affect
the financial statements if they were implemented under IFRS. Ignore taxation.
Note.The mark allocation is shown against each of the two items above.  (Total = 15 marks)
26 Manco (12/10 amended)  27 mins
(a)  State the definition of both non-current assets heldfor sale and discontinued operations and explain the
usefulness of information for discontinued operations.  (5 marks)
(b)  Manco has been experiencing substantial losses at its furniture making operation which is treated as a
separate operating segment. The company's year end is30 September. At a meeting on 1 July 20X0 the
directors decided to close down the furniture making operation on 31 January 20X1 and then dispose of its
non-current assets on a piecemeal basis. Affected employees and customers were informed of the decision
and a press announcement was made immediately after the meeting. The directors have obtained the
following information in relation to the closure of the operation:
(i)  On 1 July 20X0, the factory had a carrying amount of $3.6 million and is expected to be sold for net
proceeds of $5 million. On the same date the plant had a carrying amount of $2.8 million, but it is
anticipated that it will only realise net proceeds of $500,000.
(ii)  Of the employees affected by the closure, the majority will be made redundant at cost of $750,000,
the remainder will be retrained at a cost of $200,000 and given work in one of the company's other
operations.
(iii)  Trading losses from 1 July to 30 September 20X0 are expected to be $600,000 and from this date to
the closure on 31 January 20X1 a further $1 million of trading losses are expected.
Required
Explain how the decision to close the furniture making operation should be treated in Manco's financial statements
for the years ending 30 September 20X0 and 20X1. Your answer should quantify the amounts involved.
(10 marks)
(Total = 15 marks)
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Questions  29
27 Multiple choice questions – introduction to groups
1  On what basis may a subsidiary be excluded from consolidation?
A  The activities of the subsidiary are dissimilar to the activities of the rest of the group.
B  The subsidiary was acquired with the intention of reselling it after a short period of time.
C  The subsidiary is based in a country with strict exchange controls which make it difficult for it to
transfer funds to the parent.
D  There is no basis on which a subsidiary may be excluded from consolidation.  (2 marks)
2  When negative goodwill arises IFRS 3 requires that the amounts involved in computing goodwill
should first be reassessed. When the amount of the negative goodwill has been confirmed, how
should it be accounted for?
A  Charged as an expense in profit or loss
B  Capitalised and presented under non-current assets
C  Credited to profit or loss
D  Shown as a deduction from non-current assets  (2 marks)
3  Which of the following is the criterion for treatment of an investment as an associate?
A  Ownership of a majority of the equity shares
B  Ability to exercise control
C  Existence of significant influence
D  Exposure to variable returns from involvement with the investee  (2 marks)
4  Which of the following statements are correct when preparing consolidated financial statements?
1  A subsidiary cannot be consolidated unless it prepares financial statements to the same reporting
date as the parent.
2  A subsidiary with a different reporting date may prepare additional statements up to the group
reporting date for consolidation purposes.
3  A subsidiary's financial statements can be included in the consolidation if the gap between the parent
and subsidiary reporting dates is five months or less.
4  Where a subsidiary's financial statements are drawn up to a different reporting date from those of the
parent, adjustments should be made for significanttransactions or events occurring between the two
reporting dates.
A 1 only
B  2 and 3
C  2 and 4
D  3 and 4  (2 marks)
5  IFRS 3 requires an acquirer to measure the assets and liabilities of the acquiree at the date of consolidation
at fair value. IFRS 13 Fair Value Measurement provides guidance on how fair value should be established.
Which of the following is notone of the issues to be considered according to IFRS 13 when arriving at the
fair value of a non-financial asset?
A  The characteristics of the asset
B  The present value of the future cash flows thatthe asset is expected to generate during its
remaining life
C  The principal or most advantageous market for the asset
D  The highest and best use of the asset  (2 marks)
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30  Questions
28 Preparation question: Group financial statements
(a)  Set out the exemptions from the requirement to present consolidated financial statements which are
available to a parent company.
(b)  Explain why intra-group transactions and balances are eliminated on consolidation.
29 Preparation question with helping hands: Simple
consolidation
Boo acquired 80% of Goose's equity for $300,000 on 1 January 20X8. At the date of acquisition Goose had retained
earnings of $190,000. On 31 December 20X8 Boo despatchedgoods which cost $80,000 to Goose, at an invoiced
cost of $100,000. Goose received the goods on 2 January 20X9 and recorded the transaction then. The two
companies' draft financial statements as at 31 December 20X8 are shown below.
STATEMENTS OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDED 31 DECEMBER 20X8
Boo  Goose
$'000   $'000
Revenue   5,000   1,000
Cost of sales   2,900   600
Gross profit   2,100   400
Other expenses   1,700   320
Profit before tax   400   80
Income tax expense 130   25
Profit for the year   270   55
Other comprehensive income:
 Gain on revaluation of property   20  –
Total comprehensive income for the year   290  55
STATEMENTS OF FINANCIAL POSITION AT 31 DECEMBER 20X8
$'000   $'000
Assets
Non-current assets    
Property, plant and equipment  1,940 200
Investment in Goose  300  –
2,240 200
Current assets
Inventories 500   120
Trade receivables   650    40
Bank and cash   170    35
1,320   195
Total assets   3,560   395
Equity and liabilities
Equity
Share capital   2,000   100
Retained earnings    500   240
Revaluation surplus   20  –
2,520    340
Current liabilities
Trade payables    910   30
Tax   130  25
1,040   55
Total equity and liabilities   3,560  395
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Questions  31
Required
Prepare a draft consolidated statement of profit or loss and other comprehensive income and statement of financial
position. It is the group policy to value the non-controlling interest at acquisition at fair value. The fair value of the
non-controlling interest in Goose at the date of acquisition was $60,000.
Helping hands
1  This is a very easy example to ease you into the techniqueof preparing consolidated accounts. There are a
number of points to note.
2  Inventory in transit should be included in the statement of financial position and deducted from cost of sales
at cost to the group.
3  Similarly, the intra-group receivable and sale should be eliminated as a consolidation adjustment.
4  Boo Co must have included its inter-company account in trade receivables as it is not specifically mentioned
elsewhere in the accounts.
5  Remember that only the parent's issued share capital is shown in the group accounts.
6  The non-controlling interest in the statement of profit or loss is easily calculated as 20% of post-tax profit
for the year as shown in Goose's accounts. In the statement of financial position, the non-controlling interest
will be the amount at acquisition plus 20% of Goose's post-tax profit for the year.
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32  Questions
30 Multiple choice questions – consolidated statement of
financial position
1  Witch acquired 70% of the 200,000 equity shares of Wizard, its only subsidiary, on 1 April 20X8 when the
retained earnings of Wizard were $450,000. The carrying amounts of Wizard's net assets at the date of
acquisition were equal to their fair values apart from a building which had a carrying amount of $600,000
and a fair value of $850,000. The remaining useful life ofthe building at the acquisition date was 40 years.
Witch measures non-controlling interest at fair value, based on share price. The market value of Wizard
shares at the date of acquisition was $1.75.
At 31 March 20X9 the retained earnings of Wizard were $750,000. At what amount should the noncontrolling interest appear in the consolidated statement of financial position of Witch at 31 March 20X9?
A $195,000
B $193,125
C $135,000
D $188,750  (2 marks)
2  Cloud obtained a 60% holding in the 100,000 $1 shares of Mist on 1 January 20X8, when the retained
earnings of Mist were $850,000. Consideration comprised $250,000 cash, $400,000 payable on
1 January 20X9 and one share in Cloud for each two shares acquired. Cloud has a cost of capital of 8% and
the market value of its shares on 1 January 20X8 was $2.30.
Cloud measures non-controlling interest at fair value. The fair value of the non-controlling interest at 1
January 20X8 was estimated to be $400,000.
What was the goodwill arising on acquisition?
A $139,370
B $169,000
C $119,370
D $130,370  (2 marks)
3  On 1 June 20X1 Premier acquired 80% of the equity share capital of Sandford. At the date of acquisition the
fair values of Sandford's net assets were equal to their carrying amounts with the exception of its property.
This had a fair value of $1.2 million belowits carrying amount. The property had a remaining useful life of
eight years.
What effect will any adjustment required in respect of the property have on group retained earnings at 30
September 20X1?
A Increase $50,000
B Decrease $50,000
C Increase $40,000
D Decrease $40,000  (2 marks)
4  On 1 August 20X7 Patronic purchased 18 million of the 24 million $1 equity shares of Sardonic. The
acquisition was through a share exchange of two shares in Patronic for every three shares in Sardonic. The
market price of a share in Patronic at 1 August 20X7 was $5.75. Patronic will also pay in cash on
31 July 20X9 (two years after acquisition) $2.42 per acquired share of Sardonic. Patronic's cost of capital is
10% per annum.
What is the amount of the consideration attributable to Patronic for the acquisition of Sardonic?
A $105 million
B $139.5 million
C $108.2 million
D $103.8 million  (2 marks)
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Questions  33
5  On 1 April 20X0 Picant acquired 75% of Sander's equity shares by means of a share exchange and an
additional amount payable on 1 April 20X1 that was contingent upon the post-acquisition performance of
Sander. At the date of acquisition Picant assessed the fair value of this contingent consideration at $4.2
million but by 31 March 20X1 it was clear that the amount to be paid would be only $2.7 million.
How should Picant account for this $1.5 million adjustment in its financial statements as at 31 March 20X1?
A  Debit current liabilities/Credit goodwill
B  Debit retained earnings/Credit current liabilities
C  Debit goodwill/Credit current liabilities
D  Debit current liabilities/Credit retained earnings  (2 marks)
6  Crash acquired 70% of Bang's 100,000 $1 ordinary shares for $800,000 when the retained earnings of Bang
were $570,000 and the balance in its revaluation surplus was $150,000. Bang also has an internallydeveloped customer list which has been independentlyvalued at $90,000. The non-controlling interest in
Bang was judged to have a fair value of $220,000 at the date of acquisition.
What was the goodwill arising on acquisition?
A $200,000
B $163,000
C $226,000
D $110,000  (2 marks)
31 Preparation question: Goodwill
At 1 January 20X9 Penguin plc paid $1.2m for an 80% share in Platypus Ltd. Platypus Ltd's net assets at the date
of acquisition were:
$'000
Share capital
500
Retained earnings
850
Revaluation surplus
450
It is group policy is to measure non-controlling interests at acquisition at fair value. The fair value of the noncontrolling interest at the date of acquisition was $400,000.
Statements of profit or loss for both companies for the year ended 31 December 20X9 were:
Penguin  Platypus
$'000
$'000
Revenue
12,500
2,600
Cost of sales  (7,400)  (1,090)
Gross profit  5,100
1,510
Distribution costs  (700)  (220)
Administrative expenses  (1,300)  (550)
Finance costs  (40)  -Profit before tax  3,060
740
Income tax expense  (900)  (230)
Profit for the year  2,160 510
Required
Calculate the goodwill on acquisition and prepare the consolidated statement of profit or loss of the Penguin Group
for the year ended 31 December 20X9.
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34  Questions
32 Pedantic (12/08 amended)  54 mins
On 1 April 20X8, Pedantic acquired 60% of the equity share capital of Sophistic in a share exchange of two shares
in Pedantic for three shares in Sophistic. The issue of shares has not yet been recorded by Pedantic. At the date of
acquisition shares in Pedantic had a market value of $6 each. Below are the summarised draft financial statements
of both companies.
STATEMENTS OF PROFIT OR LOSS FOR THE YEAR ENDED 30 SEPTEMBER 20X8
Pedantic   Sophistic
$'000    $'000
Revenue
85,000    42,000
Cost of sales    (63,000)  (32,000)
Gross profit
22,000    10,000
Distribution costs
(2,000)  (2,000)
Administrative expenses
(6,000)  (3,200)
Finance costs    (300)  (400)
Profit before tax
13,700    4,400
Income tax expense  (4,700)  (1,400)
Profit for the year     9,000 3,000
STATEMENTS OF FINANCIAL POSITION AS AT 30 SEPTEMBER 20X8
Pedantic Sophistic
Assets  $'000 $'000
Non-current assets
Property, plant and equipment
40,600    12,600
Current assets
16,000    6,600
Total assets
56,600    19,200
Equity and liabilities
Equity shares of $1 each
10,000    4,000
Retained earnings
35,400    6,500
45,400    10,500
Non-current liabilities
10% loan notes
3,000    4,000
Current liabilities
8,200    4,700
Total equity and liabilities
56,600    19,200
The following information is relevant.
(i)  At the date of acquisition, the fair values of Sophistic's assets were equal to their carrying amounts with the
exception of an item of plant, which had a fair value of $2 million in excess of its carrying amount. It had a
remaining life of five years at that date (straight-line depreciation is used). Sophistic has not adjusted the
carrying amount of its plant as a result of the fair value exercise.
(ii)  Sales from Sophistic to Pedantic in the post acquisition period were $8 million. Sophistic made a mark up
on cost of 40% on these sales. Pedantic had sold $5.2 million (at cost to Pedantic) of these goods by
30 September 20X8.
(iii)  Other than where indicated, profit or loss items are deemed to accrue evenly on a time basis.
(iv)  Sophistic's trade receivables at 30 September 20X8 include $600,000 due from Pedantic which did not
agree with Pedantic's corresponding trade payable. This was due to cash in transit of $200,000 from
Pedantic to Sophistic. Both companies have positive bank balances.
(v)  Pedantic has a policy of accounting for any non-controlling interest at full fair value. The fair value of the
non-controlling interest in Sophistic at the date of acquisition was estimated to be $5.9 million.
Consolidated goodwill was not impaired at 30 September 20X8.
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Questions  35
Required
(a)  Prepare the consolidated statement of profit or loss for Pedantic for the year ended 30 September 20X8.
(10 marks)
(b)  Prepare the consolidated statement of financial position for Pedantic as at 30 September 20X8.  (16 marks)
Note.A statement of changes in equity is not required.
(c)  Pedantic has been approached by a potential new customer, Trilby, to supply it with a substantial quantity of
goods on three months credit terms. Pedantic is concerned at the risk that such a large order represents in
the current difficult economic climate, especially as Pedantic's normal credit terms are only one month's
credit. To support its application for credit, Trilby has sent Pedantic a copy of Tradhat's most recent audited
consolidated financial statements. Trilby is a wholly-owned subsidiary within the Tradhat group. Tradhat's
consolidated financial statements show a strong statement of financial position including healthy liquidity
ratios.
Required
Comment on the importance that Pedantic should attach to Tradhat's consolidated financial statements
when deciding on whether to grant credit terms to Trilby.(4 marks)
(30 marks)
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36  Questions
33 Multiple choice questions – consolidated statement of
profit or loss and other comprehensive income
1  Basil acquired 60% of Parsley on 1 March 20X9. In September 20X9 Basil sold $46,000 worth of
goods to Parsley. Basil applies a 30% mark-up to all its sales. 25% of these goods were still held in
inventory by Parsley at the end of the year.
An extract from the draft statements of profit or loss of Basil and Parsley at 31 December 20X9 is:
Basil  Parsley
$  $
Revenue  955,000  421,500
Cost of sales
(407,300) (214,600)
Gross profit    547,700 206,900
All revenue and costs arise evenly throughout the year.
What will be shown as gross profit in the consolidated statement of profit or loss of Basil for the year ended
31 December 20X9?
A $717,463
B $751,946
C $716,667
D $751,150  (2 marks)
2  Premier acquired 80% of Sanford on 1 June 20X1. Sales from Sanford to Premier throughout the year
ended 30 September 20X1 were consistently $1 million per month. Sanford made a mark-up on cost of 25%
on these sales. At 30 September 20X1 Premier was holding $2 million inventory that had been supplied by
Sanford in the post-acquisition period.
By how much will the unrealised profit decrease the profitattributable to the non-controlling interest for the
year ended 30 September 20X1?
A $1,000,000
B $400,000
C $500,000
D  $80,000  (2 marks)
3  Hillusion acquired 80% of Skeptik on 1 July 20X2. Inthe post-acquisition period Hillusion sold goods to
Skeptik at a price of $12 million. These goods had cost Hillusion $9 million. During the year to
31 March 20X3 Skeptik had sold $10 million (at cost to Skeptik) of these goods for $15m million.
How will this affect group cost of sales in the consolidated statement of profit or loss of Hillusion for the
year ended 31 March 20X3?
A  Increase by $11.5 million
B  Increase by $9.6 million
C  Decrease by $11.5 million
D  Decrease by $9.6 million  (2 marks)
4  Brigham has owned 70% of Dorset for many years. It also holds a $5 million loan note from Dorset. One of
Dorset's non-current assets has suffered an impairment of $50,000 during the year. There is a balance in the
revaluation surplus of Dorset of $30,000 in respect ofthis asset. The impairment loss has not yet been
recorded.
The entity financial statements of Dorset show a profit for the year of $1.3 million.
What is the amount attributable to the non-controlling interests in the consolidated statement of profit or
loss?
A $264,000
B $255,000
C $300,000
D $348,000  (2 marks)
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Questions  37
34 Preparation question: Acquisition during the year
Port has many investments, but before 20X4 none of these investments met the criteria for consolidation as a
subsidiary. One of these older investments was a $2.3m 12% loan to Alfred which was made 15 years ago and is
due to be repaid in 12 years' time.
On 1 November 20X4 Port purchased 75% of the equity of Alfred for $650,000. The consideration was 35,000 $1
equity shares in Port with a fair value of $650,000.
Noted below are the draft statements of profit or loss and other comprehensive income for Port and its subsidiary
Alfred for the year ending 31 December 20X4 along with the draft statements of financial position as at
31 December 20X4.
STATEMENTS OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDING 31 DECEMBER 20X4
Port   Alfred
$'000   $'000
Revenue   100   996
Cost of sales   (36) (258)
Gross profit   64   738
Interest on loan to Alfred 276   –
Other investment income   158   –
Operating expenses
(56) (330)
Finance costs   –   (276)
Profit before tax   442   132
Income tax expense (112) (36)
Profit for the year   330   96
Other comprehensive income:
Gain on property revaluation   30  –
Total comprehensive income for the year   360  96
STATEMENTS OF FINANCIAL POSITION AS AT 31 DECEMBER 20X4
Port   Alfred
$'000   $'000
Non-current assets
Property, plant and equipment   130   3,000
Loan to Alfred   2,300   –
Other investments   600   –
3,030   3,000
Current assets   800   139
Total assets   3,830   3,139
Port Alfred
Equity and liabilities  $'000 $'000
Equity
$1 Equity shares   200   100
Share premium   500   85
Retained earnings   2,900   331
Revaluation surplus   30  –
3,630   516
Non-current liabilities
Loan from Port   –   2,300
Current liabilities
Sundry   200   323
Total equity and liabilities   3,830   3,139
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38  Questions
Notes
1  Port has not accounted for the issue of its own shares or for the acquisition of the investment in Alfred.
2  There has been no impairment in the value of the goodwill.
3  It is the group policy to value the non-controlling interest at acquisition at fair value. The fair value of the
non-controlling interest in Alfred at the date of acquisition was estimated to be $180,000.
Required
Prepare the consolidated statement of profit or loss and other comprehensive income for the Port Group for the
year ending 31 December 20X4 and a consolidated statement of financial position as at that date.
Approaching the question
1 Establish the group structure, noting for how long Alfred was a subsidiary.
2  Adjust Port's statement of financial position for the issue of its own shares and the cost of the investment in
Alfred.
3  Sketch out the format of the group statement of profit or loss and other comprehensive income and
statement of financial position, and then fill in the amounts for each company directly from the question.
(Note.Sub-totals are not normally needed when you do this.)
4  Time-apportionthe income, expenditure and taxation for the subsidiary acquired.
5 Calculate the goodwill.
6  Remember to time-apportion the non-controlling interest in Alfred.
35 Preparation question: Pandar (12/09 amended)
On 1 April 20X9 Pandar purchased 80% of the equity shares in Salva. The acquisition was through a share
exchange of three shares in Pandar for every five shares in Salva. The market prices of Pandar's and Salva's shares
at 1 April 20X9 were $6 per share and $3.20 respectively.On the same date Pandar acquired 40% of the equity
shares in Ambra paying $2 per share.
The summarised statements of profit or loss for the three companies for the year ended 30 September 20X9 are:
Pandar  Salva  Ambra
$'000  $'000  $'000
Revenue  210,000  150,000  50,000
Cost of sales  (126,000) (100,000) (40,000)
Gross profit  84,000  50,000  10,000
Distribution costs
(11,200) (7,000) (5,000)
Administrative expenses
(18,300) (9,000) (11,000)
Investment income (interest and dividends) 9,500
Finance costs   (1,800) (3,000) nil
Profit (loss) before tax  62,200  31,000
(6,000)
Income tax (expense) relief (15,000) (10,000) 1,000
Profit (loss) for the year  47,200  21,000  (5,000)
The following information for the equity of the companies at 30 September 20X9 is available:
Equity shares of $1 each  200,000  120,000  40,000
Share premium  300,000  nil  nil
Retained earnings 1 October 20X8  40,000  152,000  15,000
Profit (loss) for the year ended 30 September 20X9  47,200  21,000  (5,000)
Dividends paid (26 September 20X9)  nil  (8,000)  nil
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Questions  39
The following information is relevant:
(i)  The fair values of the net assets of Salva at the dateof acquisition were equal to their carrying amounts with
the exception of an item of plant which had a carrying amount of $12 million and a fair value of $17 million.
This plant had a remaining life of five years (straight-line depreciation) at the date of acquisition of Salva. All
depreciation is charged to cost of sales.
In addition, Salva owns the registration of a popular internet domain name. The registration, which had a
negligible cost, has a five year remaining life (at the date of acquisition); however, it is renewable indefinitely
at a nominal cost. At the date of acquisition the domain name was valued by a specialist company at
$20 million.
The fair values of the plant and the domain name have not been reflected in Salva's financial statements.
No fair value adjustments were required on the acquisition of the investment in Ambra.
(ii)  Immediately after its acquisition of Salva, Pandar invested $50 million in an 8% loan note from Salva. All
interest accruing to 30 September 20X9 had been accounted for by both companies. Salva also has other
loans in issue at 30 September 20X9.
(iii)  Pandar has credited the whole of the dividend it received from Salva to investment income.
(iv)  After the acquisition, Pandar sold goods to Salva for $15 million on which Pandar made a gross profit of
20%. Salva had one third of these goods still in its inventory at 30 September 20X9. There are no intragroup current account balances at 30 September 20X9.
(v)  The non-controlling interest in Salva is to be valued at its (full) fair value at the date of acquisition. For this
purpose Salva's share price at that date can be taken to be indicative of the fair value of the shareholding of
the non-controlling interest.
(vi)  The goodwill of Salva has not suffered any impairment; however, due to its losses, the value of Pandar's
investment in Ambra has been impaired by $3 million at 30 September 20X9.
(vii)  All items in the above statements of profit or loss are deemed to accrue evenly over the year unless
otherwise indicated.
Required
(a)  (i)  Calculate the goodwill arising on the acquisition of Salva at 1 April 20X9.
(ii)  Calculate the carrying amount of the investment in Ambra to be included within the consolidated
statement of financial position as at 30 September 20X9.
(b)  Prepare the consolidated statement of profit or loss for the Pandar Group for the year ended
30 September 20X9.
36 Viagem (12/12 amended)  27 mins
On 1 January 2012, Viagem acquired 90% of the equity share capital of Greca in a share exchange in which Viagem
issued two new shares for every three shares it acquired in Greca. Additionally, on 31 December 2012, Viagem will
pay the shareholders of Greca $1.76 per share acquired. Viagem's cost of capital is 10% per annum.
At the date of acquisition, shares in Viagem and Greca had a stock market value of $6.50 and $2.50 each
respectively.
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40  Questions
STATEMENTS OF PROFIT OR LOSS FOR THE YEAR ENDED 30 SEPTEMBER 2012
Viagem  Greca
$'000  $'000
Revenue  64,600  38,000
Cost of sales  (51,200)  (26,000)
Gross profit  13,400  12,000
Distribution costs
(1,600) (1,800)
Administrative expenses
(3,800) (2,400)
Investment income 500  –
Finance costs (420) –
Profit before tax  8,080  7,800
Income tax expense (2,800) (1,600)
Profit for the year  5,280  6,200
Equity as at 1 October 2011
Equity shares of $1 each  30,000  10,000
Retained earnings  54,000  35,000
The following information is relevant:
(i)  At the date of acquisition the fair values of Greca's assets were equal to their carrying amounts with the
exception of two items:
1  An item of plant had a fair value of $1.8 million above its carrying amount. The remaining life of the
plant at the date of acquisition was three years. Depreciation is charged to cost of sales.
2  Greca had a contingent liability which Viagem estimated to have a fair value of $450,000. This has not
changed as at 30 September 2012.
Greca has not incorporated these fair value changes into its financial statements.
(ii)  Viagem's policy is to value the non-controlling interest at fair value at the date of acquisition. For this
purpose, Greca's share price at that date can be deemed to be representative of the fair value of the shares
held by the non-controlling interest.
(iii)  Sales from Viagem to Greca throughout the year ended 30 September 2012 had consistently been $800,000
per month. Viagem made a mark-up on cost of 25% on these sales. Greca had $1.5 million of these goods in
inventory as at 30 September 2012.
(iv)  Viagem's investment income is a dividend received from its investment in a 40% owned associate which it
has held for several years. The underlying earnings for the associate for the year ended 30 September 2012
were $2 million.
(v)  Although Greca has been profitable since its acquisition by Viagem, the market for Greca's products has
been badly hit in recent months and Viagem has calculated that the goodwill has been impaired by $2 million
as at 30 September 2012.
Required
Prepare the consolidated statement of profit or loss for Viagem for the year ended 30 September 2012. (15 marks)
37 Prodigal (6/11 amended)  54 mins
On 1 October 20X0 Prodigal purchased 75% of the equity shares in Sentinel. The acquisition was through a share
exchange of two shares in Prodigal for every three shares in Sentinel. The stock market price of Prodigal's shares at
1 October 20X0 was $4 per share.
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Questions  41
The summarised statements of profit or loss and other comprehensive income for the two companies for the year
ended 31 March 20X1 are:
Prodigal Sentinel
$'000 $'000
Revenue 450,000  240,000
Cost of sales
(260,000) (110,000)
Gross profit  190,000  130,000
Distribution costs  (23,600)  (12,000)
Administrative expenses  (27,000)  (23,000)
Finance costs
(1,500) (1,200)
Profit before tax  137,900  93,800
Income tax expense
(48,000) (27,800)
Profit for the year   89,900 66,000
Other comprehensive income
Gain on revaluation of land (Note1)  2,500  1,000
Loss on fair value of equity financial asset investment
(700) (400)
_ 1,800
__ 600
Total comprehensive income for the year   91,700 66,600
The following information for the equity of the companies at 1 April 20X0 (ie before the share exchange took place)
is available:
$'000 $'000
Equity shares of $1 each  250,000  160,000
Share premium  100,000  nil
Revaluation reserve (land)  8,400  nil
Other equity reserve (re equity financial asset investment)  3,200  2,200
Retained earnings  90,000  125,000
Notes
The following information is relevant:
1  Prodigal's policy is to revalue the group's land to market value at the end of each accounting period. Prior to
its acquisition Sentinel's land had been valued at historical cost. During the post acquisition period
Sentinel's land had increased in value over its value at the date of acquisition by $1 million. Sentinel has
recognised the revaluation within its own financial statements.
2  Immediately after the acquisition of Sentinel on 1 October 20X0, Prodigal transferred an item of plant with a
carrying amount of $4 million to Sentinel at an agreed value of $5 million. At this date the plant had a
remaining life of two and half years. Prodigal had included the profit on this transfer as a reduction in its
depreciation costs. All depreciation is charged to cost of sales.
3  After the acquisition Sentinel sold goods to Prodigal for $40 million. These goods had cost Sentinel
$30 million. $12 million of the goods sold remained in Prodigal's closing inventory.
4  Prodigal's policy is to value the non-controlling interest ofSentinel at the date of acquisition at its fair value
which the directors determined to be $100 million.
5  The goodwill of Sentinel has not suffered any impairment.
6  All items in the above statements of profit or loss and other comprehensive income are deemed to accrue
evenly over the year unless otherwise indicated.
Required
(a)  Calculate the goodwill on acquisition of Sentinel.  (4 marks)
(b)  (i)  Prepare the consolidated statement of profit or loss and other comprehensive income of Prodigal for
the year ended 31 March 20X1.  (15 marks)
(ii)  Prepare the equity section (including the non-controlling interest) of the consolidated statement of
financial position of Prodigal as at 31 March 20X1.  (7 marks)
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42  Questions
(c) IFRS 3 Business combinationspermits a non-controlling interest at the date of acquisition to be valued by
one of two methods:
(i)  At its proportionate share of the subsidiary's identifiable net assets; or
(ii)  At its fair value (usually determined by the directors of the parent company).
Required
Explain the difference that the accounting treatment of these alternative methods could have on the
consolidated financial statements, including where consolidated goodwill may be impaired. (4 marks)    (Total = 30 marks)
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Questions  43
38 Multiple choice questions – accounting for associates
1  On 1 October 20X8 Pacemaker acquired 30 million of Vardine's 100 million shares in exchange for
75 million of its own shares. The stock market value of Pacemaker's shares at the date of this share
exchange was $1.60 each.
Vardine's profit is subject to seasonal variation. Its profit for the year ended 31 March 20X9 was
$100 million. $20 million of this profit was made from 1 April 20X8 to 30 September 20X8.
Pacemaker has one subsidiary and no other investments apart from Vardine.
What amount will be shown as 'investment in associate' in the consolidated statement of financial position
of Pacemaker as at 31 March 20X9?
A $144 million
B $150 million
C $78 million
D $126 million  (2 marks)
2  How should an associate be accounted for in the consolidated statement of profit or loss?
A  The associate's income and expenses are added to those of the group on a line-by-line basis.
B  The group share of the associate's income and expenses is added to the group figures on a line-byline basis.
C  The group share of the associate's profit after tax is recorded as a one-line entry.
D  Only dividends received from the associate are recorded in the group statement of profit or loss.
(2 marks)
3  Wellington owns 30% of Boot, which it purchased on 1 May 20X7 for $2.5 million. At that date Boot
had retained earnings of $5.3 million. At the year end date of 31 October 20X7 Boot had retained
earnings of $6.4 million after paying out a dividend of $1 million. On 30 September 20X7 Wellington
sold $700,000 of goods to Boot, on which it made 30% profit. Boot had resold none of these goods by
31 October.
At what amount will Wellington record its investment inBoot in its consolidated statement of financial
position at 31 October 20X7?
A $2,767,000
B $2,900,000
C $2,830,000
D $2,620,000  (2 marks)
4  On 1 February 20X1 Picardy acquired 35% of the equity shares of Avignon, its only associate, for
$10 million in cash. The post-tax profit of Avignon for the year to 30 September 20X1 was $3 million.
Profits accrued evenly throughout the year. Avignon made a dividend payment of $1 million on
1 September 20X1. At 30 September 20X1 Picardy decided that an impairment loss of $500,000 should be
recognised on its investment in Avignon.
What amount will be shown as 'investment in associate' in the statement of financial position of Picardy as
at 30 September 20X1?
A $9,967,000
B $9,850,000
C $9,200,000
D $10,200,000  (2 marks)
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44  Questions
5  Jarvis owns 30% of McLintock. During the year to 31 December 20X4 McLintock sold $2 million of goods to
Jarvis, of which 40% were still held in inventory by Jarvis at the year end. McLintock applies a mark-up of
25% on all goods sold.
What effect would the above transactions have on group inventory at 31 December 20X4?
A  Debit group inventory $48,000
B  Debit group inventory $160,000
C  Credit group inventory $48,000
D  No effect on group inventory  (2 marks)
39 Preparation question: Laurel
CONSOLIDATED STATEMENT OF FINANCIAL POSITION
Laurel acquired 80% of the ordinary share capital of Hardy for $160m and 40% of the ordinary share capital of
Comic for $70m on 1 January 20X7 when the retained earnings balances were $64m in Hardy and $24m in Comic.
Laurel, Comic and Hardy are public limited companies.
The statements of financial position of the three companies at 31 December 20X9 are set out below:
Laurel Hardy Comic
$m $m $m
Non-current assets
Property, plant and equipment  220  160  78
Investments  230 -  -
450 160 78
Current assets
Inventories  384 234 122
Trade receivables  275  166  67
Cash at bank   42 10 34
701 410 223
1,151 570 301
Equity
Share capital – $1 ordinary shares  400  96  80
Share premium  16  3  -
Retained earnings   278 128 97
694 227 177
Current liabilities
Trade payables   457 343 124
1,151 570 301
You are also given the following information:
1  On 30 November 20X9 Laurel sold some goods to Hardy for cash for $32m. These goods had originally cost
$22m and none had been sold by the year end. On the same date Laurel also sold goods to Comic for cash
for $22m. These goods originally cost $10m and Comic had sold half by the year end.
2  On 1 January 20X7 Hardy owned some items of equipment with a book value of $45m that had a fair value
of $57m. These assets were originally purchased by Hardy on 1 January 20X5 and are being depreciated
over 6 years.
3  Group policy is to measure non-controlling interests at acquisition at fair value. The fair value of the noncontrolling interests in Hardy on 1 January 20X7 was calculated as $39m.
4  Cumulative impairment losses on recognised goodwill amounted to $15m at 31 December 20X9. No
impairment losses have been necessary to date relating to the investment in the associate.
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Questions  45
Required
Prepare a consolidated statement of financial position for Laurel and its subsidiary as at 31 December 20X9,
incorporating its associate in accordance with IAS 28. Use the following pro-forma.
PROFORMA SOLUTION
LAUREL GROUP – CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT 31 DECEMBER 20X9
$m
Non-current assets
Property, plant and equipment
Goodwill
Investment in associate
Current assets
Inventories
Trade receivables
Cash
Equity attributable to owners of the parent
Share capital – $1 ordinary shares
Share premium
Retained earnings
Non-controlling interests
Current liabilities
Trade payables
Workings
1  Group structure
2  Goodwill
$m  $m
Consideration transferred  
Non-controlling interests (at 'full' fair value)  
Fair value of net assets at acq'n:  
Share capital  
Share premium  
Retained earnings  
Fair value adjustment (W7)
Impairment losses
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46  Questions
3  Investment in associate
$m
Cost of associate
Share of post acquisition retained reserves (W4)
Unrealised profit (W6)
Impairment losses
4  Consolidated retained earnings
Laurel   Hardy   Comic
$m   $m   $m
Per question
Less:  provision for unrealised profit re Hardy (W6)
 provision for unrealised profit re Comic (W6)
Fair value adjustment movement (W7)
Less:  pre-acquisition retained earnings
Group share of post acquisition retained earnings:
Hardy
Comic
Less: group share of impairment losses
5  Non-controlling interests
$m
Non-controlling interests at acquisition (W2)
NCI share of post acquisition retained earnings:
Hardy
Less: NCI share of impairment losses
6  Unrealised profit
Laurel's sales to Hardy:
Dr
Cr
Laurel's sales to Comic (associate):
Dr
Cr
7  Fair value adjustments
At acquisition
date
Movement
At year
end
$m   $m   $m
Property, plant and equipment
Goodwill
Ret'd
earnings
PPE
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Questions  47
40 Preparation question: Tyson
CONSOLIDATED STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
Below are the statements of profit or loss and other comprehensive income of Tyson, its subsidiary Douglas and
associate Frank at 31 December 20X8. Tyson, Douglas and Frank are public limited companies.
Tyson Douglas  Frank
$m  $m  $m
Revenue  500 150 70
Cost of sales   (270)  (80)  (30)
Gross profit  230  70  40
Other expenses  (150)  (20)  (15)
Finance income  15  10  –
Finance costs   (20)  –  (10)
Profit before tax  75 60 15
Income tax expense  (25)  (15)  (5)
PROFIT FOR THE YEAR
50
45
10
Other comprehensive income:
Gains on property revaluation, net of tax   20 10 5
TOTAL COMPREHENSIVE INCOME FOR THE YEAR   70 55 15
You are also given the following information:
1  Tyson acquired 80m shares in Douglas for $188m three years ago when Douglas had a credit balance on its
reserves of $40m. Douglas has 100m $1 ordinary shares.
2  Tyson acquired 40m shares in Frank for $60m two years ago when that company had a credit balance on its
reserves of $20m. Frank has 100m $1 ordinary shares.
3  During the year Douglas sold some goods to Tyson for $66m (cost $48m). None of the goods had been sold
by the year end.
4  Group policy is to measure non-controlling interests at acquisition at fair value. The fair value of the noncontrolling interests in Douglas at acquisition was $40m. An impairment test carried out at the year end
resulted in $15m of the recognised goodwill relating to Douglas being written off and recognition of
impairment losses of $2.4m relating to the investment in Frank.
Required
Prepare the consolidated statement of profit or loss and other comprehensive income for the year ended
31 December 20X8 for Tyson, incorporating its associate.
PROFORMA SOLUTION
TYSON GROUP - CONSOLIDATED STATEMENT OF PROFITOR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDED 31 DECEMBER 20X8
$m
Revenue
Cost of sales
Gross profit
Other expenses
Finance income
Finance costs
Share of profit of associate
Profit before tax
Income tax expense
PROFIT FOR THE YEAR
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48  Questions
Other comprehensive income:
Gains on property revaluation, net of tax
Share of other comprehensive income of associates
Other comprehensive income for the year, net of tax
TOTAL COMPREHENSIVE INCOME FOR THE YEAR
Profit attributable to:    Owners of the parent   Non-controlling interests   Total comprehensive income attributable to:   Owners of the parent   Non-controlling interests
Workings
1  Group structure
2  Non-controlling interests
PFY TCI
$m  $m
PFY/TCI per question
Unrealised profit (W3)
Impairment loss
NCI share
3  Unrealised profit
$m  Selling price
Cost
Provision for unrealised profit
41 Preparation question: Plateau (12/07 amended)
On 1 October 20X6 Plateau acquired the following non-current investments:
  3 million equity shares in Savannah by an exchange of one share in Plateau for every two shares in Savannah
plus $1.25 per acquired Savannah share in cash. The market price of each Plateau share at the date of
acquisition was $6 and the market price of each Savannah share at the date of acquisition was $3.25.
  30% of the equity shares of Axle at a cost of $7.50 per share in cash.
Only the cash consideration of the above investments has been recorded by Plateau. In addition $500,000 of
professional costs relating to the acquisition of Savannah are also included in the cost of the investment.
The summarised draft statements of financial position of the three companies at 30 September 20X7 are:
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Questions  49
Plateau   Savannah   Axle
$'000   $'000   $'000
Non-current assets
Property, plant and equipment   18,400   10,400   18,000
Investments in Savannah and Axle 13,250
nil
nil
Investments in equity instruments 6,500
nil
Nil
38,150   10,400   18,000
Current assets
Inventory 6,900   6,200   3,600
Trade receivables   3,200   1,500   2,400
Total assets   48,250   18,100   24,000
Equity and liabilities
Equity shares of $1 each   10,000   4,000   4,000
Retained earnings
– at 30 September 20X6   16,000   6,000   11,000
– for year ended 30 September 20X7   9,250   2,900   5,000
35,250   12,900   20,000
Non-current liabilities
7% Loan notes   5,000   1,000   1,000
Current liabilities   8,000   4,200   3,000
Total equity and liabilities   48,250   18,100   24,000
The following information is relevant.
(i)  At the date of acquisition Savannah had five years remaining of an agreement to supply goods to one of its
major customers. Savannah believes it is highly likely that the agreement will be renewed when it expires.
The directors of Plateau estimate that the value of this customer based contract has a fair value of £1 million
and an indefinite life and has not suffered any impairment.
(ii)  On 1 October 20X6, Plateau sold an item of plant to Savannah at its agreed fair value of $2.5 million. Its
carrying amount prior to the sale was $2 million. The estimated remaining life of the plant at the date of sale
was five years (straight-line depreciation).
(iii)  During the year ended 30 September 20X7 Savannah sold goods to Plateau for $2.7 million. Savannah had
marked up these goods by 50% on cost. Plateau had a third of the goods still in its inventory at 30
September 20X7. There were no intra-group payables/receivables at 30 September 20X7.
(iv)  Impairment tests on 30 September 20X7 concluded that neither consolidated goodwill nor the value of the
investment in Axle were impaired.
(v)  The investments in equity instruments are included inPlateau's statement of financial position (above) at
their fair value on 1 October 20X6, but they have a fair value of $9 million at 30 September 20X7.
(vi)  No dividends were paid during the year by any of the companies.
(vii)  It is the group policy to value non-controlling interest at acquisition at full (or fair) value. For this purpose
the share price of Savannah at this date should be used.
Required
(a)  Prepare the consolidated statement of financial position for Plateau as at 30 September 20X7.
(b)  A financial assistant has observed that the fair value exercise means that a subsidiary's net assets are
included at acquisition at their fair (current) values inthe consolidated statement of financial position. The
assistant believes that it is inconsistent to aggregate the subsidiary's net assets with those of the parent
because most of the parent's assets are carried at historical cost.
Comment on the assistant's observation and explain why the net assets of acquired subsidiaries are
consolidated at acquisition at their fair values.
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50  Questions
42 Paladin (12/11 amended)  54 mins
On 1 October 20X0, Paladin secured a majority equity shareholding in Saracen on the following terms.
An immediate payment of $4 per share on 1 October 20X0; and a further amount deferred until 1 October 20X1 of
$5.4 million.
The immediate payment has been recorded in Paladin's financial statements, but the deferred payment has not been
recorded. Paladin's cost of capital is 8% per annum.
On 1 February 20X1, Paladin also acquired 25% of the equity shares of Augusta paying $10 million in cash.
The summarised statements of financial position of the three companies at 30 September 20X1 are:
Paladin Saracen Augusta
Assets  $'000 $'000 $'000
Non-current assets
Property, plant and equipment  40,000  31,000  30,000  Intangible assets  7,500    Investments – Saracen (8 million shares at $4 each)  32,000
– Augusta    10,000 nil nil
89,500 31,000 30,000
Current assets
Inventory 11,200 8,400 10,000
Trade receivables  7,400  5,300  5,000
Bank    3,400 nil 2,000
Total assets   111,500 44,700 47,000
Equity and liabilities
Equity
Equity shares of $1 each  50,000  10,000  10,000
Retained earnings – at 1 October 20X0  25,700  12,000  31,800
– for year ended 30 September 20X1    9,200 6,000 1,200
84,900  28,000  43,000
Non-current liabilities
Deferred tax  15,000  8,000  1,000
Current liabilities
Bank  nil  2,500  nil
Trade payables    11,600 6,200 3,000
Total equity and liabilities   111,500 44,700 47,000
The following information is relevant:
(i)  Paladin's policy is to value the non-controlling interest at fair value at the date of acquisition. For this
purpose the directors of Paladin considered a share price for Saracen of $3.50 per share to be appropriate.
(ii)  At the date of acquisition, the fair values of Saracen's property, plant and equipment was equal to its
carrying amount with the exception of Saracen's plant which had a fair value of $4 million above its carrying
amount. At that date the plant had a remaining life of four years. Saracen uses straight-line depreciation for
plant assuming a nil residual value.
Also at the date of acquisition, Paladin valued Saracen's customer relationships as a customer base
intangible asset at fair value of $3 million. Saracen has not accounted for this asset. Trading relationships
with Saracen's customers last on average for six years.
(iii)  At 30 September 20X1, Saracen's inventory includedgoods bought from Paladin (at cost to Saracen) of
$2.6 million. Paladin had marked up these goods by 30% on cost. Paladin's agreed current account balance
owed by Saracen at 30 September 20X1 was $1.3 million.
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Questions  51
(iv)  Impairment tests were carried out on 30 September 20X1 which concluded that consolidated goodwill was
not impaired, but, due to disappointing earnings, the value of the investment in Augusta was impaired by
$2.5 million.
(v)  Assume all profits accrue evenly through the year.
Required
(a)  Prepare the consolidated statement of financial position for Paladin as at 30 September 20X1.  (25 marks)
(b)  At 30 September 20X1 the other equity shares (75%) in Augusta were owned by many separate investors.
Shortly after this date Spekulate (a company unrelated to Paladin) accumulated a 65% interest in Augusta by
buying shares from the other shareholders. In May 20X8 a meeting of the board of directors of Augusta was
held at which Paladin lost its seat on Augusta's board.
Required
Explain, with reasons, the accounting treatment Paladin should adopt for its investment in Augusta when it
prepares its financial statements for the year ending 30 September 20X2.  (5 marks)
(30 marks)
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52  Questions
43  Multiple choice questions – inventories and biological
assets  32 mins
1  In preparing financial statements for the year ended 31 March 20X6, the inventory count was carried out on
4 April 20X6. The value of inventory counted was $36 million. Between 31 March and 4 April goods with a
cost of $2.7 million were received into inventory and sales of $7.8 million were made at a mark-up on cost
of 30%.
At what amount should inventory be stated in the statement of financial position as at 31 March 20X6?
A $32.7 million
B $39.3 million
C $38.76 million
D $33.24 million  (2 marks)
2  At 31 March Tentacle had 12,000 units of product W32 in inventory, included at cost of $6 per unit. During
April and May 20X7 units of W32 were being sold at a price of $5.40 each, with sales staff receiving a 15%
commission on the sales price of the product.
At what amount should inventory of product W32 be recognised in the financial statements of Tentacle as at
31 March 20X7?
A $55,080
B $72,000
C $64,800
D  $61,200  (2 marks)
3  Caminas has the following products in inventory at the year end.
Product  Quantity  Cost  Selling price  Selling cost
A  1,000  $40  $55  $8
B  2,500  $15  $25  $4
C  800  $23  $27  $5
At what amount should total inventory be stated in the statement of financial position?
A $95,900
B $103,100
C $95,100
D $105,100  (2 marks)
4  In which of the following situations is the net realisablevalue of an item of inventory likely to be lower than
cost?
A  The production cost of the item has been falling.
B  The selling price of the item has been rising.
C  The item is becoming obsolete.
D  Demand for the item is increasing.  (2 marks)
5  Which of the following is nottrue regarding IAS 2 Inventories?
A  Fixed production overheads must be allocated to items of inventory on the basis of the normal level
of production.
B  Plant lying idle will lead to a higher fixed overhead allocation to each unit
C  Variable production overheads are allocated to each unit on the basis of the actual usage of
production facilities.
D  Unallocated overheads must be recognised as an expense in the period in which they are incurred.
(2 marks)
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Questions  53
6  At what amount is a biological asset measured on initial recognition in accordance with IAS 41 Agriculture?
A Production cost
B Fair value
C  Cost less estimated point-of sale costs
D  Fair value less estimated point-of-sale costs  (2 marks)
7  Which of the following is notthe outcome of a biological transformation according to IAS 41?
A Growth
B Harvest
C Procreation
D Degeneration  (2 marks)
8  How is a gain or loss arising on a biological asset recognised in accordance with IAS 41?
A  Included in profit or loss for the year
B  Adjusted in retained earnings
C  Shown under 'other comprehensive income'
D  Deferred and recognised over the life of the biological asset  (2 marks)
9  Which of the following statements about IAS 2 Inventoriesare correct?
1  Production overheads should be included in cost on the basis of a company's actual level of activity
in the period.
2  In arriving at the net realisable value of inventories, settlement discounts must be deducted from the
expected selling price.
3  In arriving at the cost of inventories, FIFO, LIFO and weighted average cost formulas are acceptable.
4  It is permitted to value finished goods inventories at materials plus labour cost only, without adding
production overheads.
A 1 only
B  1 and 2
C  3 and 4
D  None of them  (2 marks)
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54  Questions
44 Multiple choice questions – provisions, contingent
liabilities and contingent assets
1  Candel is being sued by a customer for $2 million for breach of contract over a cancelled order. Candel has
obtained legal opinion that there is a 20% chance that Candel will lose the case. Accordingly Candel has
provided $400,000 ($2 million × 20%) in respect of the claim. The unrecoverable legal costs of defending
the action are estimated at $100,000. These have not beenprovided for as the case will not go to court until
next year.
 What is the amount of the provision that should be made by Candel in accordance with IAS 37 Provisions,
Contingent Liabilities and Contingent Assets?
A $2,000,000
B $2,100,000
C $500,000
D $100,000  (2 marks)
2  During the year Peterlee acquired an iron ore mine at a cost of $6 million. In addition, when all the ore has
been extracted (estimated ten years' time) the company will face estimated costs for landscaping the area
affected by the mining that have a present value of $2 million. These costs would still have to be incurred
even if no further ore was extracted.
How should this $2 million future cost be recognised in the financial statements?
A  Provision $2 million and $2 million capitalised as part of cost of mine
B  Provision $2 million and $2 million charged to operating costs
C  Accrual $200,000 per annum for next ten years
D  Should not be recognised as no cost has yet arisen  (2 marks)
3  Hopewell sells a line of goods under a six-month warranty. Any defect arising during that period is
repaired free of charge. Hopewell has calculated that if all the goods sold in the last six months of the
year required repairs the cost would be $2 million. If all of these goods had more serious faults and
had to be replaced the cost would be $6 million.
 The normal pattern is that 80% of goods sold will be fault-free, 15% will require repairs and 5% will  have to be replaced.
 What is the amount of the provision required?
A $2 million
B $1.6 million
C $6 million
D $0.6 million  (2 marks)
4  Which one of the following would notbe valid grounds for a provision?
A  A company has a policy has a policy of cleaning up any environmental contamination caused by its
operations, but is not legally obliged to do so.
B  A company is leasing an office building for which it has no further use. However, it is tied into the
lease for another year.
C  A company is closing down a division. The Board has prepared detailed closure plans which have
been communicated to customers and employees.
D  A company has acquired a machine which requires a major overhaul every three years. The cost of
the first overhaul is reliably estimated at $120,000.  (2 marks)
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Questions  55
45 Promoil (12/08)  27 mins
(a)  The definition of a liability forms an important element of the IASB Conceptual Framework for Financial
Reporting and is the basis for IAS 37 Provisions, Contingent Liabilities and Contingent Assets.
Required
Define a liability and describe the circumstances under which provisions should be recognised. Give two
examples of how the definition of liabilities enhances the reliability of financial statements.  (5 marks)
(b)  On 1 October 20X7, Promoil acquired a newly constructed oil platform at a cost of $30 million together with
the right to extract oil from an offshore oilfield under a government licence. The terms of the licence are that
Promoil will have to remove the platform (which will then have no value) and restore the sea bed to an
environmentally satisfactory condition in ten years' time when the oil reserves have been exhausted. The
estimated cost of this in ten years' time will be $15 million. The present value of $1 receivable in ten years at
the appropriate discount rate for Promoil of 8% is $0.46.
Required
(i)  Explain and quantify how the oil platform should be treated in the financial statements of Promoil for
the year ended 30 September 20X8.  (7 marks)
(ii)  Describe how your answer to (b)(i) would change if the government licence did not require an
environmental clean up.  (3 marks)
(Total = 15 marks)
46 Borough (12/11)  27 mins
(a) IAS 37 Provisions, contingent liabilities and contingent assetsprescribes the accounting and disclosure for
those items named in its title.
Required
Define provisions and contingent liabilities and briefly explain how IAS 37 improves consistency in financial
reporting.  (6 marks)
(b)  The following items have arisen during the preparation of Borough's draft financial statements for the year
ended 30 September 20X1.
(i)  On 1 October 20X0, Borough commenced the extraction of crude oil from a new well on the seabed.
The cost of a ten-year licence to extract the oil was $50 million. At the end of the extraction, although
not legally bound to do so, Borough intends to make good the damage the extraction has caused to
the seabed environment. This intention has been communicated to parties external to Borough. The
cost of this will be in two parts: a fixed amount of $20 million and a variable amount of 2 cents per
barrel extracted. Both of these amounts are based on their present values as at 1 October 20X0
(discounted at 8%) of the estimated costs in ten years' time. In the year to 30 September 20X1
Borough extracted 150 million barrels of oil.  (5 marks)
(ii)  Borough owns the whole of the equity share capital of its subsidiary Hamlet. Hamlet's statement of
financial position includes a loan of $25 million that is repayable in five years' time. $15 million of
this loan is secured on Hamlet's property and the remaining $10 million is guaranteed by Borough in
the event of a default by Hamlet. The economy in which Hamlet operates is currently experiencing a
deep recession, the effects of which are that the current value of its property is estimated at $12 million
and there are concerns over whether Hamlet can survive the recession and therefore repay the loan.  (4 marks)
Required
Describe, and quantify where possible, how items (i) and (ii) above should be treated in Borough's
statement of financial position for the year ended 30 September 20X1.
In the case of item (ii) only, distinguish between Borough's entity and consolidated financial statements and
refer to any disclosure notes. Your answer should only refer to the treatment of the loan and should not
consider any impairment of Hamlet's property or Borough's investment in Hamlet.
Note.The treatment in the income statement is notrequired for any of the items.  (Total = 15 marks)
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56  Questions
47 Shawler (12/12 amended)  27 mins
(a)  Shawler is a small manufacturing company specialising in making alloy casings. Its main item of plant is a
furnace which was purchased on 1 October 20X1. The furnace has two components: the main body (cost
$60,000 including the environmental provision – see below) which has a ten-year life, and a replaceable liner
(cost $10,000) with a five-year life.
The manufacturing process produces toxic chemicals which pollute the nearby environment. Legislation
requires that a clean-up operation must be undertaken by Shawler on 30 September 20Y1 (ten years after
20X1) at the latest.
Shawler received a government grant of $12,000 relating to the cost of the main body of the furnace only.
The following are extracts from Shawler's statement of financial position as at 30 September 20X3 (two
years after the acquisition of the furnace).
Carrying amount
$
Non-current assets    Furnace: main body  48,000   replaceable liner  6,000
Current liabilities    Government grant  1,200
Non-current liabilities    Government grant  8,400
Environmental provision  18,000  (present value discounted at 8% per annum)
Required
(i)  Prepare equivalent extracts from Shawler's statement of financial position as at 30 September 20X4.
(3 marks)
(ii)  Prepare extracts from Shawler's statement of profit or loss for the year ended 30 September 20X4
relating to the items in the statement of financial position.  (3 marks)
(b)  On 1 April 20X4, the government introduced further environmental legislation which had the effect of
requiring Shawler to fit anti-pollution filters to its furnace within two years. An environmental consultant has
calculated that fitting the filters will reduce Shawler's required environmental costs (and therefore its
provision) by 33%. At 30 September 20X4 Shawler had not yet fitted the filters.
Required
Advise Shawler as to whether they need to provide for the cost of the filters as at 30 September 20X4 and
whether they should reduce the environmental provision at this date.  (4 marks)
(c)  Shawler has recently purchased an item of earth moving plant at a total cost of $24 million. The plant has an
estimated life of ten years with no residual value, however its engine will need replacing after every 5,000
hours of use at an estimated cost of $7.5 million. The directors of Shawler intend to depreciate the plant at
$2.4 million ($24 million / 10 years) per annum and make a provision of $1,500 ($7.5 million / 5,000 hours)
per hour of use for the replacement of the engine.
Required
Explain how the plant should be treated in accordance with International Financial Reporting Standards and
comment on the directors' proposed treatment.  (5 marks)
(Total = 15 marks)
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Questions  57
48 Multiple choice questions – financial instruments
1  Which of the following are notclassified as financial instruments under IAS 32 Financial Instruments:
Presentation?
A Share options
B Intangible assets
C Trade receivables
D  Redeemable preference shares  (2 marks)
2  An 8% $30 million convertible loan note was issued on 1 April 20X5 at par. Interest is payable in arrears on
31 March each year. The loan note is redeemable at par on 31 March 20X8 or convertible into equity shares
at the option of the loan note holders on the basis of30 shares for each $100 of loan. A similar instrument
without the conversion option would have an interest rate of 10% per annum.
The present values of $1 receivable at the end of each year based on discount rates of 8% and 10% are:
8% 10%
End of year  1  0.93  0.91
2 0.86 0.83
3 0.79 0.75
What amount will be credited to equity on 1 April 20X5 in respect of this financial instrument?
A $5,976,000
B $1,524,000
C $324,000
D $9,000,000  (2 marks)
3  Dexon's draft statement of financial position as at 31 March 20X8 shows financial assets at fair value
through profit or loss with a carrying amount of $12.5 million as at 1 April 20X7.
These financial assets are held in a fund whose value changes directly in proportion to a specified market
index. At 1 April 20X7 the relevant index was 1,200 and at 31 March 20X8 it was 1,296.
What amount of gain or loss should be recognisedat 31 March 20X8 in respect of these assets?
A $1,000,000 gain
B $96,000 gain
C $1,000,000 loss
D $96,000 loss  (2 marks)
4  A 5% loan note was issued on 1 April 20X0 at its face value of $20 million. Direct costs of the issue were
$500,000. The loan note will be redeemed on 31 March 20X3at a substantial premium. The effective interest
rate applicable is 10% per annum.
At what amount will the loan note appear in the statement of financial position as at 31 March 20X2?
A $21,000,000
B $20,450,000
C $22,100,000
D $21,495,000  (2 marks)
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58  Questions
49 Bertrand (12/11 amended)  27 mins
Bertrand issued $10 million convertible loan notes on 1 October 20X0 that carry a nominal interest (coupon) rate of
5% per annum. They are redeemable on 30 September 20X3 at par for cash or can be exchanged for equity shares
in Bertrand on the basis of 20 shares for each $100 of loan. A similar loan note, without the conversion option,
would have required Bertrand to pay an interest rate of 8%.
When preparing the draft financial statements for the year ended 30 September 20X1, the directors are proposing
to show the loan note within equity in the statement of financial position, as they believe all the loan note holders
will choose the equity option when the loan note is due for redemption. They further intend to charge a finance cost
of $500,000 ($10 million × 5%) in the income statement for each year up to the date of redemption.
The present value of $1 receivable at the end of each year, based on discount rates of 5% and 8%, can be taken as:
5% 8%
End of year  1  0.95  0.93
2 0.91 0.86
3 0.86 0.79
Required
(a)  (i)  Explain why the nominal interest rate on the convertible loan notes is 5%, but for non-convertible
loan notes it would be 8%.  (2 marks)
(ii)  Briefly comment on the impact of the directors' proposed treatment of the loan notes on the financial
statements and the acceptability of this treatment.  (3 marks)
(b)  Prepare extracts to show how the loan notes and the finance charge should be treated by Bertrand in its
financial statements for the year ended 30 September 20X1.  (5 marks)
(c)  On 1 January 20X0, Jedders issued $15m of 7% convertible loan notes at par. The loan notes are
convertible into equity shares in the company, at the option of the note holders, five years after the date of
issue (31 December 20X4) on the basis of 25 shares for each $100 of loan stock. Alternatively, the loan
notes will be redeemed at par.
Jedders has been advised by Fab Factors that, had the company issued similar loan notes without the
conversion rights, then it would have had to pay interest of 10%; the rate is thus lower because the
conversion rights are favourable.
Fab Factors also suggest that, as some of the loan note holders will choose to convert, the loan notes are, in
substance, equity and should be treated as such on Jedders' statement of financial position. Thus, as well as
a reduced finance cost being achieved to boost profitability, Jedders' gearing has been improved compared
to a straight issue of debt.
The present value of $1 receivable at the end of each year, based on discount rates of 7% and 10% can be
taken as:
End of year  7%  10%
1 0.93 0.91
2 0.87 0.83
3 0.82 0.75
4 0.76 0.68
5 0.71 0.62
Required
In relation to the 7% convertible loan notes, calculate the finance cost to be shown in the statement of profit
or loss and the statement of financial position extracts for the year to 31 December 20X0 for Jedders and
comment on the advice from Fab Factors.  (5 marks)
(Total = 15 marks)
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Questions  59
50 Multiple choice questions – revenue
1  A company entered into a contract on 1 January 20X5 to build a factory. The contract price was
$2.8 million. At 31 December 20X5 the contract was certified as 35% complete. Costs incurred during
the year were $740,000 and costs to complete are estimated at $1.4 million. $700,000 has been billed
to the customer but not yet paid.
What amount will be shown under 'amounts due to/from customers' in respect of this contract in the
statement of financial position as at 31 December 20X5?
A  $271,000 due from customers
B  $509,000 due from customers
C  $271,000 due to customers
D  $509,000 due to customers  (2 marks)
2  Which of the following are acceptable methods of accounting for a government grant relating to an asset in
accordance with IAS 20 Accounting for Government Grants and Disclosure of Government Assistance?
(i)  Set up the grant as deferred income
(ii)  Credit the amount received to profit or loss
(iii)  Deduct the grant from the carrying amount of the asset
(iv)  Add the grant to the carrying amount of the asset
A  (i) and (ii)
B  (ii) and (iv)
C  (i) and (iii)
D  (iii) and (iv)  (2 marks)
3  On 1 October 20X2 Pricewell entered into a contractto construct a bridge over a river. The agreed
price was $50 million and construction is expected to be completed on 30 September 20X4. Costs to
date are:
$m
Materials, labour and overheads  12
Specialist plant acquired 1 October 20X2  8
The sales value of the work done at 31 March 20X3 has been agreed at $22 million and the estimated cost to
complete (excluding plant depreciation) is $10 million. The specialist plant will have no residual value at the
end of the contract and should be depreciated on a monthly basis. Pricewell recognises profits on
uncompleted contracts on the percentage of completion basis as determined by the agreed work to date
compared to the total contract price.
What is the profit to date on the contract at 31 March 20X3?
A $8,800,000
B $13,200,000
C $11,440,000
D $10,000,000  (2 marks)
4  The following details apply to a construction contract at 31 December 20X5.
$
Contract value  120,000
Costs to date  48,000
Estimated costs to completion  48,000
Progress billings  50,400
The contract is agreed to be 45% complete at 31 December 20X5.
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60  Questions
What amount should appear in the statement of financial as at 31 December 20X5 as due from customers?
A $8,400
B $48,000
C $6,000
D  $50,400  (2 marks)
5  Sale and leaseback or sale and repurchase arrangements can be used to disguise the substance of loan
transactions by taking them 'off balance sheet'. In this case the legal position is that the asset has been sold
but the substance is that the seller still retains the benefits of ownership.
Which one of the following is nota feature which suggests that the substance of a transaction differs from
its legal form?
A  The seller of an asset retains the ability to use the asset.
B  The seller has no further exposure to the risks of ownership
C  The asset has been transferred at a price substantially above or below its fair value.
D  The 'sold' asset remains on the sellers premises.  (2 marks)
6  Tourmalet sold an item of plant for $50 million on 1 April 20X4. The plant had a carrying amount of $40
million at the date of sale, which was charged to cost of sales. On the same date, Tourmalet entered into an
agreement to lease back the plant for the next five years (being the estimated remaining life of the plant) at a
cost of $14 million per annum payable annually in arrears. An arrangement of this type is normally deemed
to have a financing cost of 10% per annum.
What amount will be shown as income from this transaction in the statement of profit or loss for the year
ended 30 September 20X4?
A $10 million
B $2 million
C $1 million
D Nil  (2 marks)
7  Dexon's statement of profit or loss for the year ended 31 March 20X8 includes $8 million of revenue for
credit sales made on a 'sale or return' basis. At 31 March 20X8 customers who had not yet paid had the
right to return goods to the value of $2.6 million. Dexon applied a mark-up on cost of 30% on all of these
sales. Dexon's customers have in the past returned goods under this type of agreement.
By what amount should Dexon's profit for the year ended 31 March 20X8 be reduced in respect of this?
A $2,600,000
B $780,000
C $600,000
D $2,400,000  (2 marks)
8  Consignment inventory is an arrangement whereby inventory is held by one party but owned by another
party. It is common in the motor trade.
Which of the following indicate that the inventory in question is consignment inventory?
(i)  Manufacturer can require dealer to return the inventory
(ii)  Dealer has no right of return of the inventory
(iii)  Manufacturer bears obsolescence risk
(iv)  Dealer bears slow movement risk
A  (i) and (ii)
B  (i) and (iii)
C  (ii) and (iv)
D  (ii), (iii) and (iv)  (2 marks)
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Questions  61
9  A company receives a government grant of $500,000 on 1 April 20X7 to facilitate purchase of an asset which
costs $750,000. The asset has a five year useful life and is depreciated on a 30% reducing balance basis.
What amount of income will be recognised in respect of the grant in the year to 31 March 20X9?
A Nil
B $150,000
C $105,000
D $100,000  (2 marks)
10  Newmarket's revenue as shown in its draft statement of profit or loss for the year ended 31 December 20X9
is $27 million. This includes:
(i)  $8 million for a consignment of goods sold on 31 December 20X9 on which Newmarket will incur
ongoing service and support costs for two years after the sale. The cost of providing service and
support is estimated at $800,000 per annum. Newmarket applies a 30% mark-up to all service costs.
(ii)  $4 million collected on behalf of Aintree. Newmarket acts as an agent for Aintree and receives a 10%
commission on all sales.
At what amount should revenue be shown in the statement of profit or loss of Newmarket for the year ended
31 December 20X9? (Ignore the time value of money.)
A $22,920,000
B $21,800,000
C $20,520,000
D $21,320,000  (2 marks)
51 Preparation question: Derringdo
Derringdo acquired an item of plant at a gross cost of $800,000 on 1 October 20X2. The plant has an estimated life
of ten years with a residual value equal to 15% of its gross cost. Derringdo uses straight-line depreciation on a time
apportioned basis. The company received a government grant of30% of its cost price at the time of its purchase.
The terms of the grant are that if the company retains the asset for four years or more, then no repayment liability
will be incurred. If the plant is sold within four years a repayment on a sliding scale would be applicable. The
repayment is 75% if sold within the first year of purchase and this amount decreases by 25% per annum. Derringdo
has no intention to sell the plant within the first four years. Derringdo's accounting policy for capital-based
government grants is to treat them as deferred credits and release them to income over the life of the asset to
which they relate.
Required
(a)  Discuss whether the company's policy for the treatment of government grants meets the definition of a
liability in the IASB's Conceptual Framework.
(b)  Prepare extracts of Derringdo's financial statements for the year to 31 March 20X3 in respect of the plant
and the related grant:
 Applying the company's policy
 In compliance with the definition of a liability in the Conceptual Framework. Your answer should
consider whether the sliding scale repayment should be used in determining the deferred credit for
the grant.
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62  Questions
52 Preparation question: Contract
The following details are as at the 31 December 20X5
Contract
1
Contract
2
Contract
3
Contract
4
Contract value  $120,000  $72,000  $240,000  $500,000
Costs to date  $48,000  $8,000  $103,200  $299,600
Estimated costs to completion  $48,000  $54,000  $160,800  $120,400
Work invoiced to date  $50,400  –  $76,800  $345,200
Cash received to date  $40,000  –  $60,000  $320,000
Date started  1.3.20X5  15.10.20X5  1.7.20X5  1.6.20X4
Estimated completion date  30.6.20X615.9.20X6 30.11.20X6 30.7.20X6
% complete   45%   10%   35%   70%
You are to assume that profit accrues evenly over the contract.
The statement of profit or loss for the previous year showed revenue of $225,000 and expenses of $189,000 in
relation to Contract 4.
The company considers that the outcome of a contract cannot be estimated reliably until a contract is 25%
complete. It is, however, probable that the customer will pay for costs incurred so far.
Required
Calculate the amounts to be included in the statement of profit or loss for the year ended 31 December 20X5 and
the statement of financial position as at that date.
Contract 1   Contract 2   Contract 3   Contract 4
$   $   $   $
Statement of profit or loss
Revenue  
Expenses  
Expected loss  
Recognised profit/(loss)
Statement of financial position
Gross amount due from/to customers
Contract costs incurred to date
Recognised profits less recognised losses
Less progress billings to date
Trade receivables
Progress billings to date  
Less cash received  
Workings
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Questions  63
53 Preparation question: Beetie (pilot paper amended)
Beetie is a construction company that prepares its financial statements to 31 March each year. During the year
ended 31 March 20X6 the company commenced two construction contracts that are expected to take more than
one year to complete. The position of each contract at 31 March 20X6 is:
Contract 1  2
$'000 $'000
Agreed contract price  5,500  1,200
Estimated total cost of contract at commencement  4,000  900
Estimated total cost at 31 March 20X6  4,000  1,250
Agreed value of work completed at 31 March 20X6  3,300  840
Progress billings invoiced and received at 31 March 20X6  3,000  880
Contract costs incurred to 31 March 20X6  3,900  720
The agreed value of the work completed at 31 March 20X6 is considered to be equal to the revenue earned in the
year ended 31 March 20X6. The percentage of completion is calculated as the agreed value of work completed to
the agreed contract price.
Required
Calculate the amounts which should appear in the statement of profit or loss and statement of financial position of
Beetie at 31 March 20X6 in respect of the above contracts.
54 Mocca (6/11 amended)  27 mins
IAS 11 Construction contracts deals with accounting requirements for construction contracts whose durations
usually span at least two accounting periods.
Required
(a)  Describe the issues of revenue and profit recognition relating to construction contracts.  (5 marks)
(b)  On 1 October 20X0 Mocca entered into a construction contract that was expected to take 27 months and
therefore be completed on 31 December 20X2. Details of the contract are:
$'000
Agreed contract price  12,500
Estimated total cost of contract (excluding plant)  5,500
Plant for use on the contract was purchased on 1 January 20X1 (three months into the contract as it was not
required at the start) at a cost of $8 million. The plant has a four-year life and after two years, when the
contract is complete, it will be transferred to another contract at its carrying amount. Annual depreciation is
calculated using the straight-line method (assuming a nil residual value) and charged to the contract on a
monthly basis at 1/12 of the annual charge.
The correctly reported profit or loss results for the contract for the year ended 31 March 20X1 were:
$'000
Revenue recognised  3,500
Contract expenses recognised  (2,660)
Profit recognised  840
Details of the progress of the contract at 31 March 20X2 are:
$'000
Contract costs incurred to date (excluding depreciation)  4,800
Agreed value of work completed and billed to date  8,125
Total cash received to date (payments on account)  7,725
The percentage of completion is calculated as the agreed value of work completed as a percentage of the
agreed contract price.
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64  Questions
Required
Calculate the amounts which would appear in the statement of profit or loss and statement of financial
position of Mocca, including the disclosure note of amounts due to/from customers, for the year ended/as at
31 March 20X2 in respect of the above contract.  (10 marks)
(Total = 15 marks)
55 Wardle (6/10 amended)  27 mins
(a)  An important aspect of the International Accounting Standards Board's Conceptual Framework for Financial
Reporting is that transactions should be faithfully represented. Implicit in this is the requirement that they
should be recorded on the basis of their substance over their form.
Required
Explain why it is important that financial statements should reflect the substance of the underlying
transactions and describe the features that may indicate that the substance of a transaction may be different
from its legal form.  (5 marks)
(b)  Wardle's activities include the production of maturing products which take a long time before they are ready
to retail. Details of one such product are that on 1 April 20X0 it had a cost of $5 million and a fair value of
$7 million. The product would not be ready for retail sale until 31 March 20X3.
On 1 April 20X0 Wardle entered into an agreement to sell the product to Easyfinance for $6 million. The
agreement gave Wardle the right to repurchase the product at any time up to 31 March 20X3 at a fixed price
of $7,986,000,at which date Wardle expected the product to retail for $10 million. The compound interest
Wardle would have to pay on a three-year loan of $6 million would be:
$
Year 1  600,000
Year 2  660,000
Year 3  726,000
This interest is equivalent to the return required by Easyfinance.
Required
Assuming the above figures prove to be accurate, prepare extracts from the statement of profit or loss of
Wardle for the three years to 31 March 20X3 in respect of the above transaction:
(i)  Reflecting the legal form of the transaction(2 marks)
(ii)  Reflecting the substance of the transaction(3 marks)
Note.Statement of financial position extracts is notrequired.
(c)  Comment on the effect the two treatments have on the statements of profit or loss and the statements of
financial position and how this may affect an assessment of Wardle's performance.  (5 marks)
(Total = 15 marks)
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Questions  65
56  Multiple choice questions – leasing
1  On 1 January 20X6 Fellini hired a machine under a finance lease. The cash price of the machine was
$3.5 million and the present value of the minimum lease payments was $3.3 million. Instalments of
$700,000 are payable annually in advance with the first payment made on 1 January 20X6. The interest rate
implicit in the lease is 6%.
What amount will appear under non-current liabilities in respect of this lease in the statement of financial
position of Fellini at 31 December 20X7?
A $1,479,000
B $2,179,000
C $1,702,000
D $2,266,000  (2 marks)
2  Which of the following situations does not suggest that a leasing arrangement constitutes a finance lease?
A  The present value of the minimum lease payments is substantially less than the fair value of the
asset.
B  Ownership in the asset is transferred at the end of the lease term.
C  The lease term is for a major part of the asset's useful life.
D  The lease contains a purchase option at a price below fair value, which is reasonably certain to be
exercised.  (2 marks)
3  A company acquired an item of plant under a finance lease on 1 April 20X7. The present value of the
minimum lease payments was $15.6 million and the rentals are $6 million per annum paid in arrears for
three years on 31 March each year.
The interest rate implicit in the lease is 8% per annum.
What amount will appear under current liabilities in respectof this lease in the statement of financial position
at 31 March 20X8?
A $5,132,000
B $5,716,000
C $6,000,000
D $4,752,000  (2 marks)
4  On 1 January 20X6 Platinum entered into a finance lease agreement. The cash price of the asset was
$360,000 and the terms of the lease were a deposit of $120,000 payable on 1 January 20X6 and three
further instalments of $100,000 payable on 31 December 20X6, 31 December 20X7 and 31 December 20X8.
The rate of interest implicit in the lease is 12%.
What will be the amount of the finance charge arising from this lease which will be charged to profit or loss
for the year ended 31 December 20X7?
A $28,800
B $20,256
C $16,800
D $14,400  (2 marks)
5  At what amount does IAS 17 require a lessee to capitalise an asset acquired under a finance lease?
A  Cash price of the asset
B  Fair value of the asset
C  Present value of minimum lease payments
D  Lower of fair value and present value of minimum lease payments  (2 marks)
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66  Questions
57 Preparation question: Branch
Branch acquired an item of plant and equipment on a finance lease on 1 January 20X1. The terms of the agreement
were:
Deposit : $1,150 (non-refundable)
Instalments  :  $4,000 pa for seven years payable in arrears
Cash price  :  $20,000
The asset has useful life of four years and the interest rate implicit in the lease is 11%.
Required
Prepare extracts from the statement of profit or loss and statement of financial position for the year ending
31 December 20X1, using the following pro-forma.
Workings
STATEMENT OF PROFIT OR LOSS (EXTRACT)
$
Depreciation
Finance costs
STATEMENT OF FINANCIAL POSITION (EXTRACT)  $
Non-current assets
Property, plant and equipment – assets held under finance leases
Non-current liabilities
Finance lease liabilities
Current liabilities
Finance lease liabilities
58 Fino (12/07 amended)  27 mins
(a)  An important requirement of the IASB's Conceptual Framework for Financial Reportingis that an entity's
financial statements should represent faithfully the transactions and events that it has undertaken.
Required
Explain what is meant by faithful representation and how it makes financial information useful.  (5 marks)
(b)  On 1 April 20X7, Fino increased the operating capacity of its plant. Due to a lack of liquid funds it was unable
to buy the required plant which had a cost of $350,000. This was equal to both the fair value of the plant and
the present value of the minimum lease payments under the lease. On the recommendation of the finance
director, Fino entered into an agreement to lease the plant from the manufacturer. The lease required four
annual payments in advance of $100,000 each commencing on 1 April 20X7. The plant would have a useful
life of four years and would be scrapped at the end of this period. The finance director, believing the lease to
be an operating lease, commented that the agreement would improve the company's return on capital
employed (compared to outright purchase of the plant).
Required
(i)  Discuss the validity of the finance director's comment and describe how IAS 17 Leases ensures that
leases such as the above are faithfully represented in an entity's financial statements.  (4 marks)
(ii)  Prepare extracts of Fino's statement of profit or loss and statement of financial position for the year
ended 30 September 20X7 in respect of the rental agreement assuming:
(1)  It is an operating lease  (2 marks)
(2)  It is a finance lease (use an implicit interest rate of 10% per annum)  (4 marks)
(Total = 15 marks)
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Questions  67
59 Multiple choice questions – accounting for taxation
1  A company's trial balance shows a debit balance of $2.1 million brought forward on current tax and a credit
balance of $5.4 million on deferred tax. The tax charge for the current year is estimated at $16.2 million and
the carrying amounts of net assets are $13 million in excess of their tax base. The income tax rate is 30%
What amount will be shown as income tax in the statement of profit or loss for the year?
A $15.6 million
B $12.6 million
C $16.8 million
D $18.3 million  (2 marks)
2  The statements of financial position of Nedburg include the following extracts:
Statements of financial position as at 30 September
20X2  20X1
$m  $m
Non-current liabilities
Deferred tax  310  140
Current liabilities
Taxation  130  160
The tax charge in the statement of profit or loss for the year ended 30 September 20X2 is $270 million.
What amount of tax was paid during the year to 30 September 20X2?
A $300 million
B $140 million
C $200 million
D  $130 million  (2 marks)
3  A company's trial balance at 31 December 20X3 shows a debit balance of $700,000 on current tax and a
credit balance of $8,400,000 on deferred tax. The directors have estimated the provision for income tax for
the year at $4.5 million and the required deferred tax provision is $5.6 million, $1.2 million of which relates
to a property revaluation.
What is the profit or loss income tax charge for the year ended 31 December 20X3?
A $1 million
B $2.4 million
C $1.2 million
D $3.6 million  (2 marks
4  The trial balance of Highwood at 31 March 20X6 showed credit balances of $800,000 on current tax and
$2.6 million on deferred tax. A property was revalued during the year giving rise to deferred tax of
$3.75 million. This has been included in the deferredtax provision of $6.75 million at 31 March 20X6.
The income tax charge for the year ended 31 March 20X6 is estimated at $19.4 million.
What will be shown as the income tax charge in the statement of profit or loss of Highwood at
31 March 20X6?
A $19 million
B $22 million
C $19.8 million
D $20.6 million  (2 marks)
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68  Questions
5  The statements of financial position of Pinto included the following.
 Statements of financial position as at:    31 March 20X8  31 March 20X7
 $'000  $'000  Current assets    Income tax asset   -  50
Non-current liabilities
Deferred tax  50  30
Current liabilities    Income tax payable   150  -
The profit or loss income tax charge for the year ended 31 March 20X8 is estimated at $160,000.
What amount of income tax has been received or paid during the year ended 31 March 20X8?
A $60,000 paid
B $40,000 paid
C $60,000 received
D  $40,000 received  (2 marks)
60 Preparation question: Julian
Julian recognised a deferred tax liability for the year end 31 December 20X3 which related solely to accelerated tax
depreciation on property, plant and equipment at a rate 30%. The net book value of the property, plant and
equipment at that date was $310,000 and the tax written down value was $230,000.
The following data relates to the year ended 31 December 20X4:
(i)  At the end of the year the carrying value of property, plant and equipment was $460,000 and their tax written
down value was $270,000. During the year some items were revalued by $90,000. No items had previously
required revaluation. In the tax jurisdiction in which Julian operates revaluations of assets do not affect the
tax base of an asset or taxable profit. Gains due to revaluations are taxable on sale.
(ii)  Julian began development of a new product during the year and capitalised $60,000 in accordance with
IAS 38. The expenditure was deducted for tax purposes as it was incurred. None of the expenditure had been
amortised by the year end.
(iii)  Julian's statement of profit or loss showed interest income receivable of $55,000, but only $45,000 of this
had been received by the year end. Interest income is taxed on a receipts basis.
(iv)  During the year, Julian made a provision of $40,000 to cover an obligation to clean up some damage caused
by an environmental accident. None of the provision had been used by the year end. The expenditure will be
tax deductible when paid.
The corporate income tax rate recently enacted for the following year is 30% (unchanged from the previous year).
The current tax charge was calculated for the year as $45,000.
Current tax is settled on a net basis with the national tax authority.
Required
(a)  Prepare a table showing the carrying values, tax bases and temporary differences for each for the items
above at 31 December 20X4.
(b)  Prepare the statement of profit or loss and statement of financial position notes to the financial statements
relating to deferred tax for the year ended 31 December 20X4.
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Questions  69
61 Preparation question: Bowtock
(a) IAS 12 Income Taxesdetails the requirements relating to the accounting treatment of deferred taxes.
Required
Explain why it is considered necessary to provide for deferred tax and briefly outline the principles of
accounting for deferred tax contained in IAS 12 Income taxes.
(b)  Bowtock purchased an item of plant for $2,000,000 on 1 October 20X0. It had an estimated life of eight
years and an estimated residual value of $400,000. The plant is depreciated on a straight-line basis. The tax
authorities do not allow depreciation as a deductible expense. Instead a tax expense of 40% of the cost of
this type of asset can be claimed against income tax in the year of purchase and 20% per annum (on a
reducing balance basis) of its tax base thereafter. The rate of income tax can be taken as 25%.
Required
In respect of the above item of plant, calculate the deferred tax charge/credit in Bowtock's statement of profit
or loss for the year to 30 September 20X3 and the deferred tax balance in the statement of financial position at
that date.
Note.Work to the nearest $'000.
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70  Questions
62 Multiple choice questions – earnings per share
1  Barwell had 10 million ordinary shares in issue throughout the year ended 30 June 20X3. On 1 July 20X2 it
had issued $2 million of 6% convertible loan stock, each$5 of loan stock convertible into 4 ordinary shares
on 1 July 20X6 at the option of the holder.
Barwell had profit after tax for the year ended 30 June 20X3 of $1,850,000. It pays tax on profits at 30%.
What was diluted EPS for the year?
A 16.7c
B 18.5c
C 16.1c
D 17c  (2 marks)
2  At 1 January 20X8 Artichoke had 5 million $1 equity shares in issue. On 1 June 20X8 it made a 1 for 5 rights
issue at a price of $1.50. The market price of the shares on the last day of quotation with rights was $1.80.
Total earnings for the year ended 31 December 20X8 was $7.6 million.
What was EPS for the year?
A $1.35
B $1.36
C $1.27
D $1.06  (2 marks)
3  Waffle had share capital of $7.5 million in 50c equity shares at 1 October 20X6. On 1 January 20X7 it made
an issue of 4 million shares at full market price immediately followed by a 1 for 3 bonus issue.
The financial statements at 30 September 20X7 showed profit for the year of $12 million.
What was EPS for the year?
A 53c
B 73c
C 48c
D 50c  (2 marks)
4  Plumstead had 4 million equity shares in issue throughout the year ended 31 March 20X7. On
30 September 20X7 it made a 1 for 4 bonus issue. Profit after tax for the year ended 31 March 20X8 was
$3.6 million, out of which an equity dividend of 20c per share was paid. The financial statements for the year
ended 31 March 20X7 showed EPS of 70c.
What is the EPS for the year ended 31 March 20X8 and the restated EPS for the year ended 31 March 20X7?
20X8 20X7
A 72c  87.5c
B 52c  56c
C 80c  87.5c
D 72c  56c
(2 marks)
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Questions  71
5  At 30 September 20X2 the trial balance of Cavern includes the following balances:
$'000
Equity shares of 20c each  50,000
Share premium  15,000
Cavern has accounted for a fully-subscribed rights issue of equity shares made on 1 April 20X2 of one new
share for every four in issue at 42 cents each. This was the only share issue made during the year.
What were the balances on the share capital and share premium accounts at 30 September 20X1?
 Share capital  Share premium
 $'000  $'000
A  37,500  11,250
B  40,000  4,000
C  37,500  4,000
D  40,000  11,250
(2 marks)
63 Preparation question: Fenton
(a)  Fenton had 5,000,000 ordinary shares in issue on 1 January 20X1.
On 31 January 20X1, the company made a rights issue of 1 for 4 at $1.75. Thecum rights price was $2 per share.
On 30 June 20X1, the company made an issue at full market price of 125,000 shares.
Finally, on 30 November 20X1, the company made a 1 for 10 bonus issue.
Profit for the year was $2,900,000.
The reported EPS for year ended 31 December 20X0 was 46.4c.
Required
What was the earnings per share figure for year ended 31 December 20X1 and the restated EPS for year
ended 31 December 20X0?
(b)  Sinbad had the same 10 million ordinary shares in issue on both 1 January 20X1 and 31 December 20X1.
On 1 January 20X1 the company issued 1,200,000 $1 unitsof 5% convertible loan stock. Each unit of stock
is convertible into 4 ordinary shares on 1 January 20X9 at the option of the holder. The following is an
extract from Sinbad's statement of profit or loss for the year ended 31 December 20X1.
$'000
Profit before interest and tax  980
Interest payable on 5% convertible loan stock  (60)
Profit before tax  920
Income tax expense (at 30%)  (276)
Profit for the year   644
Required
What was the basic and diluted earnings per share for the year ended 31 December 20X1?
(c)  Talbot has in issue 5,000,000 50c ordinary shares throughout 20X3.
During 20X1 the company had given certain senior executives options over 400,000 shares exercisable at
$1.10 at any time after 31 May 20X4. None were exercised during 20X3. The average market value of one
ordinary share during the period was $1.60. Talbot had made a profit after tax of $540,000 in 20X3.
Required
What is the basic and diluted earnings per share for the year ended 31 December 20X3?
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72  Questions
64 Barstead (12/09 amended)  27 mins
(a)  The following figures have been calculated from the financial statements (including comparatives) of
Barstead for the year ended 30 September 20X1.
Increase in profit after taxation  80%
Increase in (basic) earnings per share  5%
Increase in diluted earnings per share  2%
Required
Explain why the three measures of earnings (profit) growth for the same company over the same period can
give apparently differing impressions.  (4 marks)
(b)  The profit after tax for Barstead for the year ended 30 September 20X1 was $15 million. At 1 October 20X0
the company had in issue 36 million equity shares and a $10 million 8% convertible loan note. The loan note
will mature in 20X2 and will be redeemed at par or converted to equity shares on the basis of 25 shares for
each $100 of loan note at the loan-note holders' option. On 1 January 20X1 Barstead made a fully
subscribed rights issue of one new share for every four shares held at a price of $2.80 each. The market
price of the equity shares of Barstead immediately before the issue was $3.80. The earnings per share (EPS)
reported for the year ended 30 September 20X0 was 35 cents.
Barstead's income tax rate is 25%.
Required
Calculate the (basic) EPS figure for Barstead (including comparatives) and the diluted EPS (comparatives
not required) that would be disclosed for the year ended 30 September 20X1.  (6 marks)
(c)  The issued share capital of Savoir, a publicly listed company, at 31 March 20X5 was $10 million. Its shares
are denominated at 25 cents each.
On 1 April 20X5 Savoir issued $20 million 8% convertible loan stock at par. The terms of conversion (on
1 April 20X8) are that for every $100 of loan stock, 50 ordinary shares will be issued at the option of loan
stockholders. Alternatively the loan stock will be redeemed at par for cash. Also on 1 April 20X5 the
directors of Savoir were awarded share options on 12 million ordinary shares exercisable from 1 April 20X8
at $1.50 per share. The average market value of Savoir's ordinary shares for the year ended 31 March 20X6
was $2.50 each. The income tax rate is 25%. Earnings attributable to ordinary shareholders for the year
ended 31 March 20X6 were $25,200,000. The share optionshave been correctly recorded in the financial
statements.
Required
Calculate Savoir's basic and diluted earnings per share for the year ended 31 March 20X6 (comparative
figures are not required).
You may assume that both the convertible loan stock and the directors' options are dilutive.  (5 marks)
(Total = 15 marks)
65 Rebound (6/11 amended)  27 mins
(a)  Your assistant has been reading the IASB's Conceptual Framework for Financial Reportingand as part of the
qualitative characteristics of financial statements under the heading of 'relevance' he notes that the
predictive value of information is considered important. He is aware that financial statements are prepared
historically (ie after transactions have occurred) and offers the view that the predictive value of financial
statements would be enhanced if forward-looking information (eg forecasts) were published rather than
backward-looking historical statements.
Required
By the use of specific examples, provide an explanation to your assistant of how IFRS presentation and
disclosure requirements can assist the predictive role of historically prepared financial statements.
(6 marks)
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Questions  73
(b)  The following summarised information is available in relation to Rebound, a publicly listed company.
Statement of profit or loss extracts years ended 31 March:
20X2  20X1
Continuing Discontinued Continuing Discontinued
$'000  $'000  $'000  $'000
Profit after tax    
Existing operations  2,000  (750)  1,750  600
Operations acquired on 1 August 20X1  450   nil
Analysts expect profits from the market sector in which Rebound's existing operations are based to increase
by 6% in the year to 31 March 20X3 and by 8% in the sector of its newly acquired operations.
On 1 April 20X0 Rebound had in issue:
 $3 million of 25 cents equity shares
 $5 million 8% convertible loan stock 20X7; the terms of conversion are 40 equity shares in exchange
for each $100 of loan stock
Assume an income tax rate of 30%.
On 1 October 20X1 the directors of Rebound were granted options to buy 2 million shares in the company
for $1 each. The average market price of Rebound's shares for the year ending 31 March 20X2 was $2.50
each.
Required
(i)  Calculate Rebound's estimated profit after tax for the year ending 31 March 20X3 assuming the
analysts' expectations prove correct.  (3 marks)
(ii)  Calculate the diluted earnings per share (EPS)on the continuing operations of Rebound for the year
ended 31 March 20X2 and the comparatives for 20X1.  (6 marks)
(Total = 15 marks)
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74  Questions
66 Multiple choice questions – analysing and interpreting
financial statements
1  An entity has an average operating profit margin of 23% and an average asset turnover of 0.8, which is
similar to the averages for the industry.
The entity is likely to be:
A  An architectural practice
B A supermarket
C  An estate agent
D A manufacturer  (2 marks)
2  Extracts from the financial statements of Persimmon are as follows:
Statement of profit or loss    Statement of financial position
$'000    $'000
Operating profit  230  Ordinary shares  2,000
Finance costs  (15) Revaluation surplus  300
Profit before tax  215  Retained earnings   1,200  Income tax   (15)  3,500
Profit for the year  200 10% loan notes  1,000
Current liabilities  100
  Total equity and liabilities  4,600
What is the return on capital employed?
A 5.1%
B 4.7%
C 6.6%
D 6%  (2 marks)
3  Which of the following will increase the length of a company's operating cycle?
A  Reducing the receivables collection period
B  Reducing the inventory holding period
C  Reducing the payables payment period
D  Reducing time taken to produce goods  (2 marks)
4  In the year to 31 December 20X9 Weston pays an interim equity dividend of 3.4c per share and
declares a final equity dividend of 11.1c. It has 5 million $1 shares in issue and the ex div share price
is $3.50.
What is the dividend yield?
A 4%
B 24%
C 3.2%
D 4.1%  (2 marks)
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Questions  75
5  Analysis of the financial statements of Capricorn at 31 December 20X8 yields the following information.
Gross profit margin  30%
Current ratio  2.14
ROCE 16.3%
Asset turnover  4.19
Inventory turnover  13.9
What is the net profit margin?
A 3.9%
B 7.6%
C 16.1%
D 7.1%  (2 marks)
6  Camargue is a listed company with four million 50c ordinary shares in issue. The following extract is
from its financial statements for the year ended 30 September 20X4.
Statement of profit or loss
$'000
Profit before tax  900
Income tax expense (100)
Profit for the year  800
At 30 September 20X4 the market price of Camargue's shares was $1.50. What was the P/E ratio on that
date?
A 6.6
B 7.5
C 3.75
D 3.3  (2 marks)
67 Preparation question: Victular (12/08)
Victular is a public company that would like to acquire (100% of) a suitable private company. It has obtained the
following draft financial statements for two companies, Grappa and Merlot. They operate in the same industry and
their managements have indicated that they would be receptive to a takeover.
STATEMENTS OF PROFIT OR LOSS FOR THE YEAR ENDED 30 SEPTEMBER 20X8
Grappa Merlot
$'000   $'000
Revenue
12,000   20,500
Cost of sales
(10,500)  (18,000)
Gross profit
1,500   2,500
Operating expenses
(240)  (500)
Finance costs – loan
(210)  (300)
– overdraft
nil
(10)
– lease
nil   (290)
Profit before tax
1,050   1,400
Income tax expense  (150)  (400)
Profit for the year
900   1,000
Note.Dividends paid during the year.    250    700
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76  Questions
STATEMENTS OF FINANCIAL POSITION AS AT 30 SEPTEMBER 20X8
Grappa   Merlot
 $'000  $'000  $'000  $'000
Non-current assets
Freehold factory (Note 1)
4,400
nil
Owned plant (Note 2)
5,000    2,200
Leased plant (Note 2)
nil    5,300
9,400    7,500
Current assets
Inventory  2,000    3,600
Trade receivables
2,400    3,700
Bank
600
nil
5,000    7,300
Total assets     14,400 14,800
Equity and liabilities  
Equity shares of $1 each 2,000  2,000
Property revaluation reserve
900
nil
Retained earnings
2,600
800
5,500    2,800
Non-current liabilities
Finance lease obligations (Note 3)
nil    3,200
7% loan notes
3,000
nil
10% loan notes
nil    3,000
Deferred tax
600    100
Government grants
1,200
nil
4,800    6,300
Current liabilities
Bank overdraft
nil    1,200
Trade payables
3,100    3,800
Government grants
400
nil
Finance lease obligations (Note 3)
nil    500
Taxation
600
200
4,100    5,700
Total equity and liabilities
14,400   14,800
Notes
1  Both companies operate from similar premises.
2  Additional details of the two companies' plant are:
Grappa  Merlot
$'000   $'000
Owned plant – cost  8,000  10,000
Leased plant – original fair value  nil  7,500
There were no disposals of plant during the year by either company.
3  The interest rate implicit within Merlot's finance leases is 7.5% per annum. For the purpose of calculating
ROCE and gearing, all finance lease obligations are treated as long-term interest bearing borrowings.
4  The following ratios have been calculated for Grappa and can be taken to be correct.
Return on year end capital employed (ROCE)  14.8%
(capital employed taken as shareholders' funds plus long-term interest bearing
borrowings – see Note 3 above)
Pre-tax return on equity (ROE)  19.1%
Net asset (total assets less current liabilities) turnover  1.2 times
Gross profit margin  12.5%
Operating profit margin  10.5%
Current ratio  1.2:1
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Questions  77
Closing inventory holding period  70 days
Trade receivables' collection period  73 days
Trade payables' payment period (using cost of sales)  108 days
Gearing (see Note 3 above)  35.3%
Interest cover  6 times
Dividend cover  3.6 times
Required
(a)  Calculate for Merlot the ratios equivalent to all those given for Grappa above.
(b)  Assess the relative performance and financial position of Grappa and Merlot for the year ended
30 September 20X8 to inform the directors of Victular in their acquisition decision.
(c)  Explain the limitations of ratio analysis and any further information that may be useful to the directors of
Victular when making an acquisition decision.
68 Bengal (6/11amended)  27 mins
Bengal is a public company. Its most recent financial statements are shown below:
STATEMENTS OF PROFIT OR LOSS FOR THE YEAR ENDED 31 MARCH
20X1  20X0
$'000  $'000
Revenue  25,500  17,250
Cost of sales  (14,800)  (10,350)
Gross profit  10,700  6,900
Distribution costs
(2,700) (1,850)
Administrative expenses
(2,100) (1,450)
Finance costs  (650)  (100)
Profit before taxation  5,250  3,500
Income tax expense (2,250)  (1,000)
Profit for the year  3,000 2,500
STATEMENTS OF FINANCIAL POSITION AS AT 31 MARCH
20X1  20X0
$'000  $'000  $'000  $'000
Non-current assets    Property, plant and equipment   9,500   5,400
Intangibles      6,200
nil
15,700   5,400
Current assets    Inventory  3,600   1,800
Trade receivables  2,400   1,400
Bank  nil   4,000   Non-current assets held for sale   2,000 8,000 nil 7,200
Total assets    23,700    12,600
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78  Questions
20X1  20X0
 $'000  $'000  $'000  $'000  Equity and liabilities
Equity
Equity shares of $1 each   5,000   5,000  Retained earnings   4,500 2,250
9,500   7,250
Non-current liabilities  
5% loan notes    2,000   2,000
8% loan notes    7,000   nil
Current liabilities
Bank overdraft  200   nil   Trade payables  2,800   2,150
Current tax payable   2,200 5,200 1,200 3,350
Total equity and liabilities     23,700 12,600
Notes
1  There were no disposals of non-current assets during the period; however Bengal does have some noncurrent assets classified as 'held for sale' at 31 March 20X1.
2  Depreciation of property, plant and equipment for the year ended 31 March 20X1 was $640,000.
A disappointed shareholder has observed that although revenue during the year has increased by 48%
(8,250 / 17,250 × 100), profit for the year has only increased by 20% (500 / 2,500 × 100).
Required
Comment on the performance (including addressing the shareholder's observation) and financial position of Bengal
for the year ended 31 March 20X1.
Note.Up to five marks are available for the calculation of appropriate ratios.  (15 marks)
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Questions  79
69 Multiple choice questions – limitations of financial
statements and interpretation techniques
1  An entity carries its property at revalued amount. Property values have fallen during the current period and
an impairment loss has been recognised on the property, however its carrying amount is still higher than its
depreciated historical cost.
What is the effect of the impairment on these ratios?
ROCE  Gearing
A Decrease  Decrease
B Decrease  Increase
C Increase  Decrease
D Increase  Increase   (2 marks)
2  A company has a current ratio of 1.5, a quick ratio of 0.4 and a positive cash balance. If it purchases
inventory on credit, what is the effect on these ratios?
Current ratio  Quick ratio
A Decrease  Decrease
B Decrease  Increase
C Increase  Decrease
D Increase  Increase   (2 marks)
3  Fritwell has an asset turnover of 2.0 and an operating profit margin of 10%. It is launching a new product
which is expected to generate additional sales of $1.6 million and additional profit of $120,000. It will require
additional assets of $500,000.
Assuming there are no other changes to current operations, how will the new product affect these ratios?
Operating profit margin  ROCE
A  Decrease  Decrease
B  Decrease  Increase
C  Increase  Decrease
D  Increase  Increase   (2 marks)
4  Which of the following is a possible reason why a company's inventory holding period increases from one
year to the next?
A  An increase in demand for its products
B  A reduction in selling prices
C  Obsolete inventory lines
D  Seasonal fluctuations in orders  (2 marks)
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80  Questions
5  Use of historical cost accounting means asset values can be reliably verified but it has a number of
shortcomings which need to be considered when analysing financial statements.
Which one of these is a possible result of the use of historical cost accounting during a period of inflation?
A  Overstatement of non-current asset values
B Overstatement of profits
C  Understatement of interest costs
D  Understatement of ROCE  (2 marks)
6  Creative accounting measures are often aimed at reducing gearing.
Which one of these is nota measure which can be used to reduce (or not increase) gearing?
A  Re-negotiating a loan to secure a lower interest rate
B  Treating a finance lease as an operating lease
C  Repaying a loan just before the year end and taking it out again at the beginning of the next year.
D  'Selling' an asset under a sale and leaseback agreement  (2 marks)
7  If a company wished to maintain the carrying amount in the financial statements of its non-current
assets, which one of the following would it be unlikely to do?
A  Enter into a sale and operating leaseback
B  Account for asset –based government grants using the deferral method
C  Revalue its properties
D  Change the depreciation method for new asset acquisitions from 25% reducing balance to
ten years straight line  (2 marks)
70 Waxwork (6/09)  27 mins
(a)  The objective of IAS 10 Events After the Reporting Periodis to prescribe the treatment of events that occur
after an entity's reporting period has ended.
Required
Define the period to which IAS 10 relates and distinguish between adjusting and non-adjusting events.
(5 marks)
(b)  Waxwork's current year end is 31 March 20X9. Its financial statements were authorised for issue by its
directors on 6 May 20X9 and the AGM (annual general meeting) will be held on 3 June 20X9. The following
matters have been brought to your attention.
(i)  On 12 April 20X9 a fire completely destroyed the company's largest warehouse and the inventory it
contained. The carrying amounts of the warehouse and the inventory were $10 million and $6 million
respectively. It appears that the company has not updated the value of its insurance cover and only
expects to be able to recover a maximum of $9 million from its insurers. Waxwork's trading
operations have been severely disrupted since the fire and it expects large trading losses for some
time to come.  (4 marks)
(ii)  A single class of inventory held at another warehouse was valued at its cost of $460,000 at 31 March
20X9. In April 20X9 70% of this inventory was sold for $280,000 on which Waxworks' sales staff
earned a commission of 15% of the selling price.  (3 marks)
(iii)  On 18 May 20X9 the government announced tax changes which have the effect of increasing
Waxwork's deferred tax liability by $650,000 as at 31 March 20X9.  (3 marks)
Required
Explain the required treatment of the items (i) to (iii) by Waxwork in its financial statements for the year
ended 31 March 20X9.
Note.Assume all items are material and are independent of each other.  (10 marks as indicated)
(Total =15 marks)
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Questions  81
71 Quartile (12/12 amended)  27 mins
Quartile sells jewellery through stores in retail shopping centres throughout the country. Over the last two years it
has experienced declining profitability and is wondering if this is related to the sector as a whole. It has recently
subscribed to an agency that produces average ratios across many businesses. Below are the ratios that have been
provided by the agency for Quartile's business sector based on a year end of 30 June 20X2 and the equivalent
ratios for Quartile.
Quartile Sector average
Return on year-end capital employed (ROCE)  12.1%  16.8%
Net asset (total assets less current liabilities) turnover  1.6 times  1.4 times
Gross profit margin  25%  35%
Operating profit margin  7.5%  12%
Current ratio  1.55:1  1.25:1
Average inventory turnover  4.5 times  3 times
Trade payables' payment period  45 days  64 days
Debt to equity  30%  38%
The financial statements of Quartile for the year ended 30 September 20X2 are:
STATEMENT OF PROFIT OR LOSS
$'000  $'000
Revenue   56,000
Opening inventory  8,300
Purchases  43,900
Closing inventory  (10,200)
Cost of sales   (42,000)
Gross profit   14,000
Operating costs
(9,800)
Finance costs   (800)
Profit before tax   3,400
Income tax expense (1,000)
Profit for the year   2,400
STATEMENT OF FINANCIAL POSITION
S'000
ASSETS
Non-current assets
Property and shop fittings  25,600
Deferred development expenditure    5,000
30,600
Current assets
Inventory 10,200
Bank    1,000
11,200
Total assets   41,800
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82  Questions
EQUITY AND LIABILITIES
Equity
Equity shares of $1 each  15,000
Property revaluation reserve  3,000
Retained earnings    8,600
26,600
Non-current liabilities
10% loan notes   8,000
Current liabilities
Trade payables   5,400
Current tax payable   1,800
7,200
Total equity and liabilities   41,800
Note. The deferred development expenditure relates to an investment in a process to manufacture artificial precious
gems for future sale by Quartile in the retail jewellery market.
Required
(a)  Assess the financial and operating performance of Quartile in comparison to its sector averages. (11 marks)
(b)  Explain four possible limitations on the usefulness of the above comparison.  (4 marks)
(Total = 15 marks)
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Questions  83
72 Multiple choice questions – statement of cash flows
1  Extracts from the statements of financial position of Nedburg are as follows.
Statements of financial position as at 30 September:
20X2  20X1
$m  $m
Ordinary shares of $1 each  750  500
Share premium  350  100
On 1 October 20X1 a bonus issue of one new share for every 10 held was made, financed from the share
premium account. This was followed by a further issue for cash.
What amount will appear under 'cash flows from financing activities' in the statement of cash flows of
Nedburg for the year ended 30 September 20X2 in respect of share issues?
A $500 million
B $450 million
C $550 million
D $250 million  (2 marks)
2  The carrying amount of property, plant and equipment was $410 million at 31 March 20X1 and $680
million at 31 March 20X2. During the year, property with a carrying amount of $210 million was
revalued to $290 million. The depreciation charge for the year was $115 million. There were no
disposals.
What amount will appear on the statement of cash flows for the year ended 31 March 20X2 in respect of
purchases of property, plant and equipment?
A $270 million
B $225 million
C $235 million
D $305 million  (2 marks)
3  The statement of financial position of Pinto at 31 March 20X7 showed property, plant and equipment with a
carrying amount of $1,860,000. At 31 March 20X8 it had increased to $2,880,000.
During the year to 31 March 20X8 plant with a carrying amount of $240,000 was sold at a loss of $90,000,
depreciation of $280,000 was charged and $100,000 was added to the revaluation surplus in respect of
property, plant and equipment.
What amount should appear under 'investing activities' inthe statement of cash flows of Pinto for the year
ended 31 March 20X8 as cash paid to acquire property, plant and equipment?
A $1,640,000
B $1,440,000
C $1,260,000
D $1,350,000  (2 marks)
4  Extracts from Deltoid's statements of financial position are as follows.
Statement of financial position as at 31 March:
20X1 20X0
$'000 $'000
Non-current assets
Property, plant and equipment
Leased plant  6,500  2,500
Non-current liabilities
Finance lease obligations  4,800  2,000
Current liabilities
Finance lease obligations  1,700  800
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84  Questions
During the year to 31 March 20X1 depreciation charged on leased plant was $1,800,000.
What amount will be shown in the statement of cash flows of Deltoid for the year ended 31 March 20X1 in
respect of payments made under finance leases?
A $300,000
B $7,100,000
C $2,100,000
D $5,800,000  (2 marks)
73 Preparation question: Dickson
Below are the statements of financial position of Dickson as at 31 March 20X8 and 31 March 20X7, together with
the statement of profit or loss and other comprehensive income for the year ended 31 March 20X8.
20X8   20X7
$'000   $'000
Non-current assets
Property, plant and equipment    825   637
Goodwill   100   100
Development expenditure  290  160
1,215  897
Current assets
Inventories 360   227
Trade receivables   274   324
Investments 143   46
Cash  29  117
806  714
2,021 1,611
Equity
Share capital – $1 ordinary shares   500   400
Share premium   350   100
Revaluation surplus   152   60
Retained earnings  237  255
1,239  815
Non-current liabilities
6% debentures   150   100
Finance lease liabilities   100   80
Deferred tax  48  45
298   225
Current liabilities
Trade payables  274 352
Finance lease liabilities  17 12
Current tax  56 153
Debenture interest  5 –
Bank overdraft   132 54
__484 571
2,021 1,611
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Questions  85
STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
$'000
Revenue  1,476
Cost of sales  (962)
Gross profit  514
Other expenses
(157)
Finance costs  (15)
Profit before tax  342
Income tax expense  (162)
Profit for the year  180
Other comprehensive income:
Gain on revaluation of property, plant and equipment  100
Total comprehensive income for the year  280
Notes
1  Goodwill arose on the acquisition of unincorporated businesses. During 20X8 expenditure on development
projects totalled $190,000.
2  During 20X8 items of property, plant and equipment with a net book value of $103,000 were sold for
$110,000. Depreciation charged in the year on property, plant and equipment totalled $57,000. Dickson
purchased $56,000 of property, plant and equipment bymeans of finance leases, payments being made in
arrears on the last day of each accounting period.
3  The current asset investments are government bonds and management has decided to class them as cash
equivalents.
4  The new debentures were issued on 1 April 20X7. Finance cost includes debenture interest and finance lease
finance charges only.
5  During the year Dickson made a 1 for 8 bonus issue capitalising its retained earnings, followed by a rights
issue.
Required
Using the pro-forma below:
(a)  Prepare a statement of cash flows for Dickson in accordance with IAS 7 using the indirect method
(b)  Prepare (additionally) net cash from operating activities using the direct method
(a) DICKSON
STATEMENT OF CASH FLOWS FOR THE YEAR ENDED 31 MARCH 20X8
Cash flows from operating activities   $'000   $'000
Profit before taxation
Adjustments for:
Depreciation
Amortisation
Interest expense
Profit on disposal of assets  _______
Movement in trade receivables
Movement in inventories
Movement in trade payables  _______
Cash generated from operations
Interest paid
Income taxes paid  _______
Net cash from operating activities
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86  Questions
Cash flows from investing activities
Development expenditure
Purchase of property, plant & equipment
Proceeds from sale of property, plant & equipment_______
Net cash used in investing activities
Cash flows from financing activities
Proceeds from issue of shares
Proceeds from issue of debentures
Payment of finance lease liabilities
Dividends paid_______
Net cash from financing activities  _______
Net decrease in cash and cash equivalents
Cash and cash equivalents at beginning of period  _______
Cash and cash equivalents at end of period  _______
Workings
(b)  CASH FLOWS FROM OPERATING ACTIVITIES (Direct method)
$'000
Cash received from customers
Cash paid to suppliers and employees______
Cash generated from operations
Interest paid
Income taxes paid______
Net cash from operating activities______
Workings
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Questions  87
74 Mocha (12/11 amended)  54 mins
(a)  The following information relates to the draft financial statements of Mocha.
SUMMARISED STATEMENTS OF FINANCIAL POSITION AS AT 30 SEPTEMBER
20X1 20X0
$'000    $'000
Assets
Non-current assets
Property, plant and equipment (Note 1)  32,600   24,100  Financial asset: equity investments (Note 2)   4,500  7,000
37,100  31,100
Current assets    Inventory 10,200    7,200
Trade receivables  3,500   3,700  Bank
nil    1,400
13,700  12,300
Total assets   50,800  43,400
Equity
Equity shares of $1 each (Note 3)  14,000   8,000  Share premium (Note 3)  nil   2,000  Revaluation reserve (Note 3)  2,000   3,600  Retained earnings   13,000 10,100
29,000    23,700
Non-current liabilities    Finance lease obligations  7,000   6,900  Deferred tax
1,300
900
Current liabilities    Tax 1,000    1,200
Bank overdraft  2,900   nil
Provision for product warranties (Note 4)  1,600   4,000  Finance lease obligations  4,800   2,100  Trade payables    3,200 4,600
Total equity and liabilities   50,800  43,400
SUMMARISED STATEMENTS OF PROFIT OR LOSS FOR THE YEARS ENDED 30 SEPTEMBER:
 20X1 20X0
 $'000 $'000  Revenue  58,500     41,000
Cost of sales     (46,500)     (30,000)
Gross profit   12,000   11,000  Operating expenses   (8,700)   (4,500)  Investment income (Note 2)   1,100   700
Finance costs      (500)      (400)
Profit before tax   3,900   6,800  Income tax expense      (1,000)     (1,800)
Profit for the year      2,900   5,000
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88  Questions
Notes
The following additional information is available.
1  Property, plant and equipment
Cost Accumulated Carrying
depreciation amount
$'000  $'000  $'000
At 30 September 20X0  33,600  (9,500)  24,100
New finance lease additions  6,700    6,700
Purchase of new plant  8,300    8,300
Disposal of property  (5,000)  1,000  (4,000)
Depreciation for the year        (2,500)  (2,500)
At 30 September 20X1   43,600 (11,000)  32,600
The property disposed of was sold for $8.1 million.
2 Investments/investment income:
During the year an investment that had a carrying amount of $3 million was sold for $3.4 million.
No investments were purchased during the year.
Investment income consists of:
Year to 30 September:  20X1  20X0
$'000  $'000
Dividends received  200  250
Profit on sale of investment  400  nil
Increases in fair value    500 450
1,100 700
3  On 1 April 20X1 there was a bonus issue of shares that was funded from the share premium and
some of the revaluation reserve. This was followed on 30 April 20X1 by an issue of shares for cash at
par.
4  The movement in the product warranty provision has been included in cost of sales.
Required
Prepare a statement of cash flows for Mocha for the year ended 30 September 20X1, in accordance with
IAS 7 Statement of cash flows, using the indirect method.  (19 marks)
(b)  Comment on the performance and cash flow management of Mocha (ratios are not required).  (5 marks)
(c)  Shareholders can often be confused when trying to evaluate the information provided to them by a
company's financial statements, particularly when comparing accruals-based information in the income
statement and the statement of financial position with that in the statement of cash flows.
Required
In the two areas stated below, illustrate, by reference to the information in the question and your answer to
(a), how information in a statement of cash flows may give a different perspective of events than that given
by accruals-based financial statements:
(i) Operating performance  (3 marks)
(ii)  Investment in property, plant and equipment  (3 marks)
(Total = 30 marks)
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Questions  89
75 Multiple choice questions – alternative models and
practices
1  Historical cost accounting remains in use because of its practical advantages.
Which one of the following is not an advantage of historical cost accounting?
A  Amounts of transactions are reliable and can be verified.
B  Amounts in the statement of financial position can be matched to amounts in the statement
of cash flows
C  It avoids the overstatement of profit which can arise during periods of inflation.
D  It provides fewer opportunities for creative accounting than systems of current value
accounting.  (2 marks)
2  The 'physical capital maintenance' concept states that profit is the increase in the physical productive
capacity of the business over the period. This concept is applied in:
A  Current cost accounting
B  Historical cost accounting
C  Current value accounting
D  Current purchasing power accounting  (2 marks)
3  Which method of accounting adjusts income and capitalvalues to allow for the effects of general price
inflation?
A  Historical cost accounting
B  Current purchasing power accounting
C  Current cost accounting
D  Current value accounting  (2 marks)
4  Under CCA goods sold are charged to profit or loss at:
A Historical cost
B Replacement cost
C  Net realisable value
D Economic value  (2 marks)
5  The use of historical cost accounting during a period ofinflation can lead to overstatement of profits.
This then leads to a number of other consequences. Which one of the following is nota likely
consequence of overstatement of profits?
A  Higher wage demands from employees
B  Higher tax bills
C  Reduced dividends to shareholders
D Overstated EPS  (2 marks)
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90  Questions
76 Preparation question: Changing prices
The following information has been extracted from the accounts of Norwich prepared under the historical cost
convention for 20X6.
STATEMENT OF PROFIT OR LOSS EXTRACTS 20X6
$m
Revenue    200
Profit   15
Less finance costs 3
Profit for the year  12
SUMMARISED STATEMENT OF FINANCIAL POSITION AT 31 DECEMBER 20X6
Assets  $m  $m
Property, plant & equipment at cost less depreciation    60
Current assets
Inventories   20
Receivables   30
Bank  2
52
Total assets  112
Equity and liabilities
Equity     62
Non-current liabilities     20
Current liabilities  30
Total equity and liabilities    112
The company's accountant has prepared the following current cost data.
Current cost adjustments for 20X6  $m
Depreciation adjustment  3
Cost of sales adjustment  5
Replacement cost at 31 December 20X6
Property, plant & equipment, net of depreciation  85
Inventories 21
Required
(a)  Calculate the current cost operating profit of Norwich for 20X6 and the summarised current cost statement
of financial position of the company at 31 December 20X6, so far as the information permits.
(b)  Calculate the following ratios from both the historical cost accounts and current cost accounts:
(i) Interest cover
(ii)  Rate of return on shareholders' equity
(iii) Debt/equity ratio
(c)  Discuss the significance of the ratios calculated under (b) and of the reasons for differences between them.
Note.Ignore taxation.
Approaching the question
1  To save time in this question, the current cost adjustments are given to you.
2  Part (b) is straightforward. Make sure you allow yourself time to give adequate weight to the discussion in
part (c).
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Questions  91
77 Update (2.5 6/03 part amended)  27 mins
Most companies prepare their financial statements under the historical cost convention. In times of rising prices it
has been said that without modification such financial statements can be misleading.
Required
(a)  Explain the problems that can be encountered when users rely on financial statements prepared under the
historical cost convention for their information needs.  (7 marks)
Note.Your answer should consider problems with the statement of profit or loss and the statement of
financial position.
(b)  Update has been considering the effect of alternative methods of preparing their financial statements. As an
example they picked an item of plant that they acquired from Suppliers on 1 April 20X0 at a cost of
$250,000.
The following details have been obtained.
 The company policy is to depreciate plant at 20% per annum on the reducing balance basis.
 The movement in the retail price index has been:
1 April 20X0  180
1 April 20X1  202
1 April 20X2  206
31 March 20X3  216
Suppliers' price catalogue at 31 March 20X3 shows an item of similar plant at a cost of $320,000. On
reading the specification it appears that the new model can produce 480 units per hour whereas the model
owned by Update can only produce 420 units per hour.
Required
Calculate for Update the depreciation charge for the plant for the year to 31 March 20X3 (based on year end
values) and its carrying value in the statement of financial position on that date using:
 The historical cost basis
 A current purchasing power basis
 A current cost basis  (8 marks)
(Total = 15 marks)
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92  Questions
78 Multiple choice questions – specialised, not-for-profit
and public sector entities
1  Which of the following are unlikely to be stakeholders in a charity?
A Taxpayers
B Financial supporters
C Shareholders
D Government  (2 marks)
2  The International Public Sector Accounting Standards Board regulates public sector entities and is
developing a set of accounting standards which closely mirror IFRS.
Which of these is the main concept which needs to be introduced into public sector accounting?
A Materiality
B Accruals
C Relevance
D Faithful representation  (2 marks)
3  Public sector entities have performance measures laid down by government, based on Key
Performance Indicators. Which of the following are likely to be financial KPIs for a local council?
(i)  Rent receipts outstanding
(ii) Interest paid
(iii) Interest received
(iv) Interest cover
(v) Dividend cover
(vi)  Financial actuals against budget
(vii)  Return on capital employed
A (i),(ii),(iii),(iv),(vi)
B (i),(ii),(vi),(vii)
C (ii),(iii),(iv),(v)
D  All of them  (2 marks)
4  Which one of the following is not true of entities in the charity sector?
A  Their objective is to provide services to recipients and not to make a profit.
B  They have to be registered.
C  Their revenues arise mainly from contributions rather than sales.
D  They have only a narrow group of stakeholders to consider.  (2 marks)
5  Which one of the following is the main aspect in which public sector bodies differ from charities?
A  Importance of budgeting
B  Funded by government
C  Performance measured by KPIs
D  No requirement to earn a return on assets  (2 marks)
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Questions  93
79 Preparation question: Appraisal
(a)  Explain in what ways your approach to performance appraisal would differ if you were asked to assess the
performance of a not-for-profit organisation.
(b)  You have been asked to advise on an application for a loan to build an extension to a sports club which is a
not-for-profit organisation. You have been provided withthe audited financial statements of the sports club
for the last four years.
Required
Identify and explain the ratios that you would calculate to assist in determining whether you would advise
that the loan should be granted.
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94  Questions
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95
Answers
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96
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Answers  97
1 Multiple choice answers – conceptual framework
1  C  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
2  C  This is a valid liability.
  The licence payment could be avoided by ceasing manufacture.
  The fall in value of the investment is a loss chargeable to profit or loss.
  Planned expenditure does not constitute an obligation.
3  B  The amount that could be obtained from selling the asset, less any costs of disposal
  A is the carrying amount of the asset, C is the replacement cost, D is the present value.
4  A  The underlying assumption is going concern.
5  C  Disclosure of accounting policies is particularly important when comparing the results and
performance of one entity against another which may be applying different policies.
2 Lisbon
Text reference.Chapter 1.
Top tips. You should have had no trouble explaining the characteristics, but remember to state how they make
financial information useful. Working out how the characteristics related to the scenarios took a bit more thought.
Easy marks. Part (a) was 11 easy marks.
Marking scheme
Marks
(a)  3 marks for each characteristic  12
Maximum    11
(b)  2 marks for each transaction or event 4
Total     15
(a)  Relevance
The relevance of information must be considered in terms of the decision-making needs of users. It is
relevant when it can influence their economic decisions or allow them to reassess past decisions and
evaluations. Economic decisions often have a predictive quality – users may make financial decisions on the
basis of what they expect to happen in the future. To some degree past performance gives information on
expected future performance and this is enhanced by the provision of comparatives, so that users can see
the direction in which the company is moving. The separate presentation of discontinued operations also
shows how much profit or loss can be attributed to that part of the operation which will be not be there in
the future. One aspect of relevance is materiality. An item is material if its omission or misstatement could
influence the economic decisions of users. Relevance would not be enhanced by the inclusion of immaterial
items which may serve to obscure the important issues.
Faithful representation
Information can be considered to be a faithful representation when it is complete, neutral and free from bias.
The statement of profit or loss must faithfully represent the results of the entity for the period in question
and the statement of financial position must faithfully represent its financial position at the end of the period.
Financial statements in which provision had not been made for known liabilities or in which asset values had
not been correctly stated could not be considered reliable. This also brings in the issue of substance over
form. Transactions should be represented in accordance with their economic substance, rather than their
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98  Answers
legal form. This principle governs the treatment of finance leases, sale and leaseback transactions and
consignment inventory. If these types of transactions are not accounted for in accordance with their
economic substance, then the financial statements are unreliable.
Comparability
Comparability operates in two ways. Users must be able to compare the financial statements of the entity
with its own past performance and they must also be able to compare its results with those of other entities.
This means that financial statements must be prepared on the same basis from one year to the next and
that, where a change of accounting policy takes place, the results for the previous year must also be restated
so that comparability is maintained. Comparability with other entities is made possible by use of appropriate
accounting policies, disclosure of accounting policies and compliance with International Financial Reporting
Standards. Revisions to standards have to a large degree eliminated alternative treatments, so this has
greatly enhanced comparability.
Understandability
The Conceptual Framework states that classifying, characterising and presenting information clearly and
concisely makes it understandable. Financial statementsare produced for a wide range of users, some of
whom will have more understanding of financial information than others. The Conceptual Framework states
that this should not be used as an excuse to omit information from financial statements on the basis that it
is difficult to understand. Financial reports are prepared for users who have a ‘reasonable knowledge of
business and economic activities’ and who ‘review and analyse the information diligently’. Some phenomena
are inherently complex and some users may need the help of an advisor to understand them, but to leave
such issues out of the financial statements would make them incomplete and possibly misleading.
(b)  (i)  As Lisbon is leasing the asset back for the whole of its useful life, it can be assumed that it is being
leased back under a finance lease. In effect, Lisbon has obtained a loan with the asset as security.
Lisbon should continue to recognise the asset and depreciate it over its useful life (which is the same
as the lease term). Any ‘profit’ on the sale is deferred and amortised over the lease term. A finance
lease liability should be set up and will be reduced by the lease payments, less the notional finance
charge on the loan, which will be charged to profit or loss. This presents a faithful representation of
the transaction.
(ii)  This issue has to do with relevance. It could be said that the use of historical cost accounting does
not adequately reflect the value of assets in this case. This can be remedied by revaluing the
properties. The revaluation surplus will go to ‘other comprehensive income’, so will not improve the profit
for the year. If this is done, all properties in the category will have tobe revalued. This will probably give
rise to a higher depreciation charge, so it will not improve the operating loss in the statement of profit or
loss, but the excess can be creditedback to retained earnings in the statement of financial position.
3 Concepts
Marking scheme
Marks
(a)  Explanations 1 mark each    5
(b)  Examples 2 marks each     10
Total   15
(a)  Matching/accruals
This dictates that the effects of transactions and other events are recognised in the financial statements in
the period in which they occur, rather than in the period when cash is received or paid.
Going concern
This is the assumption that the entity has neither the intention nor the necessity to liquidate or curtail major
operations. If this assumption did not apply, the financial statements would be prepared on a different basis.
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Verifiability
This means that different, knowledgeable and independentobservers could agree that a particular depiction
of a transaction in the financial statements is a faithful representation.
Comparability
This requires consistent application of accounting policies and adequate disclosure in order that (a) the
financial statements of an entity can be compared with its financial statements for previous accounting
periods and (b) the financial statements of an entity canbe compared with the financial statements of other
entities.
Materiality
An item of information is material if omitting it or misstating it could influence the decisions that users make
on the basis of the financial statements. An item can be material on account of its nature or on account of its
magnitude.
(b)  Application to inventory
Matching/accruals
Inventory is charged to profit or loss in the period in which it is used, not the period in which it is received or
paid for. This is done by adjusting cost of sales for opening and closing inventory.
Going concern
As long as the going concern assumption applies, inventoryvalued at lower of cost and NRV will in most
cases be valued at cost. If the business is subject to a forced sale, the NRV of inventory is likely to be below
cost.
Verifiability
The cost element of inventory is easy to verify as it will be recorded in invoices. The calculation of NRV must
also be based on verified information. The annual inventory count provides verifiability on quantities.
Comparability
Inventory should be valued in financial statements using FIFO or weighted average and this should be
consistently applied from one period to the next. If a change is made to the method of valuation, it must be
disclosed, so that the current and prior periods can still be compared.
Materiality
Inventory is counted at the end of each reporting period and the valuation is based on this physical count,
because inventory is generally regarded as a material item. However, it could be decided that a small
discrepancy in the count would not be investigated because the amounts involved were too small to affect
the decisions of users and so were not material.
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4 Multiple choice answers – regulatory framework
1  A  An Exposure Draft will be published following review of Discussion Paper comments.
2  C  Accountants and auditors may have less defence in case of litigation as they will not be able to
demonstrate that they followed some precise rule, but will instead have to defend their application of
judgement.
3  B  A rules-based system has more detailed regulations because it seeks to cover every eventuality. A
principles-based system gives rise to fewer accounting standards and requires the exercise of more
judgement.
5 Baxen
Text references.Chapters 1 and 2.
Top tips.This is a written question on the Conceptual Frameworkand the advantages of IFRS. In a question like
this, make sure that you are answering the question thathas been set and that you are addressing the actual
situation of Baxen.
Easy marks.This question did not require a lot of technical knowledge. You were bound to know something about
principles-based systems such as IFRS and you could work out what the advantages of IFRS would be. Marks here
were for valid points. If you made enough valid points you could score full marks.
Examiner’s comments. In section (a) some candidates were unable toproperly distinguish between rules-based
and principles-based systems and seemed not to know whether IFRS is rules-based or principles-based. But there
were many good answers to part (b), mentioning issues such as simplifying consolidations, raising finance and
improving comparability.
Marking scheme
Marks
(a) 1 mark per valid point   9
(b) 1 mark per valid point 6
Total    15
(a)  (i)  IFRS is not a rules-based system. It is a ‘principles-based’ system. International Financial Reporting
Standards are formulated in accordance with the principles set out in the Conceptual Framework. For
instance, the requirements for recognition of an asset or liability as stated in the Conceptual
Frameworkmust be complied with when a standard is being formulated.
This differs from a rules-based system where the regulation attempts to cover every eventuality.
Obviously new eventualities will arise all the time, so regulation will be constantly expanding to cover
them. In a system like this, accountants and auditors expect to be able to find specific rules to cover
every situation, and to have rules specific to the industry with which they are involved.
IFRS only provides basic principles, so preparers of IFRS financial statements have to exercise
judgement in dealing with transactions and in applying the principles to different industries. This puts
more burden on preparers and some accountants and auditors in the US feel that it will afford them
less protection from litigation.
(ii)  IFRS is currently mandatory for listed companies in the EU preparing consolidated financial
statements, even if their individual company financial statements are prepared under local GAAP.
Countries outside the EU which transition to IFRS may find that there are a number of advantages,
and these advantages will increase as more countries adopt IFRS.
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Multinational companies with subsidiaries which report under IFRS will have a set of group-wide
accounting standards to follow. This will make group reporting easier and cheaper and make the
accounting practices of their foreign subsidiaries more transparent, reducing the opportunities for
fraud. They will also be able to transfer their accounting staff between group companies in different
countries, without the need for them to deal with a new set of standards.
Companies can more easily compare their results with those of their competitors who report under
IFRS. Similarly, investors can more easily compare the results of companies in different countries.
Companies will be more able to appraise the position and results of foreign companies which are
targets for takeovers or mergers and the accounting required to deal with takeovers and mergers will
be less complex.
Cross-border listing will be more straightforward, making it easier for companies to raise capital
abroad.
(b)  The question does not tell us where Baxen is based but, ifit is in the EU, it will be required to prepare its
consolidated financial statements in accordance with IFRS when it acquires a subsidiary. It would therefore
make sense for it to move to IFRS in anticipation of that.
There are also a number of advantages:
The influence of IFRS around the world continues to grow. IFRS financial statements are now accepted for
listings in the EU, Hong Kong and Singapore and more recently in Japan. They will very soon be accepted in
the US. Adopting IFRS will enhance Baxen’s reputation at home and abroad.
If Baxen prepares its financial statements in accordance with IFRS, its shares will be accepted for listing in
London and Tokyo and very few amendments to accord with US GAAP will be required before its shares are
accepted for listing in New York. This gives Baxen access to foreign investor capital.
Baxen will be better able to appraise the financial statements of potential foreign trading partners who report
under IFRS.
If it acquires a subsidiary that reports under IFRS, the consolidation process will be much easier and
Baxen’s own accounting staff will be much better able to judge the performance of the subsidiary.
6 Regulatory framework
Text reference.Chapter 2.
Top tips.A basic knowledge of the processes of the IFRS Foundation would probably be enough to earn a pass
mark, but parts of this question require a bit of thought. To earn a pass mark, break each question down into its
components and write a few lines on each. For example, most people will sketch out the standard setting process,
but make sure you also include a sentence or two on enforcing and on supplementing standards.
Easy marks.Part (a) is very straightforward and will earn you a maximum of ten easy marks.
Examiner's comments.Most answers were weak and very short. Enforcement issues were mostly ignored.
Marking scheme
Marks
(a)  1 mark per relevant point to a maximum    10
(b)  1 mark per relevant point to a maximum      5
Total     15
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102  Answers
(a)  Setting, enforcing and supplementing standards
Setting standards
The IFRS Foundation sets the agenda for producing accounting standards, but the IASB produces and issues
these standards. The process is:
1  The IFRS Foundation, taking into account advice from the IFRSAC and others, identifies an issue
requiring a financial reporting standard.
2  The IASB sets up an Advisory Committee to investigate the issue and report back to the IASB.
3  The IASB issues a Discussion Paper for public comment.
4  The IASB issues an Exposure Draft; comments must be received within ninety days.
5  The IASB issues an International Financial Reporting Standard on the internet. An IFRS must be
approved by 8 of the 15 members of the IASB.
Public discussion is encouraged. The basis of conclusions for EDs and IFRSs are published, along with
dissenting opinions. Most meetings of the IASB, IFRSICand IFRSAC are open to the public, and they are
exploring ways of using technology to make public access easier globally.
Enforcing standards
The IASB has no legal power to enforce adoption or compliance with standards, but enforcement of a sort is
achieved (more or less successfully) in a number of ways:
 Quoted companies within the European Union must comply with IFRSs, but it is up to each member
state to police compliance. Some countries have a formal process to review published financial
statements and punish non-compliance (for example the FRC Monitoring Committee in the UK), but
this is not universal. To a certain extent the onus is on the auditors to police compliance, but auditing
standards themselves are not globally consistent.
 Companies using IFRS to obtain cross-border listings are required to have their financial statements
audited in accordance with International Auditing Standards. This will help to ensure that these
companies are complying with IFRS.
 Many countries are bringing their own standards into line with IFRSs, but again policing of national
standards is inconsistent.
Supplementing standards
The IFRSIC issues interpretations when divergent or unacceptable accounting treatments arise, whether
through misinterpreting an existing standard or on an important issue not yet covered by a standard.
Financial statements must comply with all of these interpretations if they claim to comply with International
Financial Reporting Standards.
(b)  Has the move towards global accounting standards been successful?
On a practical level the move towards global accounting standards has been one of the accounting
successes of the last decade. The standards themselves have improved, with the elimination of contradictory
alternatives and the creation of an open and independentstandard setting organisation. This in turn has led
to greater acceptance of these standards, culminating in 2005 with the adoption of IFRS for consolidated
financial statements by all quoted companies in the European Union and in many other countries. The ongoing project with the International Organisation of Securities Commissions will encourage the use of IFRS
for cross-border listings, paving the way for acceptance of IFRS in the USA.
However, as mentioned earlier, there is no global system of enforcement, and so it is too early to say if IFRS
are being adopted properly.
Some countries with their own highly developed accounting standards see the adoption of IFRS as a
backward step, whereas other countries see IFRS as unnecessarily complicated.
There is also the assumption that the globalisation of accounting standards is a good thing. Recent
developments in IFRS have focussed on quoted companies in the western world; they may not be suitable
for all types and sizes of business organisation, or for all stages of economic development.
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7 Multiple choice answers – presentation of published
financial statements
1  B  The fact that a liability has arisen during the current accounting period does not make it a current
liability. The other options would all lead to classification as a current liability.
2  D  The revaluation gain on the factory will be presented under ‘other comprehensive income’. The other
items will be recognised in profit or loss. Note that gains on investment properties go through profit
or loss.
3  C  Inventories, provisions and intangible assets are shown separately. There is no such requirement for
government grants.
4  D  The time between acquisition of assets for processing and receipt of cash from customers
5  A  Equity dividends are presented in the statement of changes in equity.
8 Preparation question: Candel
(a)  STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME FOR THE YEAR ENDED
 30 SEPTEMBER 20X8     $'000
Revenue (300,000 – 2,500 (plant disposal))   297,500
Cost of sales (W1)   (225,400)
Gross profit   72,100
Distribution costs
(14,500)
Administrative expenses (W1)
(21,900)
Finance costs (1,200 (W5) + 200)   (1,400)
Profit before tax   34,300
Income tax expense (W6) (11,600)
Profit for the year   22,700
Other comprehensive income:
Loss on property revaluation (W2)   (4,500)
Total comprehensive income for the year   18,200
(b)  STATEMENT OF CHANGES IN EQUITYFOR THE YEAR ENDED 30 SEPTEMBER 20X8
Share   Retained   Revaluation
capital   earnings   Surplus
Total
$'000   $'000   $'000   $'000
Balance at 1 October 20X7   50,000   24,500   10,000   84,500
Dividends paid  –
(6,000) –
(6,000)
Total comprehensive income (W2)  –    22,700
(4,500) 18,200
Balance at 30 September 20X8   50,000    41,200    5,500    96,700
(c)  STATEMENT OF FINANCIAL POSITION AT 30 SEPTEMBER 20X8
$'000   $'000
Assets
Non-current assets
Property, plant and equipment (W2)   81,400
Development expenditure (W3)   14,800
96,200
Current assets
Inventory 20,000
Trade receivables   43,100
63,100
Total assets   159,300
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Equity and liabilities
$’000 $’000
Equity
Share capital   50,000
Retained earnings   41,200
Revaluation surplus   5,500
96,700
Non-current liabilities
Redeemable preference shares (W5)   20,400
Deferred tax (5,800 + 200 (W6))   6,000
Current liabilities
Trade payables   23,400
Provision (W4)   100
Tax payable   11,400
Overdraft   1,300
36,200
Total equity and liabilities   159,300
Workings
1  Expenses
Cost of sales   Distribution   Admin
$'000   $'000   $'000
Per question   204,000   14,500   22,200
Depreciation: Property   2,500   –   –    Plant and equipment   9,600  –   –
Loss on plant (4,000 – 2,500)   1,500  –   –
Research and development (W3)   3,800   –   –
Amortisation (W3)   4,000   –  –
Legal claim (W4)   –   –   (300)
225,400   14,500   21,900
2  Property, plant and equipment
Property   P & E
Total
$'000   $'000   $'000
Cost/valuation b/d   50,000   76,600
Acc depreciation b/d   –
(24,600)
50,000   52,000   102,000
Depn: Property (50,000/20)
(2,500) –
(2,500)
P&E ((52,000 – 4,000) 20%)   –
(9,600) (9,600)
Disposal (8,000 – 4,000)   –
(4,000) (4,000)
Revaluation (β) (4,500) –   (4,500)
43,000   38,400   81,400
3  Development expenditure
$'000
Cost b/d   20,000
Accumulated amortisation b/d  (6,000)
14,000
Additional expenditure capitalised (800 6)   4,800
Amortisation (20,000 20%)   (4,000)
Balance c/d  14,800
Charged to cost of sales:
Research   1,400
Development when criteria not met (800 3)   2,400
Amortisation  4,000
7,800
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4  Legal claim
$'000
Damages are not probable, therefore not accrued
– Reverse in admin expenses   400
Legal costs should be provided as results from
past event (claim)   (100)  Provision
300   Credit to Admin
5  Preference shares - Financial liability at amortised cost
$'000
Financial liability b/d  20,000
Effective interest (12% 6/12)   1,200
Coupon paid (per TB) (8% 6/12)  _ (800)
Financial liability c/d  20,400
Adjustment required:
$'000
Dr Finance costs  400
Cr Financial liability  400
The $800k coupon paid in the TB is increased to effective cost of $1,200k.
6  Taxes
$'000
Current tax:
Dr  Income tax expense (profit or loss)  11,400
Cr  Current tax payable (SOFP)  11,400
Deferred tax:
Dr  Income tax expense (6,000 – 5,800)  200
Cr  Deferred tax liability  200
9 Preparation question: Dexon
(a)  $'000  $'000
Draft retained profit   96,700
Dividends paid (W6)  15,500
Draft profit for the year   112,200
Profit on goods on sale or return (2,600 30/130)    (600)
Depreciation:
Buildings (165,000 / 15)  11,000
Plant (180,500 20%)   36,100
(47,100)
Gain on investment (W3)   1,000
Current year fraud loss   (2,500)
Increase in deferred tax provision (W5)   (800)
Current year tax    (11,400)
50,800
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106  Answers
(b)  DEXON – STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 MARCH 20X8
Share
capital
Share
premium
Revaluation
surplus
Retained
earnings Total equity
 $'000   $'000  $'000  $'000  $'000
At 1 April 20X7   200,000   30,000  18,000  12,300  260,300
Prior period adjustment –  –  –  (1,500) (1,500)
Restated balance   200,000   30,000  18,000  10,800  258,800
Share issue   50,000   10,000  60,000
Dividends paid
(15,500) (15,500)
Total comprehensive income
for the year   – –  4,800*   50,800  55,600
At 31 March 20X8  250,000   40,000  22,800  46,100  358,900
*Revaluation surplus:
Land and buildings at 31 March 20X7  185,000
Depreciation (165,000 / 15)  (11,000)
174,000
Valuation at 31 March 20X8  180,000
Surplus  6,000
Deferred tax provision (6,000 20%)  (1,200)
Net surplus  4,800
(c)  DEXON – STATEMENT OF FINANCIAL POSITION AS AT 31 MARCH 20X8
$'000  $'000
Non-current assets
Property (W1)   180,000
Plant (W1)   144,400
Investments (W3) 13,500
337,900
Current assets
Inventory (84,000 + 2,000 (W2))  86,000
Trade receivables (W7)  45,600
Bank  3,800
135,400
Total assets  473,300
Equity and liabilities
Share capital   250,000
Share premium   40,000
Revaluation surplus   22,800
Retained earnings  46,100  Total equity   358,900
Non-current liabilities
Deferred tax (19,200 + 2,000 (W5))   21,200
Current liabilities
As per draft SFP  81,800
Tax payable  11,400
93,200
Total equity and liabilities   473,300
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Workings
1  Property, plant and equipment
Land  Buildings
Plant
Total
$'000  $'000  $'000  $'000
Per question  20,000  165,000  180,500  365,500
Depreciation
- (11,000) (36,100) (47,100)
20,000  154,000  144,400  318,400
Revaluation
- 6,000
- 6,000
Balance c/d  20,000  160,000  144,400   324,400
2  Sale or return
$'000 $'000  Cancel sale:
Dr Sales  2,600
CR Receivables   2,600
Record inventories:
DR Inventories (SOFP) 2,600 100 / 130  2,000
CR Cost of sales (closing inventories)   2,000
3  Financial assets at FV through profit or loss
$'000
FV at year end (12,500 1,296 / 1,200)    13,500
Per draft SOFP     (12,500)
Gain – to profit or loss  1,000
4  Fraud
$'000 $'000
DR Retained earnings re prior year  1,500
DR Current year profit  2,500
CR Receivables   4,000
5  Deferred tax
$'000 $'000
DR Revaluation surplus (6,000 20%)  1,200
DR Profit or loss (tax charge) (4,000 20%)  800
CR Deferred tax liability (10,000 20%)  2,000
6  Dividends paid  $’000
May 20X7 (200m* $0.04)  8,000
November 20X7 (250m $0.03)  7,500
15,500
*250m 4/5 = 200m
7  Trade receivables  $’000
Per draft SFP  52,200
Sale or return  (2,600)
Adjustment re fraud  (4,000)
45,600
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108  Answers
10 Highwood
Text reference.Chapter 3.
Top tips.Start with the proformas for the three financial statements so that you can put in any easy numbers
straightaway. Then go through the workings, setting them out very clearly so that the marker can see what you have
included. The part you may have found challenging was the convertible loan note. If you have trouble with
something like this, don’t waste time working over it, just move on.
Easy marks.Property, plant and equipment accounted for quite a few marks here and it required a proper working,
but none of it was difficult. Similarly, correcting the inventory was easy and so was dealing with the factored
receivables. Once you realised that the accounting treatmenthad been incorrect, it was only necessary to carefully
reverse those entries.
Examiner’s comments. This question was generally well done. Most errors arose in the statement of profit or loss
and other comprehensive income.Some candidates got the inventory adjustment the wrong way round and then
incorrectly adjusted the sales revenue. Many candidates adjusted for the factored debts but omitted to then
recognise a receivables allowance. Many also had difficulty with the finance cost of the convertible loan note. The
revaluation gain on the property was generally well done, but most candidates did not include the deferred tax on
the gain in other comprehensive income.
Marking scheme
Marks
(a)  Statement of profit or loss and other comprehensive income
Revenue  ½
 Cost of sales  4
Distribution costs  ½
Administrative expenses  1½
Finance costs  1½
Income tax expense  1½
 Other comprehensive income  1½
11
(b)  Statement of changes in equity
 Opening balance on retained earnings  1
 Other component of equity (option)  1
Dividend paid  1
Comprehensive income  1
4
(c)  Statement of financial position
 Property, plant and equipment  2½
Inventory  1
Trade receivables  1
Deferred tax  1
 Issue of 8% loan note  1½
 Liability to Easyfinance  1
Bank overdraft  ½
Trade payables  ½
 Current tax payable  1
10
(d) Basic EPS  2
Diluted EPS  3
5
Total    30
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Answers  109
(a)  STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME FOR THE YEAR ENDED
31 MARCH 20X6
$’000
Revenue  339,650
Cost of sales (W1)  (216,950)
Gross profit  122,700
Distribution costs
(27,500)
Administrative expenses (W1)
(30,000)
Finance costs (W3)  (2,848)
Profit before tax  62,352
Income tax expense (19,400 + (W4) 400 – 800) (19,000)
Profit for the year  43,352
Other comprehensive income:
Revaluation gain on property (W2)  11,250
Total comprehensive income for the year  54,602
(b)  STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 MARCH 20X6
Share capital  Equity
option
Retained
earnings
Revaluation
surplus
Total
$’000  $’000  $’000  $’000  $’000
Balance 1 April 20X5  56,000  –  7,000  –  63,000
Dividend  –  –  (5,600) –
(5,600)
Total comprehensive
income
43,352  11,250  54,602
Loan note issue (W3)  –  1,524  –  –  1,524
Balance 31 March 20X6  56,000  1,524  44,752  11,250  113,526
(c)  STATEMENT OF FINANCIAL POSITION AS AT 31 MARCH 20X6
$’000  $’000
Non-current assets
Property, plant and equipment (W2)  117,500
Current assets
Inventory (W5) 39,300
Receivables (47,100 + 9,400 (W6))  56,500
_ 95,800
Total assets    213,300
Equity
Share capital  56,000
Other component of equity (W3)  1,524
Revaluation surplus (W2)  11,250
Retained earnings  44,752
113,526
Non-current liabilities
Deferred tax (W4)  6,750
Convertible loan note (W3)  28,924
Easyfinance loan (W6)_ 8,700
44,374
Current liabilities
Trade payables  24,500
Tax payable  19,400
Overdraft  11,500
_ 55,400
Total equity and liabilities    213,300
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110  Answers
(d) Basic EPS:
Profit for the year ($’000)   43,352= 38.7c
Shares (56 million × 2)  112,000
Diluted EPS:
 Convertible loan note:
 New shares: 30 million/100 × 30 = 9 million shares
 Interest saved = $30 million × 8% × 75% = $1.8 million
 The effect on EPS is therefore $1.8m / 9 = 20c, which means that the loan notes are dilutive.
 Diluted EPS will be:
Profit + interest saved   43,352 + 1,800= 37.3c
Shares 112,000 + 9,000
Workings
1  Expenses
Cost of sales  Distribution costs  Administrative
expenses
$’000  $’000  $’000
Per question  207,750  27,500  30,700
Depreciation – buildings (W2)  2,500
– plant (W2)  10,000
Increase in inventories (W5) (3,300)  Reverse factoring charge (W6)
(1,300)
Bad debt (W6)      600
216,950  27,500  30,000
2  Property, plant and equipment
Land Buildings Plant and equipment  Total
$’000  $’000  $’000  $’000
Per TB – cost  25,000  50,000  74,500  149,500
Acc’d depreciation 1.4.20X5   (10,000) (24,500) (34,500)
Carrying amount 1.4.20X5  25,000  40,000  50,000  115,000
Revaluation surplus  5,000  10,000 –  15,000
Revalued amount 1.4.20X5  30,000  50,000  50,000  130,000
Depn – bldgs (50,000 / 20yrs)
(2,500) (2,500)
– plant (50,000 × 20%)    (10,000) (10,000)
30,000  47,500  40,000  117,500
Note.The deferred tax on the revaluation (15,000 × 25%) will be charged to the revaluation surplus, leaving
a balance of 11,250 (15,000 – 3,750).
3  Loan note
 As this is a convertible loan note, it has to be split between debt and equity:      $’000
Interest years 1–3 (2,400 (0.91 + 0.83 + 0.75)    5,976
Repayment year 3 (30,000 0.75)   22,500  Liability component  28,476  Equity component  1,524  Cash received  30,000 Liability component  28,476
Interest (28,476 10%)   2,848
Less interest paid   (2,400) Balance at 31.3.20X6  28,924
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Answers  111
4  Deferred tax
$’000
Balance required at 31.3.X6 (27m 25%)   6,750
Current balance
(2,600)
Deferred tax on revaluation (15m 25%)   (3,750)
Charge to current tax  400
5  Inventory
$’000
Per TB   36,000
Received after year end
(2,700)
Sold after year end (7,800 100/130)   6,000
Correct balance   39,300
Adjustment required – deduct 3,300 from cost of sales.
6  Factoring
The factoring arrangement is in substance a loan of $8.7m. To reflect this, the $10m receivables are
reinstated, less the allowance of 600.
Dr  Cr
$’000  $’000
Loan payable    8,700
Receivables 9,400
Administrative expenses  600  1,300
11 Keystone
Text references.Chapters 3, 4, 7, 14, 17, 19.
Top tips.There were a number of complications in this question – self-constructed plant, goods on sale or return,
deferred tax on a revaluation, a dividend to calculate back from the yield – and it was important not to get too
bogged down in any of them. Make sure you get the proforma down and fill in any straightforward numbers first.
Easy marks.There were enough easy marks here. You could have scored on revenue, tax, inventory and
receivables. Cost of sales was complex but a lot of marks were allocated to it, so you should have been able to get
some of them.
Examiner’s comments.This was a traditional accounts preparation question and generally well-answered. Most of
the errors involved the calculation of cost of sales. Some candidates had trouble calculating a gross profit margin
and some went on to apply the mark-up to the plant manufactured for own use, which had to be deducted and
capitalised. This would have implied that the company was selling the plant to itself at a profit. Many candidates
failed to include production, labour and factory overheads incost of sales and some failed to adjust for opening and
closing inventory. The property revaluation caused problems in accounting for deferred tax and some students
failed to notice that the revaluation had taken place at the beginning, not the end, of the year.
Marking scheme
Marks
Statement of profit or loss
Revenue  1
Cost of sales  7
Distribution costs  ½
Administrative expenses  1½
Investment income  1
Loss on fair value of investment  1
Finance costs  ½
Income tax expense  1½
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112  Answers
Marks
Other comprehensive income   1
15  Statement of changes in equity    Share capital  1½   Share premium  1½   Retained earnings  2
Revaluation surplus  1
6  Statement of financial position    Property, plant and equipment  3   Equity investments  ½
Inventory 1½  Trade receivables  1   Deferred tax  1½   Trade payables  ½   Bank overdraft  ½
Tax payable  ½
9
Total  30
(a)  STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME FOR THE YEAR ENDED
 30 SEPTEMBER 20X1    $’000
Revenue (380,000 – 2,400 (W3))
Cost of sales (W1)
377,600
(258,100)
Gross profit  119,500
Investment income  800
Loss on fair value of investments (18,000 – 17,400)  (600)
Distribution costs  (14,200)
Administrative expenses (46,400 – 24,000 (W1))  (22,400)  Finance costs   (350)
Profit before taxation  82,750
Income tax expense (24,300 + 1,800 (W4))    (26,100)
Profit for the year    56,650
Other comprehensive income:
Revaluation gain on property  8,000
Less deferred tax (W4)    (2,400)
Total other comprehensive income    5,600  Total comprehensive income for the year   62,250
(b)  STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 30 SEPTEMBER 20X1
Share
capital
Share
premium
Retained
earnings
Revaluation
surplus
Total
$’000  $’000  $’000  $’000  $’000
Balance at 1 October 20X0  40,000  10,000  33,600  –  83,600
Bonus issue  10,000
(10,000) –  –  –
Dividend paid (W1)  –  –
(24,000) –
(24,000)
Total comprehensive income  –  –  56,650  5,600  62,250
Balance at 30 September 20X1  50,000  –  66,250  5,600  121,850
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(c)  STATEMENT OF FINANCIAL POSITION AS AT 30 SEPTEMBER 20X1
$’000
Assets    Non-current assets
Property, plant and equipment (W2)  78,000  Investment in equity assets   17,400
95,400
Current assets
Inventories (54,800 + 1,800 (W3))  56,600  Trade receivables (33,550 – 2,400 (W3))   31,150
Total assets   183,150
Equity and liabilities
Equity
Share capital  50,000
Retained earnings (33,600 + 56,650 – 24,000 (W1))  66,250  Revaluation surplus (8,000 (W2) – 2,400 (W4))   5,600
121,850
Non-current liabilities
Deferred tax (2,700 + 1,800 + 2,400 (W4))  6,900
Current liabilities
Trade payables  27,800
Tax payable  24,300
Bank overdraft    2,300
Total equity and liabilities   183,150
Workings
1  Expenses
Cost of sales
Distribution
costs
Administrative
expenses
 $’000  $’000  $’000  Per trial balance   14,200  46,400  Opening inventory  46,700    Material purchases  64,000    Production labour  124,000    Factory overheads  80,000    Capitalised costs (W2)  (10,000)    Depreciation (3,000 + 7,000 (W2))  10,000    Closing inventories (54,800 + 1,800 (W3))  (56,600)
Dividend paid ($2.4 4% 250,000)  _______  ______  (24,000)
258,100  14,200 22,400
2  Property, plant and equipment
Leased
property
Plant and
equipment
Total
$’000  $’000  $’000
Per trial balance:
Cost  50,000  44,500  94,500
Accumulated depreciation b/d  (10,000) (14,500) (24,500)
40,000  30,000  70,000
Revaluation surplus  8,000    8,000
Revalued amount  48,000  30,000  78,000
Own plant manufactured (3,000 + 4,000 + (4,000 75%))    10,000  10,000
Depreciation/amortisation
Leased property (48,000 / (20 – 4 years*)
(3,000) (3,000)
Plant and equipment ((30,000 20%) + (10,000 20% 6/12))   –  (7,000) (7,000)
45,000  33,000  78,000
*At 1.10.20X0 leased property was (10 / 50 20 =) 4 years old.
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114  Answers
3  Sale or return
$’000 $’000
Revenue:  Dr Revenue  2,400
Cr Receivables   2,400
Cost of sales:
Dr Inventories  1,800
Cr Cost of sales    1,800
4  Deferred tax
$’000 $’000
Taxable difference (15,000 30%) less b/f 2,700)
Dr Taxation expense (profit or loss)  1,800
Cr Deferred tax    1,800
Deferred tax on revaluation: (8,000 30%)
Dr Revaluation surplus  2,400
Cr Deferred tax    2,400
12 Fresco
Text references.Chapters 3, 4 and 16.
Top tips.There was a lot to get through in this question. Get the formats down quickly and then go through the
question and transfer any figures that can go straight from the trial balance to the financial statements. You needed
to do workings for PPE and for the leased plant but these were not complicated. Leave time for parts (b) and (c).
Easy marks.The statement of changes in equity was all straightforward. If you had remembered the transfer to
retained earnings it was possible to score full marks on this. The PPE working made it possible to score marks on
both the statement of comprehensive income and the statement of financial position, so it was worth spending a bit
of time on this. The lease working, on the other hand, carried very few marks and the EPS was quite timeconsuming for three marks. Part (c) was an easy five marks.
Examiner’s comments. Most candidates showed a sound knowledge of preparing financial statements. Most of the
errors arose in the adjustments:
Some candidates deducted the loss on the fraud from revenue for the year rather adding it to expenses and treating
it as a prior year adjustment, with the other entry being a deduction from receivables.
There were some difficulties with the finance lease, mainly involving the timing of the lease payments and the initial
deposit.
Many candidates were confused with the tax, especially failing to realise that the tax for the year was a refund.
The EPS section was very poorly answered and many candidates did not even attempt it.
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Marking scheme
Marks
Statement of comprehensive income:
Revenue ½
Cost of sales  3
Distribution costs  ½
Administrative expenses  1
Finance costs  1½
Income tax  2
Other comprehensive income  ½  9
Statement of changes in equity:
Balances b/f  1
Prior year adjustment  1
Rights issue  1
Total comprehensive income  1
Transfer to retained earnings  1  5
Statement of financial position:
Property, plant and equipment  2½
Inventory ½
Trade receivables  1
Current tax  1
Non-current lease obligation  ½
Deferred tax  1
Trade payables  ½
Current lease obligation  ½
Bank overdraft  ½  8
Basic EPS:
Loss for the year  ½
Theoretical ex-rights price  1
Weighted average number of shares  1½  3
Part (c) – 1 mark per valid point - maximum    5
Total   30
(a)   STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDED 31 MARCH 20X2
$’000
Revenue  350,000
Cost of sales (W1)  (311,000)
Gross profit  39,000
Distribution costs (W1)
(16,100)
Administrative expenses (W1)
(29,900)
Finance costs (300 + 2,300 (W3))  (2,600)
Loss before tax
(9,600)
Income tax (W5) 1,800
Loss for the year
(7,800)
Other comprehensive income:
Gain on revaluation of property (W2)  4,000
Total comprehensive loss for the year  (3,800)
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STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 MARCH 20X2
Share
capital
Share
premium
Retained
earnings
Revaluation
surplus  Total
 $’000  $’000  $’000  $’000  $’000  Balance 31.3.X1  45,000  5,000  5,100  –  55,100
Prior year adj (W4)  – –(1,000) –(1,000)
Balance 1.4.X1  45,000  5,000  4,100  –  54,100  Share issue (W6)  9,000  4,500   –  –  13,500
Total comprehensive income    (7,800)  4,000  (3,800)
Transfer to retained earnings
(W2)  – – 500 (500) –  Balance 31.3.X2   54,000 9,500 (3,200) 3,500 63,800
STATEMENT OF FINANCIAL POSITION AS AT 31 MARCH 20X2
$’000
Assets
Non-current assets
Property, plant and equipment (W2)  62,700
Current assets
Inventory  25,200
Receivables (28,500 – 4,000 (W4))  24,500  Tax asset (W5)    2,400
Total assets   114,800
Equity and liabilities
Equity
Share capital 50c shares  54,000
Share premium  9,500
Revaluation surplus  3,500  Retained earnings    (3,200)
63,800
Non-current liabilities
Deferred tax (W5)  3,000
Lease payable (W3)  15,230
Current liabilities
Trade payables  27,300
Lease payable (19,300 – 15,230 (W3))  4,070  Bank overdraft    1,400
Total equity and liabilities   114,800
Workings
1  Expenses
Cost of sales
Distribution
costs
Administrative
expenses
$’000
$’000
$’000
Per trial balance
298,700
16,100
26,900
Depreciation (W2)
7,800
–
–
Amortisation (W2)
4,500
–
–
Fraud – current year cost (W4)   – – 3,000
311,000 16,100 29,900
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2  Property, plant and equipment
Leased
property
Plant and
equipment  Leased plant  Total
$’000  $’000  $’000  $’000
Cost   48,000  47,500  Acc. amortisation/depreciation  (16,000) (33,500)  Balance 1 April 20X1  32,000  14,000  25,000
Revaluation surplus  4,000
Revised carrying amount  36,000
Depreciation / amortisation:
36,000 / 8
(4,500)  14,000 20%
(2,800)  25,000 / 5  ______  ______  (5,000) ______
31,500  11,200  20,000  62,700
3  Finance lease   $’000
Cost  25,000
Deposit  (2,000)
Balance 1.4.X1  23,000
Interest 10% 2,300
Instalment 31.3.X2 (6,000)
Balance 31.3.X2  19,300
Interest 10% 1,930
Instalment 31.3.X3 (6,000)
Balance 31.3.X3  15,230
4  Fraud
 DEBIT  CREDIT   $’000  $’000  Retained earnings – prior year  1,000   Current year profit  3,000
Receivables   4,000
5  Tax credit
$’000
Underprovided in prior year  800
Tax refund due (asset in SFP)  (2,400)
Reduction in deferred tax provision (3,200 – (12,000 25%))  (200)  Current tax (credit to profit or loss)
(1,800)
6  Share issue
 Shares issued = 13.5m / 0.75 = 18m
  $’000  Share capital  18m ×50c  9,000
Share premium  18m ×25c  4,500
13,500
(b)  Earnings per share
Loss per profit or loss  $7.8m
Weighted average number of shares in issue (W)  99m
EPS = (7.8m) / 99m = Loss per share 7.9 cents
Working
Theoretical ex-rights price:
5 shares @ 1.20   6.00
1 share @ 0.75   0.75
6.75/ 6 = 1.125
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118  Answers
Weighted average number of shares:
1 April 20X1 to 31 December 20X1 ((90m ×1.20 / 1.125) ×9/12)
72m
1 January 20X2 to 31 March 20X2 ((90m + 18m) ×3/12)   27m
99m
(c)  It is quite common for companies to revalue their non-current assets, in particular land and buildings. Most
developed countries have seen a long-term increase in property prices, so that the original cost of a property
may represent only a small fraction of its current market value. This can lead to a number of distortions. As
capital employed is understated, ROCE will be overstated. Similarly, the depreciation charge based on
historical cost will be too low to reflect the true costof using the asset. This will lead to inflated profit and
overstated ROCE.
For companies, undervalued assets carry two major liabilities. They understate equity, increasing the gearing
ratio, and they can lead to undervaluation of the company, making it more vulnerable to takeover.
IAS 16 allows assets to be carried under a cost model or a revaluation model. If the revaluation model is
chosen, it must be applied to all assets in the same class. Entities are not allowed to cherry-pick which
assets to revalue.
Under the revaluation model, an asset is restated at its fair value at the date of the revaluation. In the case of
properties, valuations are normally carried out by professional valuers. In the case of plant and equipment,
fair value can be taken to be market value. The revaluation model is only available if the fair value of the item
can be measured reliably.
Following revaluation, depreciation will be based on the fair value of the asset. IAS 16 allows a portion of the
revaluation gain to be recognised each year of the asset’s remaining useful life by a transfer from the
revaluation surplus to retained earnings.
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Answers  119
13 Multiple choice answers – non-current assets
1 A
$
Cost 1.1.X5  30,000
Depreciation to 31.12.X5 (30,000 / 12)
(2,500)
Depreciation to 31.12.X6
(2,500)
Depreciation to 31.3.X7 (2,500 × 3/12)  (625)
24,375
Revaluation surplus  7,625
Revalued amount  32,000
The machine will now be depreciated over the remaining 9 years 9 months = 117 months. So the
charge for the remaining 9 months of 20X7 is $2,462 ((32,000 / 117) × 9).
So total depreciation for the year ended 31.12.X7 is (625 + 2,462) = $3,087
2 B $’000
Land  1,200
Materials  2,400
Labour  3,000
Architects fees  25
Surveyors fees  15
Site overheads  300
 Testing fire alarms  10
6,950
3  A  Weighted average capitalisation rate =
(9% × 15 / 39) + (11% × 24 / 39) = 3.5% + 7% = 10.5%     $
Borrowing costs =   $6m × 10.5% × 9/12  472,500
+  $2m × 10.5% × 5/12  87,500   560,000 4 D   $
Cost 1.1.X0  900,000
Depreciation to 30.6.X8 (900,000 × 8.5 / 50)  (153,000)
Carrying amount 30.6.X8  747,000
Revaluation surplus
203,000
Fair value 30.6.X8  950,000
The increase of (1,200 – 950) = $250,000 arising between 30.6.X8 and 31.12.X8 will be credited to
profit or loss in accordance with IAS 40.
5 A $
 Borrowing costs March – December ($2.4m × 8% × 10/ 12)  160,000
 Less investment income ($1m × 6% × 6/12)  (30,000)
130,000
6  C  A and B would be classified as inventory and WIP. The property leased out to a subsidiary would be
regarded as an investment property in the single entityfinancial statements of Buildco but is treated
as owner-occupied in the consolidatedfinancial statements.
7  D  A gain or loss arising from a change in the fair value of an investment property is recognised in profit
or loss. The other options are all correct.
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120  Answers
8  D  Weighted capitalisation rate =
(10% × 140 / 340) + (8% × 200 / 340) = 4.1% + 4.7% = 8.8%
$50 million × 8.8% × 6/12 = $2.2 million
9 B $'000
Machine ((500,000 – 20,000) / 10 × 9/12)  36,000
Safety guard ((25,000/5) × 3/12)  1,250
37,250
10  C  The expenditure should be capitalised when it takes place and depreciated over the period to the next
overhaul. It should not be provided for in advance because there is no obligation arising from a past
event – the overhaul could be avoided by ceasing to operate the aircraft.
14 Preparation question: Plethora plc
(a)  Building transferred to investment property
$’000
Original cost  600
Depreciation 1.1.X0 to 1.7.X9 ((600 / 50) × 9.5)  (114)
Carrying amount at 1.7.X9  486
Revaluation surplus  314
Fair value  800
The amount of $314,000 will go to the revaluation surplus as per IAS 16 and the carrying amount of the
building will be restated at $800,000. After this point the building will be accounted for under IAS 40
Investment property. If there had been any increase in value after 1.7.X9, this would have been credited to
profit or loss.
Existing investment property
The increase in value in this case of $190,000 (740,000 – 550,000) will be credited to profit or loss in
accordance with IAS 40.
(b)  Prior to review  After review
 $'000  $'000  Building  900  825
Plant and equipment  300  275
Inventory  70  70
Other current assets  130  130
Goodwill  40  –   1,440   1,300
Recoverable amount   (1,300)
Impairment loss  140
The impairment loss is allocated first against goodwill and then pro-rata against the tangible non-current assets.
This means writing $75,000 off the carrying amount of the building and $25,000 off plant and equipment.
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Answers  121
15 Dearing
Top tips. This question is quite complicated. Set out really clear workings so that you don’t get lost.
Marking scheme
Marks
(a)  Initial capitalised cost  2
Upgrade improves efficiency and life therefore capitalise1
Revised carrying amount at 1 October 20X81
Annual depreciation (1 mark each year)3
Maintenance costs charged at $20,000 each year1
Discount received (profit or loss)1
Staff training (not capitalised and charged to income)1  10
(b)  1 mark per valid point      5
Total    15
(a)
Year ended
30 Sept 20X6   30 Sept 20X7   30 Sept 20X8
Statement of profit or loss:  $  $  $
Depreciation (W3)   180,000   270,000   119,000
Maintenance (60,000/3)   20,000   20,000   20,000
Discount received (840,000 5%)
(42,000) –   –
Staff training    40,000   –   –
198,000   290,000   139,000
As at:  30 Sept 20X6  30 Sept 20X7  30 Sept 20X8
Statement of financial position
$
$
$
Property, plant and equipment:
Cost/valuation (W1), (W2)  920,000  920,000  670,000
Accumulated depreciation  (180,000) (450,000) (119,000)
Carrying value  740,000  470,000  551,000
Workings
1  Cost price
$
Base price   1,050,000
Trade discount (1,050,000 20%)
(210,000)
840,000
Freight charges   30,000
Electrical installation cost   28,000
Pre-production testing   22,000
920,000
2  Valuation after upgrade
$
Original cost   920,000
Depreciation to 30 September 20X7 (W3)
(450,000)
Carrying amount   470,000
Upgrade   200,000
Valuation   670,000
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122  Answers
3  Depreciation
$
30 September 20X6:
(920,000 – 20,000) 1,200 / 6,000  180,000
30 September 20X7:
(920,000 – 20,000) 1,800 / 6,000   270,000
450,000
30 September 20X8:
(670,000 – 40,000) 850 / 4,500  119,000
(b)  ‘Qualifying' borrowing costs are borrowing costs incurred in the construction of qualifying assets. These are
assets that necessarily take a substantial period of time to get ready for intended use or sale. Since the
revision of IAS 23, qualifying borrowing costs now must be capitalised.
Where funds are borrowed specifically to finance the construction of a qualifying asset, the amount eligible
for capitalisation will be the borrowing costs incurred atthe effective rate of interest, less any investment
income earned on the temporary investment of those borrowings.
Where funds are borrowed generally and the borrowings attributable to a particular asset cannot be readily
identified, the amount eligible for capitalisation will have to be estimated by applying a weighted
capitalisation rate to the funds used in constructing the asset.
Capitalisation commences when expenditure and necessary activities begin on the asset and borrowing
costs are incurred. Capitalisation is suspended during any period in which activities on the asset are
suspended and it ceases when substantially all activities necessary to prepare the asset for its intended use
or sale are complete.
16 Flightline
Text reference. Chapter 4
Top tips. This was a very time pressured question with a lot of work to do. It is important in a question like this to
provide really clear workings so that you get the marks for all the parts you do correctly.
Easy marks. The amounts for the exterior structure and the cabin fittings were relatively easy to calculate, so you
should have done those before embarking on the engines.
Examiner's comments. A significant number of candidates did not start this question and many more appeared to
run out of time. Many answers lacked a methodical approachand then got hopelessly lost in the detail, with the
engines causing the most problems.
Marking scheme
Marks
(a) 1 mark per valid point – to maximum    5
(b) Financial statement extracts:
Statement of profit or loss
Depreciation  – Exterior   1
– Cabin fittings   2
– Engines   2
Loss on write off of engine   1
Repairs    1
Statement of financial position
Carrying amount at 31 March 20X9   3
Total     15
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Answers  123
(a)  A complex asset has a number of separate components, each with a separate useful life. An obvious
example would be a ship or an aircraft. A ship can have internal fittings which require replacement several
times during the life of the hull. The landing gear of an aircraft will require replacement after a specified
number of landings. IAS 16 requires each separate component to be separately depreciated over its useful
life. When a component has to be replaced, the existing component is derecognised and the new component
is recognised and depreciated over its useful life. IAS 16 gives the example of a furnace which may require
relining after a specified number of hours of use. When relining takes place, the old lining will be
derecognised and the new lining depreciated over the number of hours of use before next replacement.
This should not be confused with the replacement of small parts, which would be described as ‘repairs and
maintenance’ and charged to profit or loss.
(b)  STATEMENT OF PROFIT OR LOSS (EXTRACT) FOR THE YEAR ENDED 31 MARCH 20X9
$'000
Depreciation:
Exterior structure (W1)   6,000
Cabin fittings (W2)   6,500
Engines (W3)   1,300
13,800
Loss on disposal of engine (W3)   6,000
Engine repairs   3,000
Exterior painting   2,000
STATEMENT OF FINANCIAL POSITION (EXTRACT) AT 31 MARCH 20X9
$'000
Property, plant and equipment
Aircraft  – Exterior (W1)   36,000
 – Cabin (W2)   8,000
– Engines (W3)   16,100
60,100
Workings
1  Exterior structure
$'000
Cost    120,000
Accumulated depreciation to 31.3.X8 (120,000 13 / 20)   (78,000)
42,000
Depreciation to 31.3.X9 (120,000 / 20)   (6,000)
Carrying value   36,000
2  Cabin fittings
$'000
Cost   25,000
Accumulated depreciation to 31.3.X8 (25,000 3 / 5)   (15,000)
10,000
Depreciation to 1.10.X8 (25,000 / 5 6/12)
(2,500)
Upgrade   4,500
12,000
Depreciation to 31.3.X9 (12,000 6 / 18)   (4,000)
Carrying value   8,000
Total depreciation for current year (2,500 + 4,000)   6,500
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124  Answers
3  Engines
$'000
Replaced engine:
Cost   9,000
Depreciation to 31.3.X8 (9,000 10.8 / 36)
(2,700)
Carrying value at 1.4.X8   6,300
Depreciation to 1.10.X8 (9,000 1.2 / 36)   (300)
Written off at 1.10.X8   6,000
Replacement:
Cost   10,800
Depreciation to 31.3.X9 (10,800 / 36)   (300)
Carrying value   10,500
Damaged engine:
Carrying value at 1.4.X8   6,300
Depreciation to 1.10.X8   (300)
Carrying value at 1.10.X8   6,000
Depreciation to 31.3.X9 (6,000 / 15)   (400)
Carrying value at 31.3.X9    5,600
Total carrying value (10,500 + 5,600)   16,100
Total current year depreciation
(300 + 300 + 300 + 400) 1,300
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17 Multiple choice answers – intangible assets
1  D  In order for capitalisation to be allowed it is not necessary for development to be completed,
patents to be registered or sales contracts signed. However, an intangible asset can only be
recognised if its cost can be reliably measured.
2 C  $
Research costs  1,400,000
Expensed development Jan-Mar (800 × 3)  2,400,000
Depreciation on capitalised amount b/f (20m × 20%)   4,000,000
7,800,000
Note.No depreciation is charged on the new project as it is still in development.
3  B  A pre-production prototype is classified as a development cost, so it is eligible to be capitalised.
Internally-generated customer lists and goodwill cannot be capitalised. IAS 38 does not allow
capitalisation of research costs.
4 A  $m
Recoverable amount – fair value less costs of disposal  15.0
Less depreciation 1.4.X9 – 30.9.X9 (15m / 3 × 6/12)
(2.5)
12.5
18 Emerald
Text reference.Chapter 5
Top tips.There were two aspects to this question – the treatment of intangible assets and development costs and
accounting for prior period adjustments. It was important to set out a proper working for the calculation part of the
question so that you could see what you were doing.
Examiner's comments.Answers to this question were generally quite poor. Many candidates did not apply the
definition of an asset to the development expenditure. In part (b) some candidates assumed that amortisation
commenced in the year of capitalisation, rather than the following year. The prior period adjustment was rarely
mentioned.
Marking scheme
Marks
(a) 1 mark per valid point to maximum    5
(b) 1 mark per valid point to maximum    4
(c)  Amortisation in profit or loss  1½
 Cost in statements of financial position 1
  Accumulated amortisation  1½
  Prior year adjustment in changes in equity 2    6
Total  15
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126  Answers
(a)  Recognition and amortisation
Goodwill
Only goodwill arising from a business combination is recognised. Under IFRS 3 goodwill is the excess of the
cost of a business combination over the acquirer's interest in the net fair value of the assets, liabilities and
contingent liabilities of the business acquired. Once recognised goodwill is held indefinitely, without
amortisation but is subject to impairment reviews.
One of the key aspects of goodwill is that it cannot beseparated from the business that it belongs to.
Therefore goodwill cannot be purchased separately from other assets. In addition, IAS 38 states that
internally generated goodwill must not be capitalised.
Other intangible assets
Other intangibles can be recognised if they can be distinguished from goodwill; typically this means that they
can be separated from the rest of the business, or that they arise from a legal or contractual right.
Intangibles acquired as part of a business combination are recognised at fair value provided that they can be
valued separately from goodwill. The acquirer will recognise an intangible even if the asset had not been
recognised previously. If an intangible cannot be valued, then it will be subsumed into goodwill.
Internally generated intangibles can be recognised if they are acquired as part of a business combination.
For example, a brand name acquired in a business combination is capitalised whereas an internally
generated brand isn't. Expenditure on research cannot be capitalised. Development expenditure is capitalised
if it meets the IAS 38 criteria. It is then amortised over the life-cycle of the product.
Goodwill and intangibles with an indefinite useful life are not amortised but tested annually for impairment.
(b) The IASB Conceptual Frameworkdefines an asset as a resource controlled by the entity as a result of past
events and from which future economic benefits are expected to flow to the entity. The recognition criteria
also require that the asset has a cost or value that can be measured reliably.
In the case of development expenditure it is not always possible to determine whether or not economic
benefits will result. IAS 38 deals with this issue by laying down the criteria for recognition of an intangible
asset arising from development expenditure. An entity must be able to demonstrate that it is able to
complete and use or sell the asset and has the intention to do so, that the asset will generate probable future
economic benefits and that the expenditure attributable to the asset can be reliably measured. If these
criteria are met, the asset is recognised and will be amortised from the date when it is available for use.
(c)  EMERALD  20X7 20X6
$'000  $'000   Statement of profit or loss     Amortisation of development expenditure (W)  335  135
 Statement of financial position
 Intangible asset: development expenditure (W)  1,195  1,130
 Statement of changes in equity
 Prior period adjustment
 Added to retained earnings balance at 1.10.X5 (W)   465
Working
Expenditure Amortisation
Carrying amount
$'000 $'000  $'000
20X4   300  300
20X5 240 (75)*  165
Balance 20X5
540 (75)  465
20X6   800 (135)**   665
Balance 20X6
1,340 (210)  1,130
20X7   400 (335)***  65
1,740
( 545) 1,195
*300 25%  **540 25%  ***1,340 25%
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Answers  127
19 Dexterity
Text reference.Chapter 5.
Top tips. This question requires you to apply theory. Explain both the correct treatment and why alternative
treatments have been rejected. For example in (ii) explain why $12m can be capitalised and why $20m can't be.
Easy marks. If you know the standards, then most of these scenarios should be easy marks,
Examiner's comments. This question included five scenarios to test the application of knowledge. Candidates
performed really badly when it cameto these practical applications.
Marking scheme
Marks
 (i)  One mark for each item in statement of financial position    4
 (ii)  Does it qualify as development expenditure    1
  The need for an active market    1
  Drugs are unique, not homogeneous    1
 (iii)  Neither an acquired asset nor internally generated    1
  Really recognition of goodwill    1
  Can recognise both the asset and the grant at fair value    1
  Or at cost – granted asset has zero cost    1
 (iv)  In reality a valuable asset, in accounting a pseudo-asset    1
  Cannot control workforce    1
  Does not meet recognition criteria    1
 (v)  Effective advertising really part of goodwill    1
  Cannot be recognised as a non-current asset    1
  Prepayment of $2.5 million    1
  Cannot spread over two years    1
Available 18
Total  (Maximum)  15
(i)  Temerity
The following assets will be recognised on acquisition:
$m
Fair value of sundry net assets   15
Patent at fair value   10
Research carried out for customer   2
Goodwill (balancing figure)   8
Total consideration   35
The patent is recognised at its fair value at the date of acquisition, even if it hadn't previously been
recognised by Temerity. It will be amortised over the remaining eight years of its useful life with an assumed
nil residual value.
The higher value of $15m can't be used because it depends on the successful outcome of the clinical trials.
The extra $5m is a contingent asset, and contingent assets are not recognised in a business combination.
(Only assets, liabilities and contingent liabilities are recognised.)
Although research is not capitalised, this research has been carried out for a customer and should be
recognised as work-in-progress in current assets. It will be valued at the lower of cost and net realisable
value unless it meets the definition of a construction contract.
The goodwill is capitalised at cost. It is not amortised but it will be tested for impairment annually.
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128  Answers
(ii)  New drug
Under IAS 38 the $12m costs of developingthis new drug are capitalised and then amortised over its
commercial life. (The costs of researchinga new drug are never capitalised.)
Although IAS 38 permits some intangibles to be held at valuation it specifically forbids revaluing patents,
therefore the $20m valuation is irrelevant.
(iii)  Government licence
IAS 38 states that assets acquired as a result of a government grant may be capitalised at fair value, along
with a corresponding credit for the value of the grant. Therefore Dexterity may recognise an asset and grant
of $10m which are then amortised/released over the five year life of the license. The net effect on profits and
on shareholders funds will be nil.
(iv)  Training costs
Although well trained staff adds value to a business IAS 38 prohibits the capitalisation of training costs. This
is because an entity has 'insufficient control over the expected future economic benefits' arising from staff
training; in other words trained staff are free to leave and work for someone else. Training is part of the
general cost of developing a business as a whole.
(v)  Advertising costs
IAS 38 Para 69 states that advertising and promotional costs should be recognised as an expense when
incurred. This is because the expected future economic benefits are uncertain and they are beyond the
control of the entity.
However, because the year end is half way through the campaign there is a $2.5m prepayment to be
recognised as a current asset.
20 Darby
Text references. Chapters 1, 5 and 6.
Top tips. It was important for this question to know the IASB definition. This made it possible to do a good answer
to part (a) and know where you were going with part (b).It was important to spend time on all four parts of the
question and read the scenarios carefully.
Easy marks. This was all quite easy until you got to (b)(iii), which was a slightly confusing scenario. The clue was
in ‘the assistant correctlyrecorded the costs..’, which would have told you that the point at issue was the
impairment write-down.
Marking scheme
Marks
(a)  1 mark per valid point     4
(b)  (i) to (iii) – 1 mark per valid point as indicated 11
Total
15
(a) The IASB Conceptual Framework defines an asset as ‘a resource controlled by the entity as a result of past
events and from which future economic benefits are expected to flow to the entity’. IAS 1 sets out the
defining features of a current asset (intended to be realised during the normal operating cycle or within 12
months of the year end, held for trading or classified as cash or a cash equivalent). All other assets are
classified as non-current.
The assistant’s definition diverges from this in a number of ways:
(i)  A non-current asset does not have to be physical. The definition can include intangible assets such as
investments or capitalised development costs.
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Answers  129
(ii)  A non-current asset does not have to be of substantial cost. An item of immaterial value is unlikely to
be capitalised, but this is not part of the definition.
(iii)  A non-current asset does not have to be legally owned. The accounting principle is based on
‘substance over form’ and relies on the ability of the entity to controlthe asset. This means for
instance that an asset held under a finance lease istreated as an asset by the lessee, not the lessor.
(iv)  It is generally the case that non-current assets will last longer than one year. IAS 16 specifies that
property, plant and equipment ‘are expected to be used during more than one period’. However, if a
non-current asset failed to last longer than one year, it would still be classified as a non-current
asset during its life.
(b)  (i)  IAS 38 makes the point that 'an entity usually has insufficient controlover the expected future
economic benefits arising from a team of skilled staff'. This is the case in this situation. Darby’s
trained staff may stay with the company for the next four years or they may decide to leave and take
their skills with them. Darby has no control over that. For this reason, the expenditure on training can
not be treated as an assetand must be charged to profit or loss.
(ii)  The work on the new processor chip is research with the aim of eventually moving into development
work. IAS 38 requires all research expenditure to be expensed as incurred. Even at the development
stage, it will not be possible to capitalise the development costs unless they satisfy the IAS 38
criteria. When the criteria are satisfied and development costs can be capitalised, it will still not be
possible to go back and capitalise the research costs. The company’s past successful history makes
no difference to this.
The research work on the braking system is a different case, because here the work has been
commissioned by a customer and the customer will be paying, regardless of the outcome of the
research. In this situation, as long as Darby has no reason to believe that the customer will not meet
the costs in full, the costs should be treated as work in progress, rather than being charged to profit
or loss.
(iii)  If we agree that the assistant was correct torecord $58,000 as a non-current asset, the only question
is whether it should be regarded as impaired.
An impairment has occurred when the recoverable amount of an asset falls below its carrying
amount.
The projected results for this contract are:
$
Revenue (50,000 × 3)    150,000
Costs (bal)  (110,000)
Profit  40,000
 If we ignore discounting, the future cash flows are $150,000, less remaining costs of $52,000
 ($110,000 – $58,000), which amounts to $98,000.This is well in excess of the $58,000 carrying
amount, so no impairment has taken placeand the non-current asset should remain at $58,000.
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130  Answers
21 Multiple choice answers – impairment of assets
1 C $’000
 Total impairment (1,010 – 750)  260
Goodwill
(90)
Damaged plant  (40)
 Balance to allocate  130
The remaining $130,000 will be allocated pro rata as follows.
Building   Plant
$’000  $’000
700  160
Impairment    (106)
 (24)   594
2  C  Recoverable amount is the higher of fair value less costs of disposal and value in use.
3  A  Fair value less costs of disposal (78,000 – 2,500)  $75,500  Value in use:  30,000 × 1 / 1.08 = 27,778
 30,000 × 1 / 1.082 = 25,720
 30,000 × 1 / 1.083
= 23,815 $77,313
Recoverable amount is $77,313 and carrying amount is $85,000, so impairment is $7,687.
4  C  A market capitalisation greater than the amount of net assets is a favourable indicator rather than an
indicator of impairment. The other options are indications of impairment.
5 A  $
Fair value less costs of disposal (2.7m –
50,000)
2,650,000
Value in use  2,600,000
Recoverable amount is therefore:  2,650,000
Impairment loss (β)    350,000
Carrying amount   3,000,000
6 A  $m  $m  $m
 Goodwill  3  (3)  –   Patent  5  (3)  2   Property  10  (2)  8   Plant and equipment  15  (3)  12  Current assets   2 - 2
35 (11)  24
The goodwill is written off, the patent is written down and the remaining $5m impairment is allocated
pro-rata to the property and the plant.
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22 Telepath
Text reference: Chapter 6.
Top tips. This is a typical F7 question in which you are asked to write about the provisions of a standard and then
apply them. In this case it was IAS 36. Part (a) is for 4 marks so it required more than two sentences, but it was
important to leave time for part (b). Do not forget that the estimated residual value in (i) will be added to the year 3
cash flow. In (ii) the damaged plant must be written off before the remaining impairment is allocated.
Easy marks. This whole question was easy if you knew the basics of IAS 36. You should have been able to make
some valid points in (a) and (b)(ii) had marks available for knowing what to write off, which was obvious with a bit
of thought.
Examiner’s comments In part (a) there were many irrelevant answers which discussed indicators of impairment or
described scenarios, failing to even mention CGUs. A lot of mistakes were made in part (b), the most common of
which was failing to include the residual amount as part of the cash flows. In the second example a lot of errors
were made in allocating the impairment loss.
Marking scheme
Marks
(a)  1 mark per valid point   4
(b)(i)  Carrying amount before impairment test 1
Value in use  2
Not impaired – leave at carrying amount  1  4
(b)(ii)  Damaged plant written off 1
Goodwill written off  1
Patent at $1m  1
Cash and receivables – no impairment  1
Pro rata of remaining loss  1
Apply to building and plant only  2  7
Total    15
(a)  An impairment review as laid out in IAS 36 Impairment of Assetsis carried out to determine whether the
value of an asset may have fallen below its carrying amount in the statement of financial position. It is a
requirement for goodwill carried in the statement of financial position that it should be tested annually for
impairment.
An asset is considered to be impaired if its carrying amount exceeds its recoverable amount, defined as the
higher of fair value less costs to sell and value in use. Value in use is the present value of the future cash
flows which will be generated by the asset. It is often not possible to attribute cash flows to an individual
asset, so in this case the impairment review is carried out at the level of the cash generating unit to which
the asset belongs. A cash generating unit is a group ofassets which together generate cash flows. For
instance, a production unit in a factory could be treated as a cash generating unit and any impairment
identified will be apportioned between the assets of the CGU.
(b)  (i)  Carrying amount of the plant at 31.3.X2
$’000
1.4.X0  Cost  800,000
Depreciation ((800,000 – 50,000) / 5)  (150,000)
31.3.X1  Balance  650,000
Depreciation  (150,000)
31.3.X2  Balance  500,000
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132  Answers
As there is currently no market in which to sell the plant, its recoverable amount will be its value in
use, calculated as:  Year ended  Cash flow  Discount factor 10%  Present value
$'000  $'000
31 March 20X3  220  0.91  200
31 March 20X4  180  0.83  149
31 March 20X5  170 + 50  0.75  165    514
As this is greater than the carrying amount, the plant is not impaired and will be left at its carrying
amount of $500,000.
(ii)  The impairment loss will be allocated as follows.
$'000 $'000  $’000
Goodwill  1,800
Written off
(1,800) –
Patent
1,200
W/D to realisable amount
(200) 1,000
Factory building   4,000  Working
(1,600) 2,400
Plant   3,500  Working
(1,700) 1,800
Receivables and cash 1,500
No impairment  –  1,500
12,000   (5,300) 6,700
Working
The total amount of the impairment loss to be allocated is $5.3m.
$'000
The initial write-offs are:
Damaged plant  500
Goodwill  1,800
Patent  200
2,500
This leaves $2.8m impairment loss to be allocated between the factory building (4,000) and the remaining
plant (3,000). The allocation will be:
Factory (2,800 × 4,000 / 7,000)  1,600
Plant (2,800 × 3,000 / 7,000)  1,200
2,800
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Answers  133
23 Multiple choice answers – reporting financial
performance
1  A  A change of depreciation method is treated as a change of accounting estimate. Adoption of the
revaluation method is dealt with under IAS 16. Application of a new accounting policy (such as
capitalisation of borrowing costs) for transactions that did not previously occur is not a change in
accounting policy according to IAS 8.
2  B  It is not necessary for a buyer to have been located for the asset.
3  A  Lower of carrying amount and fair value less costs of disposal. As the assets are to be sold value in
use is not relevant and recoverable amount will be fair value less costs of disposal.
4  C  We can assume that these faults also existed at the year end, so this is the only option which would
require adjustment. The others have all taken place after the year end.
24 Preparation question: Partway
Text reference.Chapter 7.
Top tips.This question covers discontinued operations and changes of accounting policy. Not to be attempted
unless you knew something about both of these. There are five separate parts to this question. Do something on
each of them, do not get carried away with the statement of profit or loss.
Easy marks.(a)(i) and (ii) and (b)(i) were quite easy and you should have been able to do well on them. (a)(ii) was
not difficult but you may have ended up spending too long on it and (b)(ii) was a bit tricky. However you were asked
to comment, so a sensible comment supported by the evidence would have secured you a mark or two.
Examiner's comments. This question proved to be the least popular and, while answers were not good, they were
better than for equivalent questions on recent papers. Candidates were able to define non-current assets held for
sale and discontinued operations, but were less able to apply these definitions to the scenario. Most candidates
were similarly able to define a change of accounting policy but few even attempted the scenario.
(a) (i)  This may be able to be classified as a discontinued operation provided certain criteria are met. The
termination was decided on before the financial statements were approved and within two weeks of the year
end date. The interested parties were notified at that time and an announcement was made in the press,
making the decision irrevocable. Although the company will continue to sell holidays over the internet, the
travel agency business represents a separate major line of business. The internet business will have quite
different property and staffing requirements and a different customer base. The results of the travel agency
business are clearly distinguished.
(ii) STATEMENT OF PROFIT OR LOSS FOR THE YEAR ENDED
31 October 20X6  31 October 20X5
Continuing operations   $'000  $'000
Revenue  25,000  22,000
Cost of sales
(19,500)  (17,000)
Gross profit  5,500  5,000
Operating expenses  (1,100) (500)
Profit from continuing operations  4,400
4,500
Profit(loss) from discontinued operations
(4,000)  1,500
Profit for the year
400
6,000
Discontinued operations
Revenue
14,000
18,000
Cost of sales  (16,500) (15,000)
Gross profit (loss)
(2,500) 3,000
Operating expenses  (1,500) (1,500)
Profit (loss) from discontinued operations  (4,000) 1,500
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(b) (i)  Accounting policies can be described as the principles,conventions, rules and practices applied by an entity
that prescribe how transactions and other events are to be reflected in its financial statements. This includes
the recognition, presentation and measurement basis to be applied to assets, liabilities, gains, losses and
changes to shareholders funds. Once these policies have been adopted, they are not expected to change
frequently and comparability requires that ideally they do not change from year to year. However, IAS 8 does
envisage situations where a change of accounting policy is required in the interests of fair presentation.
An entity may have to change an accounting policy in response to changes in a Standard or in applicable
legislation. Or it may be an internal decision which can be justified on the basis of presenting a more reliable
picture. An accounting policy adopted to deal with transactions or events which did not arise previously is
not treated as a change of accounting policy.
Where a change of accounting policy has taken place it must be accounted for by retrospective restatement.
This means that the comparative financial statements must be restated in the light of the new accounting
policy. This makes it possible to compare results for these years as if the new accounting policy had always
been in place. The financial statements must disclose the reason for the change of accounting policy and the
effects of the change on the results for the previous year.
(ii) The directors' proposal here is that revenue recognition can be accelerated based on the imposition of
compulsory holiday insurance. This is based on the presumption that the risk of not receiving the balance of
the payment has now been covered. However, at the point when the deposit is received, Partway has not yet
done anything to earn the revenue. Under IAS 18 Revenue, revenue from a service contract should be
recognised by reference to the stage of completion of the transaction. Under this method, revenue is
recognised in the accounting periods in which the services are rendered. In this case the service is rendered
at the time when the holiday is taken. The existing policy is therefore correct and should not be changed.
25 Tunshill
Text references. Chapters 1, 4 and 12.
Top tips. Part (a) is for five marks, so you can work out that more than two sentences are required. Reading the
rest of the question would have helped you to think about part (a) and so would considering the Conceptual
Framework principles.
Easy marks. Part (b) was really quite easy, as long as you knew the difference between an accounting policy and an
accounting estimate. Always work the numbers out carefully on paper, then if you make a mistake the marker can
see what you were doing.
Examiner’s comments. In part (a) many candidates wasted time explaining when an entity should change its
accounting policy and the procedures to be followed. This was not what the question asked. Answers to part (b)
were very mixed. In part (i) some candidates failed to calculate depreciation on the remaining useful life and some
treated the example as an asset revaluation, which it was not. In part (ii) some candidates agreed with the assistant
accountant that the change would improve profit by $2m.
Marking scheme
Marks
(a)  1 mark per valid point    5
(b)(i)  Recognise as a change in accounting estimate1
 Appears an acceptable basis for change  1
 Correct method is to allocate carrying amount over new remaining life  1
 Depreciation for current year should be $2million  1
 Carrying amount at 30 September 20X3 is $10 million   1
5
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Marks
(ii)  Proposed change is probably not for a valid reason1
 Change would cause decrease (not increase) in profit  1
 Changes in policy should be applied retrospectively  1
 Decrease in year to 30 September 20X3 is $400,000  1
 Retained earnings restated by $1.6 million 1
5
Total      15
(a) IAS 8 Accounting policies, changes in accounting estimates and errors requires an entity to determine the
accounting policy to apply to a transaction or event by reference to any IFRS specifically applying to that
transaction or event. Where there is no specific IFRS applicable, management is expected to use its
judgementin applying an accounting policy which will result in information which is relevant and reliable.
In this they should consider the requirements and guidance in IFRSs dealing with similar and related issues
and also the Conceptual Frameworkdefinitions, recognition criteria and measurement concepts for assets,
liabilities, income and expenses.
Accounting policiesare the specific principles, bases and rules applied in measuring and presenting
financial information. Changes of accounting policy are not very common. One example would be a change
from the FIFO method of valuing inventory to the weighted average method – this is a change in the basis of
valuation.
A change of accounting estimateis a change in the way in which these principles and bases are applied
which leads to an adjustment to any of the elements identified by the Conceptual Framework – assets,
liabilities, income or expenses. One example would be a change from the straight line method of
depreciation to the reducing balance method. In this case the accounting policy is that non-current assets
are carried at cost less accumulated depreciation, the accounting estimate is how that depreciation is
calculated.
(b) (i)  As the plant is wearing well and the production manager now estimates its total life to be eight years, it is
reasonable to adjust its remaining life. However, the adjustment proposed by the assistant accountant is
incorrect. This is a change in accounting estimateand is not applied retrospectively. At 1 October 20X2
the remaining life of the plant will be six years – the new estimated life of eight year less the two years which
have elapsed.
The correct adjustment will be calculated as follows.
$m
Original cost 1 October 20X0  20
Two years depreciation ((20/5) × 2)  (8)
Carrying amount at 1 October 20X2  12
Depreciation to 30 September 20X3 (12/6)  (2)
Carrying amount at 30 September 20X3  10
There will be no credit to profit or loss for the year and depreciation will continue to be charged, but at a
reduced rate.
(ii) It looks here as if this change is being proposed simply in order to increase reported profit, rather than to
make the financial information more relevant and reliable. However, if most of Tunshill’s competitors are
using AVCO this suggests that AVCO is the method generally used in the industry, so it may actually be a
more appropriate method.
However the assistant accountant is mistaken to suppose that moving from closing inventory of $20m under
FIFO to closing inventory of $18m under AVCO will increase profits by $2m. It will actually reduce profitsby
increasing cost of sales. In any case, this cannot be done simply as an adjustment to the current year.
This is a change of accounting policy and has to be applied retrospectively.
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The effect of the adjustment will be:
FIFO  AVCO
Current year profit  Retained earnings
$m  $m  $m  $m
Year to 30 September 20X2  15 13.4  (1.6) (1.6)
B/f 1 October 20X2  1.6  1.6
Year to 30 September 20X3  20  18
(2.0) (2.0)
At 30 September 20X3 (0.4) (2.0)
The net effect at 30 September 20X3 of this proposal will be to reduce current year profits by $400,000 and
to reduce retained earnings by $2m.
26 Manco
Text references. Chapters 7 and 13.
Top tips. This question required you to look at a situation in terms of both a restructuring and a discontinued
operation. If you found it a bit off-putting it would be best to pick out the bits you knew how to deal with. For
instance you could state that the press announcement made the decision to restructure irrevocable. You probably
knew that the provision would cover the redundancy but notthe retraining and you could allocate the trading losses
to the correct years.
Easy marks. Any easy marks on this question would be the ones above, plus noting the impairment loss on the
plant.
Examiner’s comments. This was not generally a well-answered question. The information pointed to the closure
being irrevocable and most candidates concluded that a provision was needed. What caused problems was
knowing which losses to provide for and in which period. It was disappointing that most candidates did not attempt
to allocate the loss between the two reporting periods, despite the question specifically asking for this. Most of the
marks were for reporting items in the right period.
Marking scheme
Marks
(a) ½ mark per valid point - maximum    5
(b) Closure is a restructuring event under IAS 37  1
It is an obligating event in year ended 30 September 20X0 1
Provide for impairment of plant  1
Cannot recognise gain on property until sold  1
Provide for redundancy in year ended 30 September 20X0  1
Cannot provide for retraining costs in current year  1
Inclusion of trading losses in correct periods 2
Consider if and when should be treated as discontinued operation    2
10
15
(a)  IFRS 5 defines 'non-current assets held for sale' tobe those non-current assets whose carrying amount will
be recovered principally through a sale transaction rather than through continuing use’.
A discontinued operation is described in IFRS 5 as 'a component of an entity that either has been disposed
of, or is classified as held for sale, and:
(i)  Represents a separate major line of business or geographical area of operations;
(ii)  Is part of a single co-ordinated plan to dispose of a separate major line of business or geographical
area of operations; or
(iii)  Is a subsidiary acquired exclusively with a view to resale.'
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IFRS 5 states that a component of an entitycomprises operations and cash flows that can be clearly
distinguished, operationally and for financial reporting purposes, from the rest of the entity.
This very precise definition is needed to ensure that only operations which can properly be regarded as
discontinued are classified as such. Users of accounts, particularly financial analysts, will be more interested
in the results of continuing operations as a guide to the company's future profitability and it is not
unacceptable for discontinued operations to show a loss. Companies could therefore be tempted to hide
loss-making activities under the umbrella of discontinued operations, hence the requirement for the
operations and cash flows of the discontinued operation to be clearly distinguishable from those of
continuing operations. It is also conceivable that a company could seek to include the results of a profitable
operation which has been sold under continuing operations.
IFRS 5 requires an entity to disclose a single amount on the face of the statement of profit or loss
comprising the total of:
(i)  The post tax profit or loss of discontinued operations
(ii)  The post-tax gain or loss recognised on the measurement to fair value less costs to sell or on the
disposal of the assets constituting the discontinued operation
The separation of the results of continuing and discontinued operations on the face of the statement of profit
or loss makes possible more meaningful year on year comparison. The inclusion of prior year information
for discontinued operations means that it can be seen exactly how the continuing operations have
performed, and it is possible to forecast more accuratelyhow they can be expected to perform in the future.
(b)  The actions taken by Manco have resulted in a constructive obligationto restructure as set out in
IAS 37 Provisions, contingent liabilities and contingent assets. It has produced a formal plan and
communicated it to those affected (employees and customers), thereby raising a valid expectation that the
restructuring will be carried out. It will therefore be correct to make a provision in the financial statements
for the year ended 30 September 20X0 for the costs of the restructuring.
As a separate business segment is being closed down, this will be a discontinued operation. As they are
due to be sold six months from the date of the closure announcement, the factory and plant could be
classified as held for sale at 30 September 20X0. If Manco intends to continue using them and does not
classify them as held for sale, they will continue to be depreciated up to 31 January 20X1. In this case the
closure will not be treated as a discontinued operation at 30 September 20X0, but will be reported as such
in the year to 30 September 20X1 when the assets are sold.
Year to 30 September 20X0
A restructuring provisionshould be recognised for $750,000,being the cost of redundancies.
The $600,000 trading losses will be included in profit or loss for the year.
The factory will be subject to the normal depreciation charge.
The plant should be written down to its recoverable amount, which will be $500,000.
Year to 30 September 20X1
The redundancies will take place and the costs will be offset against the provision.
The final $1m of trading losses will be treated as the results of a discontinued operation and shown in one
figure on the statement of profit or loss combined with final profit/loss on disposal of the assets.
The retraining costs of $200,000 will be accounted for as part of continuing operations.
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138  Answers
27 Multiple choice answers – introduction to groups
1  D  There is now no basis on which a subsidiary may be excluded from consolidation.
2  C  IFRS 3 requires negative goodwill to be credited to profit or loss.
3  C  A and B give rise to a subsidiary relationship; D is part of the definition of control.
4  B  A subsidiary may prepare additional statements up to the group reporting date and, where statements
for a different date are used, adjustments should be made for significant transactions. The allowable
gap between reporting dates is three months, not five.
5  B  The present value of the future cash flows thatthe asset is expected to generate measures present
value, not fair value. The other items would be considered in determining fair value.
28 Preparation question: Group financial statements
(a)  A parent need not present consolidated financial statements if one of the following exemptions applies.
 It is itself a wholly or partly-owned subsidiary of another entity and its other owners do not object to
it not preparing consolidated financial statements.
 Its shares or debt instruments are not traded on any stock exchange.
 Its financial statements are not being filed with any regulatory organisation for the purpose of issuing
any debt or equity instruments on any stock exchange.
 Its own or ultimate parent produces publicly-available financial statements that comply with IFRS.
(b)  IFRS 10 requires intragroup balances, transactions, income and expenses to be eliminated in full. The
purpose of consolidated financial statements is to present the financial position of the parent and
subsidiaries as that of a single entity, the group. This means that, in the consolidated statement of profit or
loss, the only profits recognised should be those earned by the group in trading with entities outside the
group. Similarly, inventory should be valued at cost to the group.
When a company sells goods to another company in the same group it will recognise revenue and profit in
its individual financial statements. However, from the point of view of the group, no sale has taken place,
because the goods are still held by the group. The sale must therefore be eliminated from revenue and the
unrealised profit must be eliminated from group inventory.
Where one group company owes money to another groupcompany or one company holds loan stock of
another company, the asset and liability balances will be eliminated on consolidation. As far as the group is
concerned, they do not represent amounts due to or from third parties.
29 Preparation question: Simple consolidation
BOO GROUP – CONSOLIDATED STATEMENT OF PROFITOR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDED 31 DECEMBER 20X8
$'000
Revenue (5,000 + 1,000 – 100 (W5))   5,900
Cost of sales (2,900 + 600 – 100 + 20 (W5))  (3,420)
Gross profit   2,480
Other expenses (1,700 + 320)  (2,020)
Profit before tax   460
Tax (130 + 25)  (155)
Profit for the year  305  Other comprehensive income   Gain on property revaluation    20
Total comprehensive income for the year   325
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$'000
Profit attributable to
Owners of the parent  294
Non-controlling interest (20% × 55)   11
305  Total comprehensive income attributable to
Owners of the parent (ß)314  Non-controlling interest   11
325
CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT 31 DECEMBER 20X8
$'000   $'000
Assets
Non-current assets (1,940 + 200)   2,140
Goodwill (W2)  70
Current assets
Inventory (500 + 120 + 80) 700
Trade receivables (650 – 100 (W5) + 40)   590
Bank and cash (170 + 35)   205
1,495
Total assets     3,705
Equity and liabilities
Equity attributable to owners of the parent
Share capital (Boo only)   2,000
Retained earnings (W3)   520
Revaluation surplus   20    2,540
Non-controlling interest (W4)   70
Total equity   2,610
Current liabilities
Trade payables (910 + 30)   940
Tax (130 + 25)   155
1,095
Total equity and liabilities   3,705
Workings
1  Group structure
Boo
80%
Goose
2  Goodwill
$’000 $’000
Consideration transferred    300
Fair value of non-controlling interest    60
360  Fair value of net assets:    Share capital  100
Retained earnings   190 (290)
Goodwill   70
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140  Answers
3  Retained earnings
Boo   Goose   $'000   $'000
Per question   500   240
Unrealised profit (W5)    (20)
480
Less pre acquisition  (190)
_50
Goose: 80% × 50      40
Group total   520
4  Non-controlling interest
$'000
NCI at acquisition  60
NCI share of post acquisition retained earnings (50 20%)    10
70
5  Inter company issues
Step 1: Record Goose's purchase  DEBIT Cost of sales  $100,000
CREDIT Payables   $100,000
DEBIT Closing inventory (SFP)  $100,000
CREDIT Cost of sales   $100,000
These transactions can be simplified to:
DEBIT Inventory  $100,000
CREDIT Payables   $100,000
Step 2: Cancel unrealised profit
DEBIT COS (and retained earnings) in Boo  $20,000
CREDIT Inventory (SFP)   $20,000
Step 3: Cancel intragroup transaction
DEBIT Revenue  $100,000
CREDIT Cost of sales   $100,000
Step 4: Cancel intragroup balances
DEBIT Payables  $100,000
CREDIT Receivables   $100,000
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30 Multiple choice answers – consolidated statement of
financial position
1 B $
Fair value at acquisition (200,000 × 30% × $1.75)   105,000
Share of post-acquisition retained earnings ((750 – 450) × 30%)   90,000
Depreciation on fair value adjustment ((250 / 40) × 30%)   (1,875)
193,125
2 A $
$
Consideration transferred:
Cash  250,000
 Deferred consideration (400,000 / 1.08)  370,370
 Shares (30,000 × $2.30)  69,000
689,370
 Fair value of non-controlling interest  400,000
1,089,370
 Fair value of net assets:
Shares  100,000
Retained earnings  850,000
(950,000)
139,370
3  C  ($1.2 million / 8 × 4/12) × 80% = $40,000
  The adjustment will reduce depreciation over the next 8 years, so it will increase retained earnings.
4 A $’000
 Shares (18m × 2/3 × $5.75)  69,000
 Deferred consideration (18m × $2.42 × 1 / 1.1
2
) 36,000
105,000
5 D  This adjustment reduces (debits) the liability and the credit is to retained earnings. The
remeasurement relates to the post-acquisition period, so goodwill is not affected.
6 D $
$
Consideration transferred  800,000
Fair value of non-controlling interest  220,000
1,020,000
Fair value of net assets:
Shares  100,000
Retained earnings  570,000
Revaluation surplus  150,000
Intangible 90,000
(910,000)
110,000
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31 Preparation question: Goodwill
Goodwill on acquisition
$’000 $’000
Consideration transferred 1,200
Fair value of non-controlling interest     400
Net assets at acquisition:
Share capital 500
Retained earnings 850
Revaluation surplus   450
(1,800)  Negative goodwill*   (200)
*Note.Negative goodwill is known as ‘gain on a bargain purchase’ (IFRS 3 Business combinations).
CONSOLIDATED STATEMENT OF PROFIT OR LOSS FOR THE YEAR ENDED 31 DECEMBER 20X9
$’000
Revenue (12,500 + 2,600)   15,100  Cost of sales (7,400 + 1,090)    (8,490)
Gross profit   6,610
Distribution costs (700 + 220)   (920)
Administrative expenses (1,300 + 550 – 200*)   (1,650)  Finance costs     (40)
Profit before tax   4,000  Income tax expense (900 + 230)    (1,130)  Profit for the year    2,870  Profit attributable to:
Owners of Penguin (ß)   2,768
Non controlling interest (510 ×20%)     102
2,870
*Note.Penguin plc should double-check the valuation of Platypus Ltd’s assets and liabilities and reassess the
valuation of the consideration paid. If it is satisfied that it has indeed secured a ‘bargain purchase’ then
$200,000 should be credited to profit or loss. Note thatIFRS 3 requires this gain to be attributed to the
acquirer; none of it is attributed to the non-controlling interest.
32 Pedantic
Text references. Chapters 9 and 10
Top tips. The first point to note here is that the subsidiarywas acquired mid-year. Remember this when it comes to
preparing the statement of profit or loss and working out the depreciation on the fair value adjustment. This
question had lots to do but no real problems. Get the formats down, note the adjustments on the question paper
and then start working through.
Easy marks. There were lots of easy marks here. The statement of profit or loss needed no real working out apart
from cost of sales and non-controlling interest. There were lots of marks available in the statement of financial
position even if you did not get the goodwill quite right. Correctly calculating the figures from the share exchange
would have gained you marks on goodwill,share capital and share premium.
Examiner's comments. This question was generally well answered by most candidates. The two areas of serious
errors were:
 Failure to time apportion the results of the subsidiary
 Proportional consolidation of 60% of the subsidiary's figures
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Marking scheme
Marks
(a)  Statement of profit or loss:
revenue 1½
cost of sales   3½
distribution costs    ½
administrative expenses   1
finance costs   1
income tax ½
non-controlling interest 210
(b)  Statement of financial position:
property, plant and equipment   2
goodwill   5
current assets
1½
equity shares   1
share premium   1
retained earnings   2
non-controlling interest 2
10% loan notes   ½
current liabilities 116
(c) 1 mark per valid point to maximum    4
Total       30
(a)  PEDANTIC – CONSOLIDATED STATEMENT OFPROFIT OR LOSS FOR THE YEAR ENDED
 30 SEPTEMBER 20X8      $'000
Revenue (85,000 + (42,000 6/12) – 8,000 (W7))   98,000
Cost of sales (W8)   (72,000)
Gross profit   26,000
Distribution costs (2,000 + (2,000 6/12))
(3,000)
Administrative expenses (6,000 + (3,200 6/2))
(7,600)
Finance costs (300 + (400 6/12))   (500)
Profit before tax   14,900
Income tax expense (4,700 + (1,400 6/12)   (5,400)
Profit for the year   9,500
Profit attributable to:
Owners of the parent   9,300
Non-controlling interests (W4)   200
9,500
(b)  PEDANTIC – CONSOLIDATED STATEMENT OFFINANCIAL POSITION AT 30 SEPTEMBER 20X8
$'000
Non-current assets
Property, plant and equipment (40,600 + 12,600 + 1,800 (W6)) 55,000
Goodwill (W2)   4,500
59,500
Current assets(W9) 21,400
Total assets    80,900
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Equity attributable to owners of the parent
Share capital (10,000 +1,600 (W5))   11,600
Share premium (W5)   8,000
Retained earnings (W3)   35,700
55,300
Non-controlling interests (W4)   6,100
61,400
Non-current liabilities
10% loan notes (3,000 + 4,000)   7,000
Current liabilities(8,200 + 4,700 – 400 (W10)) 12,500
80,900
(c)  Pedantic cannot take assurance from the Tradhat group financial statements that Trilby would be able to
meet its liability in respect of the goods. The group financial statements will have aggregated the assets and
liabilities of all the group companies and it will not be possible to use them to calculate liquidity ratios for
any one company.
This is important, because Pedantic’s contract would not be with the Tradhat group, it would be with Trilby.
If Trilby defaulted on its obligations, the Tradhat group would be under no legal obligation to step in, so that
the fact that the group has a strong financial position is not really relevant. It would only become relevant if
Tradhat were willing to offer a parent company guarantee.
In the absence of a parent company guarantee, Pedantic must base its decision on the financial position of
Trilby as shown in its individual company financial statements. It should also obtain references from other
suppliers of Trilby, specifically those who supply it with large orders on 90-day credit terms.
Workings
1  Group structure
Pedantic
1.4.X8  60%  Mid-year acquisition, six months before year end
Sophistic
2  Goodwill
$'000  $'000
Consideration transferred (W5)  9,600
Fair value of non-controlling interests   5,900
Less:  Fair value of net assets at acquisition:
Share capital  4,000
Retained earnings (6,500 – (3,000 6/12))    5,000
Fair value adjustment (W6)   2,000
(11,000)
Goodwill      4,500
3  Retained earnings
Pedantic  Sophistic
$'000  $'000
Per question  35,400  6,500
Movement on FV adjustment (W6)
(200)
PUP (W7)
(800)
Pre- acquisition (W2)  (5,000)
500
Group share (500 60%)   300
35,700
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Answers  145
4  Non-controlling interests
Statement of profit or loss
$'000
Post acquisition profit of Sophistic (3,000 6/12)   1,500
PUP (W7)
(800)
Movement on FVA (W6)   (200)
500
40%   200
Statement of financial position
$'000
NCI at acquisition (W2)     5,900
NCI share of post acquisition retained earnings ((W3) 500 × 40%)     200
6,100
5  Share exchange
Dr
Cr
$'000  $'000
Consideration transferred (4,000 60% 2/3 = 1,600 $6)   9,600
Share capital of Pedantic (1,600 $1)    1,600
Share premium of Pedantic (1,600 $5)    8,000
6  Fair value adjustments
$,000  $'000  $'000
Acq'n
Mov't  Year end
1.4.X8  6/12  30.9.X8
Plant (*$2m / 5 6/12)  2,000  (200)* 1,800
7  Intragroup trading
Dr  Cr
Cancel intragroup sales/purchases:   $'000  $'000
Sales  8,000
Purchases  8,000
Eliminate unrealised profit:
Cost of sales/retained earnings ((8,000 – 5,200) 40 / 140)  800
Inventories (SOFP) 800
8  Cost of sales
$,000
Pedantic   63,000
Sophistic (32,000 6/12)   16,000
Movement on FV adjustment (W6)   200
Intragroup purchases (W7) (8,000)
Unrealised profit (W7)   800
72,000
9  Current assets
$'000
Pedantic   16,000
Sophistic   6,600
Unrealised profit in inventory (W7)
(800)
Intercompany receivables (per question) (600)
Cash in transit (W10)   200
21,400
10  Cash in transit
 Dr  Cr  Receivables 600
Payables 400
Cash 200
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146  Answers
33 Multiple choice answers – consolidated statement of
profit or loss and other comprehensive income
1 A $
Basil  547,700
 Parsley (206,900 × 10/12)  172,417
 PURP ((46,000 × 30 / 130) × 25%)
(2,654)
717,463
2  D  $2 million × 25 / 125 × 20% = $80,000
3 C  $m
Decrease  12.0
Increase ($2m × 25% (profit margin))  0.5  Net decrease    11.5
4 A $’000
 Profit for the year
1,300
 Intra-group interest (5m × 8%)
(400)
 Impairment (50,000 – 30,000)    (20)
880
× 30%
264
*Note. The revaluation surplus is eliminated first and the remainder charged to profit or loss.
34 Preparation question: Acquisition during the year
CONSOLIDATED STATEMENTOF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDING 31 DECEMBER 20X4
Port   Alfred
Adjustment   Group
2/12
$'000   $'000   $'000
Revenue   100   166   266
Cost of sales
(36) (43) (79)
Gross profit   187
Interest on loan to Alfred 276   –
(46) 230
Other investment income   158   –   158
Operating expenses
(56) (55) (111)
Finance costs   –
(46) 46   –
Profit before tax   464
Taxation
(112) (6) (118)
Profit for the year   346
Other comprehensive income:
Gain on property revaluation  30  30
Total comprehensive income for the year    376
Profit attributable to:  Owners of the parent   342
Non-controlling interest (W5)   4
346  Total comprehensive income attributable to:  
Owners of the parent     372
Non-controlling interest     _ 4
376
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Answers  147
PORT GROUP STATEMENT OF FINANCIAL POSITION AS AT 31 DECEMBER 20X4
Adjustments  Group
Assets$’000
Non-current assets
Goodwill
(W2) 330
Property, plant and equipment   130 + 3,000    3,130
Investments
Loan to Alfred   2,300 + 0
(2,300)
–
Other investments   600 + 0    600
4,060
Current assets   800 + 139    939
Total assets   4,999
Equity and liabilities
Equity attributable to owners of the parent
$1 equity shares
(W3) 235
Share  premium
(W3) 1,115
Retained  earnings
(W4) 2,912
Revaluation surplus    30
4,292
Non-controlling interest
(W5) 184
Total equity   4,476
Non-current liabilities
Loan from Port
0 + 2,300 (2,300)   –
Current liabilities   200 + 323      523
Total equity and liabilities   4,999
Workings
1  Group structure
Port
75% Subsidiary
Two months only
Alfred
2  Goodwill
$'000  $'000  $'000
Consideration transferred (shares)  650
Non-controlling interests at acquisition     180
Net assets at date of acquisition (Note)
Share capital  100
Share premium  85
Retained earnings:
Opening (331 – 96)  235
Add accrued profit for the year: $96,000 10/12  80   Pre-acquisition retained earnings  315
(500)
Goodwill   330
Note. The net assets at the date of acquisition are also calculated by time-apportioning profits. The share
capital and retained earnings brought forward obviously all arose before acquisition. The profit for the year is
assumed to have arisen evenly over time.
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148  Answers
3 Issue of shares
Draft  New issue  Revised
$'000   $'000   $'000
Share capital   200   35   235
Share premium   500   615   1,115
Fair value of proceeds   650
4  Group retained earnings
Port  Alfred
$'000  $'000
Per question  2,900  331
Less pre acquisition (W2)  (315)
16
Share of Alfred: (16 75%)   12
2,912
5  Non-controlling interests
Statement of profit or loss
The rule here is to time apportion the non-controlling interest in the subsidiary acquired during the year.
After all, you can only take out in respect of the non-controlling interest what was put in the first place. So, if
two months were consolidated then two months of non-controlling interest will be deducted.
$96,000 2/12 25% = $4,000.
Statement of financial position
$'000
NCI at acquisition    180
NCI share of post-acquisition retained earnings ((W4) 16 × 25%)   4
184
35 Preparation question: Pandar
Text references. Chapters 9 and 10
Top tips. This question involves calculation of goodwill and then a consolidated statement of profit or loss with NCI
at FV. This is a mid-year acquisition, so the subsidiary’s results need to be apportioned. The other point to note is
that the subsidiary’s interest payable needs to be fully attributed to the post-acquisition period.
Easy marks. There were easy marks to be earned on the goodwill calculation even if you failed to get the reserves
right and the investment in associate was quite straightforward. Easy marks could also have been earned on the
unrealised profit and the line items of the statement of profit or loss.
Examiner’s comments. This was generally well answered. Main areas where errors were made were: in part (a) not
charging the interest on the 8% loan entirely to the post-acquisition period, not calculating NCI at FV and not timeapportioning the losses of the associate; in part (b) there were some problems with depreciation and amortisation.
(a) (i)  Goodwill
$’000  $’000
Consideration transferred (120m × 80% × 3/5 × $6)  345,600
Non-controlling interest (120m × 20% × $3.20)  76,800
FV of identifiable net assets acquired:
Share capital  120,000
Reserves (152,000 + ((21,000 + (W4) 2,000*) × 6/12))  163,500
FV adjustments (W3)   25,000
(308,500)
113,900
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*Note.The interest on the loan note is a post-acquisition cost for Salva, so it is added back for the
purpose of calculating pre-acquisition reserves.
(ii)  Investment in Ambra
$’000
Cost (40m × 40% $2)   32,000
Share of post-acquisition loss (5,000 40% 6/12)
(1,000)
Impairment loss (3,000)
28,000
(b)  PANDAR GROUP – CONSOLIDATED STATEMENT OF PROFIT OR LOSS
 FOR THE YEAR ENDED 30 SEPTEMBER 20X9     $’000
Revenue (210,000 + (150,000 6/12) – (W5) 15,000)   270,000
Cost of sales (126,000+(100,000 6/12) + (W3) 500 - (W5)15,000 + (W5) 1,000)   (162,500)
Gross profit   107,500
Distribution costs (11,200 + (7,000 6/12)
(14,700)
Administrative expenses (18,300 + (9,000 6/12)
(22,800)
Investment income (9,500 – (W4) 2,000 – (8,000 80%))   1,100
Finance costs (1,800 + (3,000 x 6/12) – ((W4) 2,000 6/12) + (W4) 2,000 – (W4) 2,000)
(2,300)
Share of loss of associate ((5,000 40% 6/12)+(3,000) impairment)   (4,000)
Profit before tax  64,800
Income tax expense (15,000 + (10,000 6/12))   (20,000)
Profit for the year  44,800
Profit attributable to:
Owners of the parent  43,000
Non-controlling interest (W2)  1,800
44,800
Workings
1 Timeline
Pandar
Salva – subsidiary + NCI × 6/12
Ambra – associate × 40% × 6/12
1.10.2008  1.4.2009    30.9.2009
2  Non-controlling interest
$’000
Salva’s post acquisition profit ((21,000 6/12) + ((W4)2,000 6/12) – (W4)2,000)*   9,500
Depreciation on FVA (W3)  (500)
9,000
× 20%   1,800
3  Fair value adjustments
Acquisition
Movement  Year end
1.4.X9  30.9.X9
$’000  $’000  $’000
Plant (17,000 – 12,000)  5,0005000 / 5 × 6/12  (500) 4,500
Domain name  20,000  –  20,000
25,000  24,500
4  Intragroup interest
Interest 50,000 × 8% × 6/12 = $2,000
Dr Finance income/Cr Finance costs
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150  Answers
5  Intragroup trading
Cancel intragroup sales/purchases:
Dr Revenue 15,000/Cr Cost of sales 15,000
Unrealised profit 15,000 × 1/3 × 20%:
Dr Cost of sales 1,000/Cr Inventories (SOFP) 1,000
[The following supplementary workings are included for additional explanation. Note that in the exam
you will not have time to prepare these workingsand you should do them as shown above, on the
face of the statement of profit or loss.]
Cost of sales
$’000
Pandar  126,000
Salva (100,000 × 6/12)  50,000
Intragroup (W5) (15,000)
Depreciation on FVA (W3)  500
Unrealised profit (W5)   1,000
162,500
Investment income
$’000
Pandar  9,500
Intragroup interest (W4) (2,000)
Intragroup dividend (8,000 × 80%) (6,400)
1,100
Finance costs
$’000
Pandar  1,800
Salva ((3,000 – 2,000) × 6/12) + 2,000)*  2,500
Intragroup (W4) (2,000)
*Note. The finance costs associated with the loan note are separated out and
charged in full to the post-acquisition period. Of the 3,000 ($’000) finance
costs in Salva's statement of profit or loss, 2,000 is intragroup and relates
only to the post-acquisition period. The remaining 1,000 is correctly 6 / 12.
The 2,000 intragroup is then cancelled on consolidation, leaving a balance in
group finance costs of 1,800 + (1,000 ×6 / 12) = 2,300.
2,300
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Answers  151
36 Viagem
Text references. Chapter 10
Top tips. The goodwill impairment must be deducted from the consolidated profit or loss. The subsidiary has been
owned for nine months so revenue and expenses must be apportioned
Easy marks. There were plenty of marks available here for standard workings.
Marking scheme
Marks
Consolidated statement of profit or loss:
Revenue    2
Cost of sales    3
Distribution costs    1
Administrative expenses    2
Share of profit of associate    1½
Finance costs    2
Income tax    1
Profit for year – attributable to parent    ½
– attributable to NCI     2
15
 VIAGEM GROUP – CONSOLIDATED STATEMENT OFPROFIT OR LOSS FOR THE YEAR ENDED
 30 SEPTEMBER 2012
$’000
Revenue (64,600 + (38,000 ×9/12) – 7,200 (W2))  85,900
Cost of sales (51,200 + (26,000 ×9/12) – 7,200 + 300 (W2) + 450 (W3))   (64,250)
Gross profit  21,650
Distribution costs (1,600 + (1,800 ×9/12))  (2,950)
Administrative expenses (3,800 + (2,400 ×9/12) + 2,000 (goodwill impairment))  (7,600)
Finance costs (W4)  (1,500)
Share of profit of associate (2,000 ×40%)  800
Profit before tax  10,400
Income tax expense (2,800 + (1,600 ×9/12))  (4,000)
Profit for the year  6,400
Profit attributable to
Owners of the parent (ß)  6,180
Non-controlling interest (W5)  220
6,400
Workings
1 Group structure
 Viagem  1 Jan 2012  90%  Mid-year acquisition, nine months before year end
Greca
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152  Answers
2  Intragroup trading
$’000  $’000
Intragroup trading (800 ×9 months)
DEBIT Revenue  7,200
CREDIT Cost of sales    7,200
PURP (1,500 ×25/125)
DEBIT Cost of sales  300
CREDIT Group inventory (SFP)    300
3  Fair value adjustment
Acquisition Movement  Year end
$’000  $’000  $’000
Plant  1,800  (450)*  1,350
*(1,800 / 3) ×9/12
4 Finance costs
$’000
Viagem per statement of profit or loss  420
Unwinding of discount on deferred consideration:
((14,400 ×10%) ×9/12)    1,080
1,500
5  Non-controlling interest
$’000
Profit for the year (6,200 ×9/12)  4,650
Depreciation on fair value adjustment (W3)  (450)
Goodwill impairment   (2,000)
2,200
Non-controlling share 10%   220
37 Prodigal
Text reference. Chapter 10.
Top tips. The first point to note is that Sentinel was acquired mid-year. Always pay close attention to dates.
Easy marks. Revenue is relatively straightforward for two marks and for all of the expense categories apart from
cost of sales it was only necessary to take Prodigal’s balance plus 6/12 Sentinel. The other comprehensive income
was also easy, and you should have been able to score well on part (b) and part (c).
Examiner’s comments. There were many good scores here. Two problem areas were dealing with the elimination
of intra-group sales and the additional depreciation on the assettransfer. Some candidates failed to calculate NCI in
the total comprehensive income. Very few candidates correctly calculated ‘other equity reserve’ and many
calculated goodwill, which was not required. The written section of part (b) was often ignored and a lot of answers
did not answer the question ie did not explain the effectof the two treatments.
Marking scheme
Marks
(a)  Goodwill on acquisition
Consideration transferred  2
Fair value of NCI  ½
Fair value of net assets  1½4
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Answers  153
(b)  (i)  Statement of profit or loss and other comprehensive income  Marks
Revenue  2
Cost of sales  4    Distribution costs and administrative expenses  2   Finance costs  1
Income tax expense  1    Non-controlling interest in profit for the year  1½    Other comprehensive income  2    Non-controlling interest in other comprehensive income  1½15  (ii) Consolidated equity
Share capital  1
Share premium  1
Revaluation surplus (land)  1
 Other equity reserve  1   Retained earnings  1½
Non-controlling interest  1½   7  (c)  1 mark per valid point   4   30
(a)  Goodwill on acquisition of Sentinel
 $’000  $’000  Consideration (((160,000 × 75%) × 2/3) × $4)   320,000  Fair value of non-controlling interest     100,000
  420,000  Fair value of net assets:
Shares  160,000
Other equity reserve  2,200   Retained earnings    125,000
(287,200)
Goodwill   132,800
(b) (i)  CONSOLIDATED STATEMENT OF PROFITOR LOSS AND OTHER COMPREHENSIVE INCOME
  FOR THE YEAR ENDED 31 MARCH 20X1    $’000
Revenue (450,00 + (240,000 6/12) – (W4) 40,000)  530,000
Cost of sales (260,000 + (110,000 6/12) + (W3) 800 – (W4) 40,000 + 3,000)   (278,800)
Gross profit  251,200
Distribution costs (23,600 + (12,000 6/12))  (29,600)
Administrative expenses (27,000 + (23,000 6/12))  (38,500)
Finance costs (1,500 + (1,200 6/12))   (2,100)
Profit before tax  181,000
Income tax expense (48,000 + (27,800 6/12))  (61,900)
Profit for the year   119,100  Other comprehensive income:
Gain on land revaluation (2,500 + 1,000)*  3,500
Investments in equity instruments** (700 + (400 6/12))   (900)  Other comprehensive income, net of tax    2,600
Total comprehensive income for the year   121,700
Profit attributable to:
Owners of the parent (bal)  111,600  Non-controlling interests (W2)   7,500
119,100
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154  Answers
Total comprehensive income attributable to:
Owners of the parent (bal)  114,000
Non-controlling interests (W2)  7,700
121,700
*All post - acquisition
**Could also be described as equity financial asset investments
(ii)
$’000
Equity attributable to owners of the parent:
Share capital (250,000 + (W7) 80,000)  330,000
Share premium (100,000 + (W7) 240,000)  340,000
Retained earnings (W5)  201,600
Revaluation surplus (8,400 + 2,500 + (1,000 75%))  11,650
Other equity reserve (3,200 – 700 – (400 6/12 75%))  2,350
885,600  Non-controlling interests (W6)   107,700
993,300
(c)  The argument behind allowing the non-controlling interestto be valued at fair value is that the traditional
method (valued at proportionate share of subsidiary’s net assets) does not take account of goodwill
attributable to the non-controlling interest. Goodwill is based upon the amount the parent paid for shares in
the subsidiary. The non-controlling interest also holds shares which would have had the same market value
at the acquisition date, so their holding also includes an element of goodwill. The fair value option takes
account of this.
The fair value of the non-controlling interest can be based on share price or on a valuation by the parent
company. Use of the fair value option means that the goodwill amount in the consolidated statement of
financial position will normally be higher than where share of net assets is used, and the non-controlling
interest will also be higher. Also, when goodwill is impaired, the impairment will be allocated between the
group and the non-controlling interest, based on their relative shareholdings.
Workings
1  Group structure and timeline
Prodigal
Sentinel 1.10.20X0 75%
1.4.20X0 1.10.20X0  31.3.20X1
Prodigal  >
 Sentinal × 6/12
2  Non-controlling interests
Profit for year
Total
comprehensive
income
$’000  $’000
Per question (66,000 6/12) ((66,000–400) 6/12 + 1,000))   33,000  33,800
PUP (W4)   (3,000) (3,000)
30,000  30,800
×  25%  25%
7,500   7,700
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3  Transfer of plant
$’000
1.10.20X0 Profit on transfer (5,000 – 4,000)  1,000
Proportion depreciated (½ / 2½)  (200)
Unrealised profit   800
Required adjustment:
Dr Cost of sales (and retained earnings)  800
Cr Plant   800
4  Intragroup trading  Cancel intragroup sales/purchases:
$’000 $’000  Dr Group revenue  40,000
Cr Group cost of sales   40,000
((40,000 – 30,000) 12,000 / 40,000) = 3,000    DR Cost of sales (Sentinel) (NCI)  3,000
CR Group inventories   3,000
5  Retained earnings
Prodigal Sentinel
$’000  $’000
Per question: (90,000 + 89,900) (125,000 + 66,000)  179,900  191,000
PUP on transfer of plant (W3)
(800)
PUP on transfer of inventories (W4)
(3,000)
Pre-acq retained earnings (125,000 + (66,000 6/12))    (158,000)
30,000
Group share (30,000 75%)    22,500
201,600
6  Non-controlling interests
$’000
NCI at acquisition  100,000
NCI share of post-acquisition:
– Retained earnings ((W5) 30,000 25%)   7,500
– Revaluation surplus (1,000 25%)   250
– Investment in equity instruments ((400 6/12) 25%)   (50)
107,700
7  Share for share exchange
$’000 $’000  Dr Cost of investment in S  320,000
Cr Share capital (160,000 75% 2/3 $1)  80,000
Cr Share premium (160,000 75% 2/3 $3)  240,000
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156  Answers
38 Multiple choice answers – accounting for associates
1 A $m
Cost (75m × $1.60)  120
Share of post-acquisition retained earnings (100 – 20) × 30%  24
144
2  C  The group’s share of the associate’s profit after tax is recorded as a one-line entry. Option A would be
correct for a subsidiary, not an associate. The dividends received from the associate are all that is
recorded in the individual entity financial statements of the parent, but in the consolidated financial
statements this is replaced by the group share of profit after tax.
3 A $’000
 Cost of investment  2,500
 Share of post-acquisition profit (6,400 – 5,300) × 30%)  330
 PURP (700 × 30% ×30%)  (63)
2,767
4 B $’000
 Cost of investment  10,000
 Share of post-acquisition profit (3,000 × 8/12) – 1,000) × 35%  350
Impairment (500)
9,850
5  C  (($2m × 40%) × 25 / 125) × 30% = $48,000
  This adjustment is removing profit from inventory so it is a credit entry.
39 Preparation question: Laurel
LAUREL GROUP - STATEMENT OF FINANCIAL POSITION AS AT 31 DECEMBER 20X9
$m
Non-current assets
Property, plant and equipment (220 + 160 + (W7) 3)  383
Goodwill (W2)  9
Investment in associate (W3)  96.8
488.8  Current assets
Inventories (384 + 234 – (W6) 10)  608
Trade receivables (275 + 166)  441
Cash (42 + 10)
52
1,101
1,589.8
Equity attributable to owners of the parent
Share capital – $1 ordinary shares  400
Share premium  16
Retained earnings (W4)   326.8
742.8
Non-controlling interests (W5)  47
789.8  Current liabilities
Trade payables (457 + 343)   800.0
1,589.8
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Workings
1  Group structure
Laurel
80% 40%
1.1.X7  1.1.X7
Hardy Comic (associate)
 $64m  $24m Pre acq'n ret'd earnings
2  Goodwill
$'m $'m
Consideration transferred    160
Non-controlling interests (at fair value)   39
Fair value of net assets at acq'n:     Share capital   96   Share premium   3   Retained earnings   64   Fair value adjustment (W7)    12
(175)
24  Impairment losses   (15)
9
3  Investment in associate
$'m
Cost of associate   70
Share of post acquisition retained reserves (W4)   29.2
Unrealised profit (W6)
(2.4)
Impairment losses (0)
96.8
4  Consolidated retained earnings
Laurel   Hardy   Comic
$'m   $'m   $'m
Per question   278   128   97
Less:  PUP re Hardy (W6)
(10)
 PUP re Comic (W6)
(2.4)
Fair value adjustment movement (W7)
(9)
Less pre-acquisition retained earnings   (64) (24)
55  73
Group share of post-acquisition retained earnings:
Hardy (55 80%)
44
Comic (73 40%)   29.2
Less group share of impairment losses (15 80%)   (12.0)
326.8
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158  Answers
5  Non-controlling interests
$'m
Non-controlling interests at acquisition (W2)   39
NCI share of post acquisition retained earnings:
Hardy (55 20%)   11
Less NCI share of impairment losses (15 20%)   (3)
47
6  Unrealised profit
Laurel's sales to Hardy: $32m – $22m =  $10m
DR Retained earnings (Laurel)  $10m
CR Group inventories  $10m
Laurel's sales to Comic (associate) ($22m – $10m) ½ 40% share = $2.4m.
DR Retained earnings (Laurel)  $2.4m
CR Investment in associate  $2.4m
7  Fair value adjustments
At acquisition
date
Movement
At year
end
$'m   $'m   $'m
PPE (57 – 45)   +12
(9)*   +3
*Extra depreciation $12m ¾
Goodwill
Ret'd
earnings
PPE
40 Preparation question: Tyson
STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME FOR THE YEAR ENDED
31 DECEMBER 20X8
$'m
Revenue (500 + 150 – 66)   584
Cost of sales (270 + 80 – 66 + (W3) 18)    (302)
Gross profit   282
Other expenses (150 + 20 + 15)
(185)
Finance income (15 + 10)   25
Finance costs
(20)
Share of profit of associate [(10 40%) – 2.4*]   1.6
Profit before tax   103.6
Income tax expense (25 + 15) (40)
PROFIT FOR THE YEAR   63.6
Other comprehensive income:
Gains on property revaluation, net of tax (20 + 10)   30
Share of other comprehensive income of associate (5 40%)
2
Other comprehensive income for the year, net of tax   32.0
TOTAL COMPREHENSIVE INCOME FOR THE YEAR   95.6
Profit attributable to:
Owners of the parent (63.6 – 2.4)   61.2
Non-controlling interests (W2)   2.4
63.6
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Total comprehensive income attributable to:
Owners of the parent (95.6 – 4.4)   91.2
Non-controlling interests (W2)   4.4
95.6
*Impairment losses could either be included in expenses or deducted from the share of profit of associates figure.
IAS 28 is not prescriptive.
Workings
1  Group structure
Tyson
80% 40%
3 yrs ago  2 yrs ago
Douglas Frank (associate)
 $40m  $20m Pre acq'n reserves
2  Non-controlling interests
PFY TCI
$'m  $'m
PFY/TCI per question  45  55
Unrealised profit (W3)  (18)  (18)
Impairment loss  (15)  (15)
12  22
NCI share (20%)  2.4 4.4
3  Unrealised profit
$'m
Selling price  66
Cost   (48)
PUP   18
41 Preparation question: Plateau
Text references. Chapters 10 and 11.
Top tips. This is a standard consolidation question, with a subsidiary and associate. You have to record the share
issues. Note that the gain on the investment goes through profit or loss.
Easy marks. Apart from the fair value adjustment and the NCI at fair value there were no other particular
complications and easy marks were available on investments, current assets and liabilities. Do not neglect part (b)
which is five easy marks.
Examiner's comments. The consolidated statement of financial position was well answered but few candidates got
to grips with the written section and many did not attempt it at all. The main areas where candidates went wrong
were:
 Deducting fall in fair value of land from PPE, when it had already been written down
 Failing to adjust for additional depreciation
 Not using equity accounting for the associate
 Failing to adjust share capital and premium for the share issue on acquisition
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(a)  PLATEAU – CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT 30 SEPTEMBER 20X7
$'000
Non-current assets
Property, plant and equipment (18,400 + 10,400 – (W7) 400)   28,400
Goodwill (W3)   5,000
Intangible asset – customer contract 1,000
Investment in associate (W4) 10,500
Investment in equity instruments (note v to question) 9,000
53,900
Current assets
Inventories (6,900 + 6,200 – (W7) 300) 12,800
Trade receivables (3,200 + 1,500)   4,700
17,500
Total assets   71,400
Equity and liabilities
Equity attributable to owners of the parent
Share capital (10,000 + (W2) 1,500)  11,500
Share premium (W2) 7,500
Retained earnings (W5)   30,300
49,300
Non-controlling interest (W6) 3,900
53,200
Non-current liabilities
7% loan notes (5,000 + 1,000)  6,000
Current liabilities (8,000 + 4,200)  12,200
Total equity and liabilities  71,400
Workings
1  Group structure
Plateau
1.10.X6  1.10.X6
 75%  30%
Savannah  Axle
2Purchase of Savannah
DEBIT Cost of Savannah (3m / 2 $6) + (3m $1.25)  12.75m
CREDIT Share capital (3m / 2 $1)  1.5m
CREDIT Share premium (3m / 2 $5)  7.5m
CREDIT Cash  3.75m
3Goodwill– Savannah
$'000   $'000
Consideration transferred   12,750
Non-controlling interests at acquisition (1,000 shares @ $3,25)   3,250
Less:  Net fair value of assets and liabilities at acquisition:
Share capital   4,000
Retained earnings   6,000
 Fair value adjustment (W8)   1,000
(11,000)
5,000
4 Investment in Axle
$'000
Cost (4,000 30% $7.50)   9,000
Share of post-acquisition retained earnings (W5)   1,500
10,500
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5  Group retained earnings
Plateau
Savannah    Axle
$'000
$'000    $'000
Per statement of financial position
25,250
2,900    5,000
Unrealised profit (W7)   (400) (300) –
24,850    2,600  5,000
Group share: 2,600 75%
1,950
5,000 30%
1,500
Gain on investment  
(9,000 – 6,500)
2,500
Professional costs of acquisition   (500)
Group retained earnings
30,300
6 Non-controlling interests – Savannah
$'000
NCI at acquisition (W3)   3,250
NCI share of post acquisition retained earnings ((W5) 2,600 × 25%)   650
3,900
7  Intragroup trading
Unrealised profit on sale of inventories:
$2.7m 50/150 1/3  $0.3m
Dr Cost of sales/Cr Inventories in books of Savannah (affects NCI)
Unrealised profit on transfer of plant:
Unrealised profit ($2.5m – $2m)   0.5m
Less realised by use (depreciation) 1/5   (0.1m)
0.4m
DEBIT Retained earnings/CREDIT Property, plant and equipment in books of Plateau
8 Fair value adjustment – customer contract
Acquisition date   End of reporting period
1.10.X6 Movement  30.9.X7
1,000 –  1,000
9 Investments in equity instruments
$'000
Fair value at 1 October 20X6   6,500
Fair value at 30 September 20X7   9,000
Increase in fair value 2,500
DEBIT Investments in equity instruments/CREDIT Retained earnings
(b)  IFRS 3 requires the consideration for a business combination to be allocated to the fair values of the assets,
liabilities and contingent liabilities acquired.
Although this is usually not the same as the original cost of the asset when acquired by the subsidiary, it is
taken to be the cost of the asset to the group. If assets are not valued at fair value, this leads to an incorrect
goodwill valuation and incorrect depreciation and goodwill impairment charges in subsequent years.
The financial assistant is confusing two different issues. The assets of the subsidiary are assumed to be
acquired at their fair value at the date of acquisition by the parent. After acquisition they will be carried at
depreciated amount, rather than subjected to regular revaluations. So they will be treated in the same way as
other assets owned by the parent. The parent may decide to revalue all the assets of a class, including those
acquired as part of a business combination, in which case they would all be carried at revalued amount.
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162  Answers
42 Paladin
Text references. Chapters 5 and 9.
Top tips. This is a pretty straightforward consolidated statement of financial position. Set out the proformas and
then work methodically through the numbers. There are quitea few adjustments to retained earnings, so make sure
your retained earnings working is very clear.
Easy marks. There are a lot of easy marks in this question. The complications are dealing with the deferred payment
and the unwinding of the discount, capitalising and amortising the intangible asset and remembering to deduct the
intercompany balance from receivables and payables. Most ofthe rest of it is quite easy, the PURP is only in the
parent and two marks are available for investment in associate, which is not a complicated working. Part (b) is easy
marks for correctly assessing the situation.
Examiner’s comments. The parts of this question that related to basic consolidation adjustments were well dealt
with by most candidates. Errors occurred in the more complex aspects. Some candidates failed to discount the
deferred consideration and some did not treat the customer relationship as an intangible asset. Others deducted the
post-acquisition additional depreciation from the goodwill.Some students only deducted 25% of the impairment
loss on the investment in associate, when the loss applied to the whole of the investment. A common error was to
offset the subsidiary’s overdraft against the parent’s bank balance. No such right of offset exists.
Marking scheme
Marks
(a)  Consolidated statement of financial position
 Property, plant and equipment  2½
Goodwill  5
Other intangibles  2½
Investment in associate  2
Inventory  1
Receivables  1
Bank  ½
Equity shares  ½
Retained earnings  5
Non-controlling interest  2
Deferred tax  ½
Bank overdraft  ½
Deferred consideration  1
Trade payables   1
25
(b)  1 mark per valid point to maximum   5
Total   30
(a)  CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT 30 SEPTEMBER 20X1
Assets  $’000
Non-current assets
Property, plant and equipment (40,000 + 31,000 + 3,000 (W6))  74,000
Goodwill (W2)  15,000
Intangible assets (7,500 + 2,500 (W6))  10,000
Investment in associate (W3)    7,700
106,700
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Current assets
Inventories (11,200 + 8,400 – 600 (W7 ))  19,000
Trade receivables (7,400 + 5,300 – 1,300 (W7))  11,400
Bank    3,400
33,800
Total assets  140,500 Equity and liabilities     Equity attributable to owners of Paladin    Share capital   50,000  Retained earnings (W4)   35,200
85,200
Non-controlling interests (W5)      7,900
93,100
Non-current liabilities
Deferred tax (15,000 + 8,000)    23,000
Current liabilities
Overdraft    2,500
Payables (11,600 + 6,200 – 1,300 (W7))    16,500
Deferred consideration (5,000 + 400 (W2))      5,400
24,400
Total equity and liabilities    140,500
Workings
1  Group structure
Paladin
80% 25%
1.10.X0  1.2.X1
 Saracen  Augusta (associate)
2  Goodwill
$’000  $’000
Consideration transferred:
Cash   32,000
Deferred consideration (5,400 × 1 / 1.08)   5,000
37,000
Non-controlling interest (2,000 × $3.50)   7,000
44,000  Fair value of net assets:
Share capital  10,000
Retained earnings  12,000    Fair value adjustment on plant  4,000    Intangible asset  3,000
(29,000) Goodwill    15,000
3 Investment in associate
$’000
Cost of investment  10,000
Share of post-acquisition retained earnings (800 (W4) × 25%)  200
Impairment    (2,500)  7,700
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4  Retained earnings
Paladin  Saracen  Augusta
$’000  $’000  $’000
Per question – 1.10.20X0  25,700  12,000  31,800
 – year to 30.9.20X1  9,200  6,000  1,200
18,000  33,000
PURP (W7)
(600)
Depreciation on fair value adjustments (W6)
(1,500)
Unwinding of discount (5,400 – 5,000 (W2))
(400)
Less pre-acquisition retained earnings to
1.10.20X0
(12,000) (31,800)
Less pre-acquisition to 1.2.X1 (1,200 4/12)
- (400)
4,500  800
Saracen (4,500 80%)
3,600
Augusta (800 25%)
200
Impairment of investment in associate (W3)  (2,500)
35,200
5  Non-controlling interests
$’000
NCI at acquisition (W2)  7,000
Share of post-acquisition retained earnings (4,500 (W4) 20%)   900
7,900
6  Fair value adjustments
Acquisition  Movement  Year end
 $’000   $’000  $’000  Plant  4,000  1/4  (1,000)  3,000  Intangible asset (customer relationships)   3,000 1/6  (500) 2,500   7,000  (1,500) 5,500
7  Intragroup trading
Unrealised profit:
$’000 $’000
Dr Cost of sales/retained earnings (2,600 30/130)  600
Cr Inventories   600
Current account:
Dr Group trade payables  1,300
Cr Group trade receivables   1,300  (b)  At 31 March 20X8 Paladin could be presumed to have 'significant influence' over Augusta arising from its
25% shareholding. Augusta was therefore treated as an associate and its results were brought into Paladin's
financial statements using the equity method.
Spekulate's purchase of 65% changes Paladin's position. Spekulate now has control, so Paladin can no
longer be regarded as having significant influence. This is illustrated by the fact that Paladin has lost its seat
on the board. Paladin's investment in Augusta should betreated in 20X9 under IFRS 9, carried at fair value,
with any gains or losses taken to profit or loss.
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43 Multiple choice answers – inventories and biological
assets
1 B $m
Per inventory count  36.0
 Received after year end
(2.7)
 Sold after year end (7.8m / 1.3) 6.0
39.3
2  A  NRV – (12,000 × (5.4 × 85%)) = $55,080
3 C
Product  $
A 1,000 × 40  40,000
B 2,500 × 15  37,500
C 800 × 22  17,600
95,100
4  C  As the item becomes obsolete we can expect its market price to fall – and eventually fall below cost.
The other options would all maintain or improve the net realisable value of the item.
5  B  Plant lying idle will not lead to a higher overhead allocation because overheads are allocated on the
basis of the normallevel of production (as in A). The other options are all correct.
6  D  IAS 41 requires biological assets to be measured on initial recognition at fair value less estimated
point-of-sale costs.
7  B  Harvest is an intervention, not a biological process. Growth, procreation and degeneration are natural
biological processes.
8  A  A gain or loss on a biological asset is included in profit or loss for the year.
9  D  None of these statements is correct. Production overheads are allocated on the basis of a company’s
normallevel of activity. Settlement discounts are not deducted to arrive at NRV. The LIFO formula is
not allowed under IAS 2. Valuation of finished goods should include production overheads.
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166  Answers
44 Multiple choice answers – provisions, contingent
liabilities and contingent assets
1  D  Loss of the case is not ‘probable’, so no provision is made, but the legal costs will have to be paid
so should be provided for.
2  A  $2 million should be provided for and capitalised as part of the cost of the mine. It will then be
depreciated over the useful life.
3 D  $m
$2 million × 15%  0.3
$6 million × 5%   0.3
0.6
4  D  The cost of the overhaul will be capitalised when it takes place. No obligation exists before the
overhaul is carried out. The other options would all give rise to valid provisions.
45 Promoil
Marking scheme
Marks
(a)  1 mark per relevant point 5
(b)  (i)  Explanation of treatment 2
Depreciation  1
Finance cost  1
Non-current asset  2
Provision  1
7
(ii)  Figures for asset and depreciation if not a constructive obligation  1
What may cause a constructive obligation  1
Subsequent treatment if it is a constructive obligation  1
3
Total   15
(a) The Conceptual Frameworkdefines a liability as a present obligation of an entity arising from past events,
the settlement of which is expected to result in an outflow from the entity of resources embodying economic
benefits. The obligation can be legal or constructive.
A provision is a liability of uncertain timing or amount. It can be recognised when the outflow of resources is
probable and when the amount concerned can be reliably estimated. Because it is regarded as a liability, a
provision must meet the definition of a liability. This regulates when a provision should, or should not, be
made. For instance, entities are not allowed to provide for future operating losses, which used to be a means
of 'profit smoothing', because the losses are in the future, rather than arising from past events. At the same
time, an entity which has a future environmental liability because of past polluting activities, is required to
make a provision as soon as the liability becomes apparent.
(b)  (i)  Promoil must provide for dismantling and restoration costs at 30 September 20X8, as the liability
came into existence with the granting of the licence and the cost has been reliably estimated.
The provision at 30 September 20X8 will be for the future cost discounted over ten years. This will be
added to the carrying amount of the oil platform and depreciated over ten years. The discount will be
'unwound' each year and charged to finance costs. The credit entry will increase the provision until at
the end of ten years it will stand at $15m.
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At 30 September 20X8:
STATEMENT OF PROFIT OR LOSS
$'000
Depreciation (see SFP)  3,690
Finance costs (6,900 (see SFP) 8%)  552
STATEMENT OF FINANCIAL POSITION
$'000
Non-current assets:
Oil platform  30,000
Dismantling (15m 0.46)   6,900
36,900
Depreciation (36,900 / 10)   (3,690)
Carrying amount   33,210
Non-current liabilities:
Environmental provision at 1 October 20X7   6,900
Discount unwound (6,900 8%)   552
7,452
(ii)  If the government licence did not require an environmental clean up, Promoil would have no legal
obligation. It would then be necessary to determine whether or not Promoil had a constructive
obligation. This would apply if on past performance it had established a practice of carrying out an
environmental clean up where required, which would give rise to the expectation that it would do so
in this case. If a constructive obligation existed, the accounting would be as per the above.
If no obligation were established, there would be no liability. No provision would be made for the
clean-up. The platform would be capitalised at $30m and depreciated over ten years. There would be
no finance costs.
46 Borough
Text references. Chapters 8, 13.
Top tips. Six marks are available for part (a), so a proper answer to this part of the question is required, not just a
couple of sentences. (b)(ii) looks more complex than it is, looking at the entity and consolidated financial
statements will help you sort it out.
Easy marks. Part (a) was easy and (b)(i) was straightforward, although you may have wondered about the variable
amount.
Examiner’s comments. Most candidates had learned the definitions from IAS 37 but had more trouble explaining
the consistency aspects. Part (b) tested application to environmental costs and a contingent liability. Many
candidates did not know how to deal with the variable element of the environmental costs and few were able to deal
with the loan guarantee or determine in which financial statements it should be disclosed.
Marking scheme
Marks
(a) Definition of provisions
2
Definition of contingent liabilities  2
How IAS 37 improves comparability   2
6
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168  Answers
Marks
(b) (i)  Constructive obligation  1
Explanation of treatment  1
Non-current asset and amortisation  1½
Environmental provision and unwinding of discount  1½
(ii)  Entity financial statements – contingent liability  1
No obligation for secured $15m  1
Consolidated statements – $25m liability  1  If not going concern – current liability in entity statements  1
9
Total   15
(a)  A provision is a liability of uncertain timing or amount. A provision should be recognised when an entity has
a present obligation, it is probable that it will resultin an outflow of economic benefits and a reliable
estimate can be made of the amount.
A contingent liability is a possible obligation relying on the occurrence or non-occurrence of a future event
which the entity cannot control, or an obligation regarding which the outflow of economic resources is not
probable or cannot be reliably estimated.
IAS 37 was introduced to regulate the use of provisions. A provision cannot be made unless it satisfies the
criteria above. This prevents companies from making excessive provisions in profitable years and the writing
these amounts back to boost profits in less profitable years. Companies cannot make provisions for
expected future losses or for restructuring to which they are not irrevocably committed. This makes financial
statements more transparent and improves consistency from year to year and between entities.
IAS 37 also requires companies to provide for a liability if it meets the criteria. For instance, deferred
environmental obligations must be provided for in full at the outset rather than being accrued for over the
period of the obligation.
(b) (i)  Borough has a constructive obligation to deal with these environmental costs, so a provision must be set up.
The fixed cost of making good the damage must be added to the cost of the licence and set up as a
provision. The provision will be increased each year according to the number of barrels extracted.
At 30 September 20X1 the statement of financial position will show:
$’000  Non-current assets
Intangible asset – extraction licence ((50m + 20m) × 9 / 10)  63,000
Non-current liabilities
Environmental provision (20m + (150m × 0.02)) × 1.08  24,840
(ii) Legally, Borough and Hamlet are separate companies and in its individual financial statements Borough will
simply show its investment in Hamlet as an asset. The guarantee of $10m will be disclosed as a contingent
liability. Borough will not need to reflect the $15m which is secured on Hamlet’s property. If at some point it
is decided that Hamlet is not a going concern, then Borough’s loan guarantee will need to be provided for.
In its group financial statements Borough will consolidate the whole of the $25m loan.
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Answers  169
47 Shawler  27 mins
Text references Chapters 4 and 13
Top tips The issues here are the complex asset, the government grant and the environmental provision and it is
important not to get them mixed up. Read the question carefully and make a note of the dates.
Easy marks Part (a) was very straightforward, up to six marks for very simple calculations. Parts (b) and (c) were
a bit more challenging, but you should have been able to make enough points for half marks.
Marking scheme
Marks
(a) (i)  Furnace  1
  Government grant (½ for split)  1
Environmental provision  1
3
(ii) Depreciation  1
  Government grant (credit)  1
Finance costs  1
3
(b)  Not an obligating event as legislation not yet in force  1
 Need not provide for filters even when it is in force  1
 May need separate provision for a fine  1
 Cannot reduce the environmental provision  1
4
(c) No provision required  1
 Treat as complex asset  1
Depreciation calculation  3
5
Total    15
(a)  (i)  STATEMENT OF FINANCIAL POSITION EXTRACTS 30 SEPTEMBER 20X4
Carrying amount
$
Non-current assets
Furnace: main body (48,000 × 7 / 8)    42,000
liner (6,000 – 2,000)    4,000
Non-current liabilities
Government grant (8,400 – 1,200)    7,200
Environmental provision (18,000 × 1.08)    19,440
Current liabilities
Government grant    1,200
(ii)  STATEMENT OF PROFIT OR LOSS EXTRACTS
$  $
Income: government grant    1,200
Depreciation: furnace/ main body  6,000
furnace/ liner   2,000
(8,000)
Unwinding of discount on provision (19,440 – 18,000)   (1,440)
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(b)  No provisionshould be made for the filters at this point in time because the legislation does not come into
force for two years. When Shawler fits the anti-pollution filters, they should be capitalised and depreciated
over their useful life. At that point the existing environmental provision should be reviewed, but not before.
It may be expected that a provision will be required in two years’ time to cover the fitting of the filters.
However IAS 37 states that where an entity needs to carryout expenditure in order to operate in a particular
way in the future, that expenditure could be avoided by changing its method of operation, so no provision
is recognised. In the case of Shawler, it could be said that it could find some other way of reducing its
pollution. If the legislation comes into force without Shawler having fitted the filters, it may recognise a
provision for any fines payable.
(c)  No obligation exists to replace the engine and so it is wrong to create a provision for its replacement.
Shawler may decide to trade in the earthmover rather than replace the engine. Also, the $2.4m depreciation
charge includes an element in respect of the engine, so to make a provision as well is double-counting.
Instead IAS 16 states that the earth-mover should be treated as an asset with two separate components (the
engine and the rest) with different useful lives. The engine (cost $7.5m) will be depreciated on a machine
hours basis over 5,000 hours, while the rest of the machine (cost $16.5m) will be depreciated over ten
years.
Cost   Depreciation charge
$'000
Engine   7,500
Depreciated on a machine hour basis over 5,000 hours. The charge is $1,500 per
Hour.
The rest   16,500
Depreciated on a straight line basis over its ten year useful life. The charge is
$1,650,000 per annum.
Total   24,000
When the engine is replaced the cost and accumulated depreciation on the existing engine will be retired and
the cost of the new engine will be capitalised and depreciated over its working life.
48 Multiple choice answers – financial instruments
1  B  Intangible assets. These do not give rise to a present right to receive cash or other financial assets.
The other options are financial instruments.
2 B $’000
 Interest years 1–3 (30m × 8% × (0.91 +
0.83 + 0.75)  5,976
 Repayment year 3 (30m × 0.75)  22,500
Debt component  28,476
Equity option (β) 1,524
30,000
3 A $’000
 $12,500 × 1,296 / 1,200  13,500
Carrying amount  (12,500)
Gain  1,000
4 D $’000
 Proceeds (20m – 0.5m)  19,500
Interest 10% 1,950
 Interest paid (20m × 5%)  (1,000)
 Balance 30 March 20X1  20,450
Interest 10% 2,045
Interest paid (1,000)
21,495
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49 Bertrand
Text reference. Chapter 14
Top tips. This was a quite easy question on convertible loan notes – easy if you had revised this and knew what to
do with them. Remember that the interest charge must use the effective interest rate, not the nominal rate.
Easy marks. Even if you got mixed up with the calculations, you should have been able to do part (a), which was
worth half the marks.
Examiner’s comments. Some candidates were able to explain how the convertible loan should be treated in part (a)
but were then unable to apply it in practice in part (b). Candidates who had studied this topic were able to score full
marks, those who had not scored very few.
Marking scheme
Marks
(a)  (i)  1 mark per valid point  2
(ii)  1 mark per valid point  3
(b) Finance cost
2
Value of equity option  1
Value of debt at 30 September 20X1
2
(c) Comment on advice  2
Financial statement extracts  3
Total   15
(a)  (i)  The convertible loan notes carry a lower rate of interest because holders are considered to have
foregone 3% interest in order to have the conversion option. Without the conversion option, Bertrand
would have to offer 8% in order to attract investors.
(ii)  The directors’ proposed treatment will classifyan amount that should be shown as a non-current
liability as equity, which will make the financial statements misleading. A finance cost of 5% on the
whole amount is not correct and will understatethe cost of the loan to the company.
(b)    $’000
STATEMENT OF PROFIT OR LOSS
Finance costs (9,190 (W) × 8%)  735
STATEMENT OF FINANCIAL POSITION
Equity
Equity option (W)  810
Non-current liabilities
8% convertible loan notes (W)  425
Working
$’000
Interest payable ($10m 5% 2.58*)  1,290
Capital repayable ($10m 0.79)    7,900
Debt element  9,190
Equity element   810
10,000
*(0.93 + 0.86 + 0.79)
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The debt element of $9,190,000 will appear under non-current liabilities, the equity element should appear
under equity.
At 30 September 20X1 the following entries will be made:
Dr  Cr
$’000 $’000  Profit or loss  735
Loan notes   735
Being finance charge (9,190 8%)
Loan notes  500
Cash    500
Being interest paid (10,000 5%)
So the balance on the loan notes at 30 September 20X1 will be (9,190 + 735 – 500) = $9,425,000.
(c) IAS 32 Financial instruments: presentation requires the issuer of a hybrid or compound instrument of this
nature – containing elements that are characteristic of both debt and equity – to separate out the
components of the instrument and classify them separately. Fab Factors are thus wrong in their advice that
such instruments should be recorded and shown as debt.
The proceeds of issue should be split between the amounts attributable to the conversion rights, which are
classed as equity, and the remainder which must be classed as a liability. Although there are several
methods that might be used, the question only gives sufficient information to allow the amounts of debt
liability to be calculated, leaving the equity element as the residual.
Year   Cash flows   Factor at 10%  Present value
$'000
$'000
1 Interest ($15m 7%)   1,050   0.91   955.5
2   1,050   0.83   871.5
3   1,050   0.75   787.5
4   1,050   0.68   714.0
5 Interest + capital   16,050   0.62   9,951.0
Total debt component   13,279.5
Proceeds of issue   15,000.0
Equity component (residual)   1,720.5
STATEMENTOF PROFIT OR LOSS (EXTRACTS)
$'000
Interest paid ((7% $15m) + 278 (W1))   1,328
Working
((10% $13.2795m) – $1.05m) (rounded)   278
STATEMENT OF FINANCIAL POSITION (EXTRACTS)
$'000
Non-current liabilities
7% convertible loan notes (13,279.5 + 278)   13,557.5
Equity
Option to convert to equity    1,720.5
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50 Multiple choice answers – revenue
1 A  $  Costs incurred to date  740,000
Recognised profits (W)  231,000
Progress billings  (700,000)
Due from customers  271,000
Working
Total contract revenue  2,800,000
Costs to date
(740,000)
Costs to complete  (1,400,000)
Total expected profit  660,000
Profit to date (660,000 × 35%)  231,000
2  C  The grant can be treated as deferred income or deducted from the carrying amount of the asset. It
cannot be credited directly to profit or loss.
3 A $’000
Contract price  50,000
Costs to date
(12,000)
Specialist plant
(8,000)
Costs to complete  (10,000)
 Total profit on contract  20,000
Profit to date = $20m × 22 / 50 = $8,800,000
4 A $
Costs incurred to date  48,000
Recognised profits (W)  10,800
Progress billings  (50,400)
 Due from customers  8,400
Working
 Total contract revenue  120,000
 Costs to date
(48,000)
 Costs to complete  (48,000)
 Total expected profit  24,000
 Profit to date (24,000 × 45%)  10,800
5  B  This feature suggests that the transaction is a genuine sale.
If the seller retains the right to use the asset or it remains on his premises, then the risks and
rewards have not been transferred. If the sale price does not equal market value, then the transaction
is likely to be a secured loan.
6  C  This is in substance a secured loan, so the asset will be recognised at its new carrying amount of
$50m  and a lease liability will be set up for the same amount.
The $10m increase in carrying amount will be treated as other income deferred over the life of the
asset. The amount which can be recognised for the year to 30 September 20X4 is:
($10m / 5) × 6/12 = $1m
7  C  $2.6m × 30 / 130
8  B  These both indicate that the manufacturer retains ownership of the inventory. (i) and (iii) would
indicate that the risks and rewards have been transferred to the dealer.
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9 C $
 Grant received 1.4.X7  500,000
 Recognised year to 31.3.X8 (500,000 × 30%)  (150,000)
Balance 31.3.X8  350,000
 Recognised year to 31.3.X9 (350,000 × 30%)  105,000
10 D $’000
 Revenue per draft profit or loss  27,000
 Servicing costs (800 × 2 × 130%)
(2,080)
Agency collections
(4,000)
 Agency commission (4,000 × 10%)  400
21,320
51 Preparation question: Derringdo
(a)Liability
There are two issues here:
(i)  Should a capital grant be treated as deferred income in the financial statements?
(ii)  Should a liability be recognised for the potential repayment of the grant?
Derringdo has credited the $240,000 grant to a deferred income account which is shown as a liability in the
statement of financial position. It is then released to profit or loss over the ten year life of the related asset.
However, the Conceptual Frameworkstates that a liability should only be recognised if there is a probable
outflow of economic benefits. This is not true for a grant; under normal circumstances the grant will not
have to be repaid and so a liability does not exist.
This example is complicated by the possibility of having to repay the grant ifthe asset is sold. At the end of the
reporting period the asset has not beensold, and so there is no past event to give rise to a liability. Derringdo
intends to keep the asset for its ten year useful life. Nor can it be classified as a contingent liability. Under IAS
37 the 'uncertain future event' that creates a contingent liability must be 'not wholly within the control of the
entity'. In this case Derringdo will make the decision to keep or sell the asset.
Following on from the above, the Conceptual Frameworkwould not permit the grant to be shown as a
liability. Instead the grant would be claimed as income in the year that it was received (provided that there
was no intention to sell the asset within the four year claw-back period). However, the treatment of the grant
as deferred income is in accordance with IAS 20 Accounting for government grants.
(b)  Extracts (Company policy complies with one of the two alternatives in IAS 20)
STATEMENT OF PROFIT OR LOSS
$
Operating expenses
Depreciation charge (W1)     34,000
Release of grant (W2)     (12,000)
22,000
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STATEMENT OF FINANCIAL POSITION
$
Non-current assets    Property, plant and equipment (W1)   766,000
Non-current liabilities    Deferred income (W2)  204,000
Current liabilities    Deferred income (W2)  24,000
228,000
Workings
1 Property, plant, equipment
$
Cost (gross, excluding grant)
800,000
Depreciation (10 years straight line, 15% residual value for 6 months
800,000 85% 10% 
6
/
12
) (34,000)
Carrying value   766,000
2 Deferred income     $
Grant received ($800,000 30%)
240,000
 Release for this year ($240,000 10% 
6
/
12
) (12,000)
 Total balance at year-end   228,000
Presentation
Current liability ($240,000 10%)   24,000
 Non-current liability (balance)   204,000
228,000
Theoretical approach under the Conceptual Framework
Because the 'deferred' element of the grant cannot be recognised as a liability, the grant will be claimed in
full in the year that it is received. The repayment clause will not affect this policy because, at the end of the
reporting period, Derringdo has not soldthe asset and so no liability exists.
STATEMENT OF PROFIT OR LOSS
$
Operating expenses
Depreciation charge (as before)   34,000
Grant received and claimed   (240,000)
(206,000)
STATEMENT OF FINANCIAL POSITION
$
Non-current assets
Property, plant and equipment     766,000
52 Preparation question: Contract
Contract 1   Contract 2   Contract 3   Contract 4
$   $   $   $
STATEMENT OF PROFIT OR LOSS  
(W1) (W2) (W3) (W4)
Revenue   54,000   8,000   84,000   125,000
Expenses
(43,200) (8,000) (92,400) (105,000)
Expected loss
–
–    (15,600)  –
Recognised profit/(loss)   10,800
–    (24,000)  20,000
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176  Answers
Contract 1   Contract 2   Contract 3   Contract 4
$   $   $   $
Gross amounts due from/to customers
Contract costs incurred   48,000   8,000   103,200   299,600
Recognised profits less recognised losses  10,800
–    (24,000)  56,000
58,800   8,000   79,200   355,600
Less progress billings to date  (50,400)  –     (76,800)  (345,200)
8,400  8,000  2,400
10,400
Trade receivables     Progress billings to date   50,400
–    76,800   345,200
Less cash received  (40,000)  –    (60,000)  (320,000)
10,400  –
16,800   25,200
Workings
1  Contract 1   $
Revenue 45% 120,000 =  54,000
Expenses 45% (48,000 + 48,000) =  43,200
2  Contract 2
Expenses  All costs to date charged as expense .
.
. 8,000
Revenue Probable that all costs incurred will be recovered .
.
. 8,000
3 Contract 3   $
Revenue  35% 240,000 =  84,000
Expenses 35% (103,200 + 160,800) =  (92,400)
Loss  (8,400)
.
.
. Expected loss   (15,600)
Total loss 240,000 – (103,200 + 160,800) =   (24,000)
4Contract 4  $
Revenue  (70% 500,000) – 225,000 =  125,000
Expenses (70% 420,000) – 189,000 =  105,000
53 Preparation question: Beetie
Text references. Chapters 12 and 15.
Top tips. Construction contracts feature regularly in F7. Make sure you know how to calculate the amounts for the
statement of financial position. Note that one contract is loss-making.
Marking scheme
Marks
 Revenue ( ½ mark for each contract)    1
 Profit/loss ( ½ mark for each contract)    1
 Amounts due from customers (contract 1)    2
 Amounts due to customers (contract 2)     2
Maximum 6
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STATEMENT OF PROFIT OR LOSS
Contract 1   Contract 2
Total
$'000   $'000   $'000
Contract revenue   3,300   840   4,140
Contract expenses: (Contract 1: 4,000 60%)
(2,400) (720) (3,120)
Expected loss recognised (Contract 2)   –   (170) (170)
Attributable profit/(loss)   900   (50) 850
STATEMENT OF FINANCIAL POSITION
$'000
Current assets
Gross amount due from customers  1,800  Current liabilities
Gross amounts due to customers  210
Workings
Contract 1
$'000
Contract price   5,500
Costs to date
(3,900)
Costs to complete (4,000 – 3,900)   (100)
Estimated total profit   1,500
Profit to date: 1,500 3,300 / 5,500 =   900
Gross amount due from customers
Costs to date   3,900
Profit to date   900
Less progress billings   (3,000)
1,800
Contract 2
$'000
Revenue to date (1,200 × 70%)  840
Costs to date (1,250 × 70%)  (875)
Loss to date
(35)
Expected loss  (15)
Recognised loss
(50)
Gross amount due to customers
Costs to date  720
Recognised loss
(50)
Less progress billings  (880)
(210)
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54 Mocca
Text reference.Chapter 12
Top tips.Start by working out the total profit on the contract and you can then deduct the amounts that were
accounted for in the previous year. Note that the contract should only be charged with half of the useful life of the
plant as it will be kept in use after the contract.
Easy marks.This is quite an easy question and should have been no problem for those who had revised IAS 11.
Part (a) is straightforward and a careful reading of the question and the application of general accounting principles
would have secured some marks on the profit or loss extracts.
Examiner’s comments.Candidates that gave this question serious attention scored quite well. Most calculated the
profit and percentage of completion correctly but failed to deduct the results of the previous year. In amounts due
from customers candidates often deducted progress payments received rather progress billings.
Marking scheme
Marks
(a)  1 mark per valid point  5
(b)Revenue  3
Profit  1½
 Plant in statement of financial position  1½
 Amounts due from customers  1
Trade receivables  1
Disclosure note  2
15
(a)  Revenue recognition is an important issue in financial reporting and it is generally accepted that revenue is
earned when goods have been accepted by the customer or services have been delivered. At that stage
revenue is said to have been realised. However, if thiswere applied to construction contracts, the effect
would not necessarily be to give a faithful representation.
As a construction contract can span several accounting periods, if no revenue were recognised until the end
of the contract, this would certainly be prudent but would not be in accordance with the accruals concept.
The financial statements would show all of the profit in the final period, when in fact some of it had been
earned in prior periods. This is remedied by recognising attributable profit as the contract progresses, as
long as ultimate profitability is expected. Any foreseeable loss is recognised immediately.
(b)  Profit or loss amounts
$’000
Revenue (8,125 – 3,500)
4,625
Cost of sales ((9,500 (W1) × 65%) – 2,660)   (3,515)
Profit (1,950 (W2) – 840)   1,110
Statement of financial position amounts
$’000
Non-current assets
Plant (8,000 – 2,500 (W1))
5,500
Current assets
Trade receivables (8,125 – 7,725)
400
Amounts due from customers (Note)
1,125
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Answers  179
Note
Costs to date (4,800 + 2,500)   7,300
Profit to date (W2)  1,950
Less progress billings  (8,125)
Amounts due from customers  1,125
Workings
1 Total contract profit
$’000  $’000
Contract price   12,500  Costs to date  4,800
Further costs to complete (5,500 – 4,800)  700
Plant depreciation to date (8,000 × 15/48)  2,500
Remaining depreciation (8,000 × 9/48)   1,500
Total expected costs  (9,500)
Total expected profit on contract  3,000
2  Profit to date
% work completed = 8,125 / 12,500 = 65%
Profit to date = 3,000 × 65% = 1,950
55 Wardle
Text references. Chapters 15 and 16.
Top tips. Part (a) was straightforward as long as you remembered to answer the question. It asked for why the
principle of substance over form is important and for features that indicate that substance is different from legal
form. If you stick to those two issues you are far more likely to get the marks than if you just put down everything
you know and hope there’s something relevant in there. Part (b) required an understanding of what a sale and
repurchase transaction is. It’s important to remember that all the information you are give has a purpose. In this
case, the interest information told you that the substance of the transaction was a secured loan. Setting out a
sensible format for the statement of profit or loss extract was vital for this part, and it gave you the information you
needed to answer part (c).
Easy marks. It was not hard to pick up at least a few marks in part (a). Part (b) was easy once you knew what you
were doing and part (c) was simple if you had managed to deal with part (b).
Examiner’s comments. Most answers to part (a) started well referring to matters such as relevance, reliability and
faithful representation. However the discussion of finance leases dominated many answers (to the exclusion of
other issues) and few attempted to describe the features that indicate that substance may differ from form. It was
clear that very few understood the issues in part (b), which was a sale and repurchase of maturing inventory. Many
candidates got confused between the substance of the transaction and its legal form and many showed statement
of financial position extracts when only profit or loss extracts were required. Those who got the numbers correct in
part (b) tended to do well in part (c).
Marking scheme
Marks
(a)  1 mark per valid point   5
(b)  (i) and (ii) 1 mark per reported profit figure   5
(c)  1 mark per valid point   5
15
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180  Answers
(a)  It is important that financial statements should reflect the economic substance of a transaction, where this
differs from legal form, because this provides users with a ‘faithful representation’ of the transaction.
For instance, if an asset held under a finance lease were treated according to its legal form it would not
appear under non-current assets and the related lease liability would not be shown. This would make the
entity’s gearing look lower than it actually was and probably inflate its ROCE. This treatment is not allowed
under IFRS.
Sale and leaseback or sale and repurchase arrangements can be used to disguise the substance of loan
transactions by taking them ‘off balance sheet’. In this case the legal position is that the asset has been sold,
but the substance of the transaction is that the seller still retains the benefits of ownership.
Features which suggest that the substance of a transaction may differ from its legal form are:
 The seller of an asset retains the ability to use the asset
 The seller remains exposed to the risks of ownership eg maintenance
 An asset which has been sold is one that can reasonably only be used by the seller
 A ‘sold’ asset remains on the sellers premises
 An asset has been transferred at a price substantially above or below its fair value
 An asset has been ‘sold’ under terms which make it very unlikely that it will not be repurchased
 A number of linked transactions have taken place
All of these features suggest that ‘control’ has been separated from legal ownership and that the substance
of the transaction may not have been correctly represented.
(b) (i)  Legal form  31 March: 20X1  20X2  20X3
Total
$’000
$’000
$’000
$’000
Revenue   6,000
–
10,000
16,000
  Cost of sales
(5,000)  –  (7,986) (12,986)
Gross profit
1,000   –
2,014
3,014
Finance costs  –  – –  –
Net profit  1,000  –  2,014  3,014
(ii)  Substance 31 March: 20X1  20X2  20X3
Total
$’000
$’000
$’000
$’000
Revenue   –  –  10,000  10,000
  Cost of sales  –  –  (5,000) (5,000)
Gross profit   –  –  5,000  5,000
Finance costs  (600) (660) (726) (1,986)
Net profit  (600) (660) 4,274  3,014
(c)  While net profit at the end of the three-year period is the same under both treatments, we can see that under
the legal form revenue is much greater, because of the assumption that Wardle has ‘sold’ the asset twice.
This leads to profit being split between two of the three years rather than shown wholly in year 3, so there is
some ‘smoothing’ effect. Reporting under the legal form of the transaction removes the finance cost, which
will have a favourable effect on interest cover, and will also have removed the loan from the statement of
financial position, thus making gearing appear lower. Similarly, under the legal form, the asset will not
appear in the statement of financial position, which will make ROCE appear higher than it would otherwise
have been.
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56 Multiple choice answers – leasing
1 A $,000
PVMLPs
3,300
Payment   (700)
2,600
Interest 6%  156
Balance 31.12.X6
2,756
Payment   (700)
2,056
Interest 6%  123
Balance 31.12.X7   2,179    Current
700
Non-current   1,479
2,179
2  A  This would suggest that the lease is an operating lease. The other options all point to a finance
lease.
3 A $’000
PVMLPs  15,600
Interest 8%  1,248
Payment  (6,000)
Balance 31.3.X8  10,848
Interest 8%  868
Payment  (6,000)
Balance 31.3.X9  5,716
  Current liability = 10,848 – 5,716 = 5,132
4 B $
Cash price  360,000
Deposit  (120,000)
240,000
Interest 12% 28,800
Payment  (100,000)
Balance 3.12.X6  168,800
 Interest to 31.12.X7 12%  20,256
5  D  An asset acquired under a finance lease should be capitalised at the lower of fair value and the
present value of minimum lease payments. These amounts will often be the same.
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57 Preparation question: Branch
STATEMENT OF PROFIT OR LOSS (EXTRACT)
$
Depreciation (W1)  5,000
Finance costs (W2)  2,074
STATEMENT OF FINANCIAL POSITION (EXTRACT)  $
Non-current assets
Property, plant and equipment
Assets held under finance leases (20,000 – (20,000 / 4))  15,000
Non-current liabilities
Finance lease liabilities (W2)  14,786
Current liabilities
Finance lease liabilities (W2) (16,924 – 14,786)  2,138
Workings
1Depreciation
20, 000
4
= $5,000 pa
2 Finance leases liabilities
$
Year ended 31 December 20X1
1.1.X1 Liability b/d  20,000
1.1.X1 Deposit   (1,150)
18,850
1.1.X1 – 31.12.X1  Interest at 11%  2,074
31.12.X1 Instalment   (4,000)
31.12.X1 Liability c/d  16,924
Year ended 31 December 20X2
1.1.X2 – 31.12.X2  Interest at 11%  1,862
31.12.X2 Instalment   (4,000)
31.12.X2 Liability c/d   14,786
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58 Fino
Text references:Chapter 16.
Top tips:Only five marks were available for calculations here. Intelligent comment on faithful representation and its
application to leasing would have earned the greater part of the marks.
Examiner's comments. Answers to this question were very mixed. Weaker answers did not pinpoint the importance
of the commercial substance of transactions in part (a) or identify effect on ROCE in part (b). In the last part some
candidates failed to treat the payments under the finance lease as being in advance and so based the finance costs
on $350,000 rather than $250,000.
Marking scheme
Marks
(a) 1 mark per valid point to  5
(b) (i) 1 mark per valid point to
 (ii)(1) Operating lease – Charge to profit or loss
– Prepayment
 (2) Finance lease – Depreciation and finance costs
Asset, current and non-current liability
4
1
1
1
3
15
(a)  The concept of faithful representation requires that the financial statements give a true picture of the nature
and effect of financial transactions. If users can be confident that this is the case, then the financial
statements can be relied upon.
This means that assets and liabilities as shown in the statement of financial position exist, are assets or
liabilities of the entity and are shown at the correct amount, in accordance with the stated accounting
policies of the entity. For instance, it may seem that a property shown at original cost when its market value
is twice that amount is not faithfully represented, but ifthe disclosed accounting policy of the entity is not to
revalue its properties, users will know what they are looking at and can adjust accordingly.
The most obvious examples of lack of faithful representation involve off-balance-sheet finance transactions,
such as sale and leaseback, where secured loans are disguised as the sale of assets. This keeps borrowing
out of the statement of financial position and avoids any consequent impact on gearing. The accounting
scandals of the past decade revealed numerous off-balance-sheet schemes and underlined the importance of
faithful representation.
(b)  (i)  The finance director is correct in that, if the plant is regarded as being held under an operating lease,
it will not be capitalised. In this case the cost of the plant will not be included in capital employed and
so will not have an adverse effect on ROCE.
However, the finance director's comments betray an ignorance of IAS 17. Under IAS 17 leases are
classified according to the substanceof the transaction, on the basis of whether or not the risks and
rewards of ownership have been transferred. The standard gives examples of situations where a lease
would normally be classified as a finance lease, including:
 Where the lease transfers ownership to the lessee at the end of the lease term
 Where an option to purchase exists on terms which make it reasonably certain that the option
will be exercised
 Where the lease term is for the major part of the asset's economic life
 Where the present value of the minimum lease payments amounts to at least substantially all
of the fair value of the asset
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184  Answers
In this case the lease term is for the whole of the asset's economic life and the present value of the
minimum lease payments (four payments of $100,000 over three years) amounts to substantially all
of the fair value of the plant. This must therefore be regarded as a finance lease and consequently will
impact the ROCE.
(ii) 1  Operating lease
$
Statement of profit or loss
Payment under operating lease (100,000 6/12)   50,000
Statement of financial position
Current assets
Prepayment (100,000 6/12)   50,000
2  Finance lease
Statement of profit or loss
Depreciation (350,000/4 6/12)   43,750
Finance costs (W)   12,500
Non-current assets
Leased plant (350,000 – 43,750)  306,250
Non-current liabilities
Amount due under finance lease (W)  175,000
Current liabilities
Amount due under finance lease
(262,500 – 175,000) 87,500
Working
$
Cost 1.4.X7   350,000
1.4.X7 deposit   (100,000)
Balance 1.4.X7   250,000
Interest to 30.9.X7 (250,000 10% 6/12)   12,500
Balance 30.9.X7   262,500
Interest to 1.4.X8 (250,000 10% 6/12)   12,500
1.4.X8 payment   (100,000)
Capital balance due 30.9.X8   175,000
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59 Multiple choice answers – accounting for taxation
1 C $’000
 Charge for year
16,200
Underprovision
2,100
 Adjust deferred tax (W)   (1,500)
 Profit or loss charge   16,800
Working
Provision needed (13m × 30%)
3,900
Provision b/f   (5,400)
Reduce provision   (1,500)
2 D $m
 B/f (140 + 160)  300
 Charge for year  270
 C/f (310 + 130)  (440)
Tax paid  130
3 C $’000
Prior year underprovision  700
Current provision  4,500
 Movement of deferred tax (8.4 – 5.6)
(2,800)
 Deferred tax on revaluation surplus  (1,200)
 Tax charge for the year  1,200
4 A $’000
Current charge  19,400
Overprovision
(800)
Deferred tax (W)  400
19,000
Working
Required provision  6,750
Less revaluation  (3,750)
3,000
Balance b/f  (2,600)
 Charge to income tax  400
5 C $’000
 B/f current tax
(50)
 B/f deferred tax  30
 Charge for year  160
140
 C/f current tax
(150)
 C/f deferred tax  (50)
Tax received  (60)
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186  Answers
60 Preparation question: Julian
(a)  Carrying  Tax  Temporary
amount  base  difference
$'000   $'000   $'000
 Property, plant and equipment   460   270   190
Development expenditure   60  –   60
 Interest receivable (55 – 45)   10  –   10
Provision
(40) –   (40)    220
(b) Notes to the statement of financial position
Deferred tax liability
$'000
At 1 January 20X4 [(310 – 230) 30%]   24
Amount charged to profit or loss (balancing figure)   15
Amount charged to equity (90 30%)   27
At 31 December 20X4 (220 30%)   66
Note to the statement of profit or loss
Income tax expense
$'000
Current tax   45
Deferred tax   15
60
61 Preparation question: Bowtock
(a)  Principles of deferred tax
In many countries different rules are used for calculating accounting profit (as used by investors) and
taxable profit. This can give rise to temporary differences.
Temporary differences arise when income or expenditure is recognised in the financial statements in one
year, but is charged or allowed for tax in another. Deferred tax needs to be provided for on these items.
The most important temporary difference is that between depreciation charged in the financial statements
and capital allowances in the tax computation. In practice capital allowances tend to be higher than
depreciation charges, resulting in accounting profits being higher than taxable profits. This means that the
actual tax charge (known as current tax) is too low in comparison with accounting profits. However, these
differences even out over the life of an asset, and so at some point in the future the accounting profits will be
lower than the taxable profits, resulting in a relatively high current tax charge.
These differences are misleading for investors who value companies on the basis of their post tax profits (by
using EPS for example). Deferred tax adjusts the reported tax expense for these differences. As a result the
reported tax expense (the current tax for the period plus the deferred tax) will be comparable to the reported
profits, and in the statement of financial position a provision is built up for the expected increase in the tax
charge in the future.
There are many ways that deferred tax could be calculated. IAS 12 states that the liability methodshould be
used. This provides for the tax on the difference between the carrying value of an asset (or liability) and its
tax base. The tax base is the value given to an asset (or liability) for tax purposes. The deferred tax charge
(or credit) in profit or loss is the increase (or decrease) in the provision reported in the statement of financial
position.
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(b)  Bowtock
The provision for deferred tax in Bowtock's statement of financial position at 30 September 20X3 will be the
potential tax on the difference between the accounting carrying value of $1,400,000 and the tax base of
$768,000. The difference is $632,000 and the tax on the difference is $158,000.
The charge (or credit) for deferred tax in profit or loss is the increase (or decrease) in the provision during
the year. The closing provision of $158,000 is less than the opening provision of $160,000, so there is a
credit for $2,000 in respect of this year.
Movement in the provision for deferred tax for the year-ending 30 September 20X3
$
Opening provision   160,000
Credit released to profit or loss   (2,000)
Closing provision   158,000
Workings
Accounting   Tax base   Difference   Tax @ 25%
Carrying value
Y/E 09/X1
$
$
$
$
Purchase   2,000,000   2,000,000   –   –
Depreciation   W1  (200,000) W2   (800,000)
Balance   1,800,000   1,200,000   600,000   150,000
Y/E 09/X2
Depreciation  (200,000) W3   (240,000)
Balance   1,600,000   960,000   640,000   160,000
Y/E 09/X3
Depreciation  (200,000) W4   (192,000)
Balance   1,400,000   768,000   632,000   158,000
(W1)  $2,000,000 cost – $400,000 residual value over eight years
(W2) $2,000,000 40%
(W3) $1,200,000 20%
(W3) $960,000 20%
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188  Answers
62 Multiple choice answers – earnings per share
1 A Earnings on dilution:  $’000
 Basic  1,850   Add back interest (2,000 × 6% × 70%)   84    1,934
Shares on dilution:  ‘000
Existing    10,000
Conversion (2m × 4/5)  1,600    11,600
  Basic EPS = 1,850 / 10,000 = 18.5c
Diluted EPS = 1,934 / 11,600 = 16.7c
2 A TERP  5 × 1.8 =  9.0
1 × 1.5 =    1.5
10.5 / 6 =  $1.75
Shares:
‘000
5,000 × 5/12 × 1.8 / 1.75  2,143
6,000 × 7/12   3,500
5,643
EPS = 7,600 / 5,643 = $1.35
3 D  Shares
  ‘000   B/f (7,500 / 0.5)  15,000   Full market price issue (4,000 × 9/12)  3,000   Bonus issue (18,000 / 3)   6,000    24,000
EPS = 12 / 24 = 50c
4 D Shares    ‘000   B/f  4,000   Bonus issue   1,000
5,000
  EPS = 3.6 / 5 = 72c
  EPS 20X7 = 70c × 4,000 / 5,000 = 56c
5 B
Share capital  Share premium
$’000  $’000
Balance 30 September X2 (250m shares)  50,000  15,000
Rights issue:
Share capital (50m × 20c)
(10,000)
Share premium (50m × 22c)  –  (11,000)
 Balance 30 September X1 (200m shares)  40,000  4,000
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63 Preparation question: Fenton
(a)  Date   Narrative   Shares   Time   Bonus
fraction
Weighted
average
1.1.X1   b/d   5,000,000   
1
/
12   
2.00
/
1.95
11
/
10   470,085
31.1.X1   Rights issue   + 1,250,000      6,250,000   
5
/
12   
11
/
10   2,864,583
30.6.X1   FMP   + 125,000      6,375,000   
5
/
12   
11
/
10   2,921,875
30.11.X1   Bonus issue   + 637,500      7,012,500   
1
/
12     584,375        6,840,918
TERP   4 @ 2   =   8.00
1@ 1.75   =   1.75
5   9.75
1.95
EPS for y/e 31.12.X1 =
6,840,918
$2,900,000
= 42.4c
Restated EPS for y/e 31.12.X0 = 46.4c 
2.00
1.95

10
/
11
= 41.1c
(b)Sinbad
Basic EPS =
10,000,000
$644,000
= 6.44
Earnings
Profit for the year   644,000
Interest saving (1,200,000 @ 5% 70%)  42,000
686,000
Number of shares
Basic   10,000,000
On conversion  4,800,000
14,800,000
Diluted EPS =  4.64c
14,800,000
$686,000

(c)  Talbot
Basic EPS =
5,000,000
540,000
= 10.8c
Diluted EPS:
Consideration on exercise
400,000 $1.10 = $440,000
 Shares acquired at FV
  $440,000/$1.60 = 275,000
shares issued for no consideration
  (400,000 – 275,000) = 125,000
EPS =
125,000 5,000,000
540,000

= 10.5c
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190  Answers
64 Barstead
Text references. Chapter 18.
Top tips. The answer to part(a) may have seemed fairly obvious, but the question asked you to explain and allowed
four marks for it, so clearly more than three sentences were required. It was worth spending a few moments
thinking about this and writing a proper answer.
Easy marks. Part (a) was easy with a bit of thought and (b) was easy for students who had revised EPS and knew
what they were doing. Otherwise it would have been difficult to score much at all on (b) or (c).
Examiner’s comments. Part (a) seemed to baffle most candidates. Few candidates could relate the differentials to
new shares being issued. Part (b) was answered better, although some candidates thought the dilution was caused
by the rights issue rather than the convertible loan stock.
Marking scheme
Marks
(a)  1 mark per valid point     4
(b)  Basic EPS for 20X1 3
 Restated EPS for 20X0  1
 Diluted EPS for 20X1  2
6
(c) Basic EPS  1
Diluted EPS   4
5
Total    15
(a)  An increase in profit after tax of 80% will not translate into a comparable increase in EPSunless the
number of shares in issue has remained constant. The disparity between the increase in profit and the
increase in EPS shows that Barstead has obtained the resources it needed in order to generate higher profit
through share issue(s). This may have been done as part of an acquisition drive, obtaining a controlling
interest in other entities through share exchange. In this way, EPS is a more reliable indicator of
performance than pure profit because it matches any additional profit with the resources used to earn it.
Diluted EPS takes into account the existence of potential ordinary shares, arising from financial instruments
such as options, warrants and convertible debt. Diluted EPS shows what EPS would be if all of these
potential shares came into existence in the current year. In the case of Barstead, the diluted EPS has
increased by less than the basic EPS. This shows that some of the profit increase has been financed by the
issue of financial instruments carrying future entitlement to ordinary shares. These instruments will carry a
lower finance cost than non-convertible debt, which helps to boost current profits. But this means that the
finance costs saved when these instruments are converted will probably be insufficient to offset the adverse
effect of the additional shares, leading to dilution. This is an advance warning signal to investors.
(b)  Theoretical ex-rights price will be:
4 shares at $3.80 –  15.2
1 share at $2.80 –  2.8
18.0/ 5 = $3.60
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Weighted average calculation:
Date  Narrative  No. shares (m)  Time period  Bonus fraction  Weighted
average (m)
1.10.20X0  b/d  36  × 3/12  × $3.80/$3.60  9.5
1.1.20X1  Rights issue  9
45  × 9/12  33.75
43.25
Basic EPS for the year ended 30 September 20X1 is therefore:
$15m/43.25m = 34.7c
Comparative EPS = 35c × 3.6/3.8 = 33.2c
Diluted EPS:
The additional earnings will be $800,000 ($10m × 8%) less 25% tax = $600,000
The additional shares will be (10m / 100) × 25 = 2.5m
The net effect is therefore $600,000 / 2.5m = 24c. This is below basic EPS and therefore dilutive.
Earnings = $15.6m
Shares = 43.25 + 2.5 = 45.75
Diluted EPS = 34.1c
(c)  Basic EPS = $25.2m / 84m = 30c
Diluted EPS:
Shares
Earnings
m
$m
Existing   84.0   25.2
Loan stock   10.0
1.2 (W1)
Share options   4.8(W2) –
98.8   26.4
EPS = 26.4/98.8 = 26.7c
Workings
1  Loan stock
$m
 When conversion takes place there will be a saving of:
Interest (20m 8%)   1.6
 Less tax (1.6 25%)   (0.4)
1.2
2  Share options
Shares issued will be 12m @ $1.50 = $18m
At market price of $2.50 the value would be $30m.
The shortfall is $12m, which is equivalent to 4.8m shares at market price.
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192  Answers
65 Rebound
Text references. Chapters 7 and 18.
Top tips. Part (a) took a bit of thought. You just had to lookat what information in published financial statements
deals with expected future events, and IFRS 5 is an obvious example. In (b) it is important to note that the new
operation in 20X1 was acquired eight months before the year end, so its results need to be grossed up to allow for
12 months.
Easy marks. You should have been able to get some marks on (a) and (b)(i) was easy. (b)(ii) had a few issues to
deal with, like adding back the loan stock interest and deducting the notional number of fully-paid shares under the
option.
Examiner’s comments. Most candidates did not attempt part (a), but part (b)(i) was generally well answered, the
main mistake being failing to adjust the results of the new operation for 12 months. In (ii) some candidates used
projected 20X3 figures to calculate the 20X2 EPS and the treatment of the share options was not well understood.
Marking scheme
Marks
(a)  1 mark per valid point/example   6
(b)  (i)  Profit from continuing operations  1
 Profit from newly acquired operations  2
3
 (ii)  EPS for 20X1 and 20X2 at 3 marks each  6
15
(a)  Historically-prepared financial statements of limited companies are used by analysts and stockbrokers to
value the company’s shares. The valuation placed on a company’s shares is an indication of how it is
expected to perform in the future. So financial statements are relied upon for their predictive value and this
is one reason why it is so important that they faithfully represent financial information.
The difference between historical financial statements and forecasts is that historical financial statements
record financial transactions which have already taken place, so they are highly reliable. Forecasts have a
much lower degree of reliability because they are based on estimates, which are subjective.
IFRS presentation and disclosure requirements are intended to enhance the quality of information provided
to users. For instance, entities are required to present separately the results of discontinued operations and
to disclose a breakdown of these results between gains or losses on disposal or reclassification of assets
and trading results. They are also required to show separately the details of non-current assets held for sale
and to disclose details of the discontinued operation. This give important predictive information to
shareholders because they know that this operation will not be running during the next accounting period
and that the assets in question are expected to be sold within 12 months.
Another area where financial statements supply predictive information concerns provisions. A provision can
be made in the current year for an event expected to arise in a later accounting period. Details of the amount
of the provision and why it is being made have to be disclosed, users are aware of the nature and extent of
the liability. Entities also disclose contingent liabilities,so users are aware of possible future liabilities of
which either the probability or the amount is not certain.
Diluted EPS provides another piece of predictive information. Although it does not represent specific future
EPS, it does alert shareholders to the degree of dilution inherent in the entity’s financial instruments and
users will be able to see from the notes the relevant dates of exercise of options. The notes will also disclose
proposed dividends, so shareholders can see how much cash will be paid out and how much they can
expect to receive.
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(b)  (i)  Profit after tax for year to 31.3.20X3
$’000
Existing operations (2,000 1.06)  2,120
New operation (450 12/8 months 1.08)  729
2,849
(ii) Diluted EPS
Earnings  20X220X1
$’000  $’000
Continuing operations  2,450  1,750
Saving on loan stock interest, less tax ($5m 8% 70%)   280  280
2,730  2,030
Shares  20X2  20X1
‘000 ‘000
Existing ($3m 4)   12,000  12,000
Loan stock (5m 40/100)   2,000  2,000
Options ((W) 6 months)    600  –
14,600  14,000
Diluted EPS (cents)  20X2 20X1
(2,730,000 / 14,600,000) 100  18.7
(2,030,000 / 14,000,000) 100  14.5
Working
‘000
Shares issued under options  2,000
Shares fully paid (2m/2.5)  (800)
Dilutive shares  1,200
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194  Answers
66 Multiple choice answers – analysing and interpreting
financial statements
1  D  The low asset turnover suggests a capital-intensive industry. This rules out the estate agency or
architectural practice. Supermarkets can also be capital-intensive but tend to operate on low profit
margins.
2 A $’000
 Profit before interest and tax  230%
Capital employed (3,500 + 1,000)  4,500
= 5.1%
3  C  This will reduce working capital and means that it will take longer to build up working capital needed
for production. The other options will all speed up the operating cycle.
4  D  (Dividends (3.4 + 11.1) / Share price) × 100 = 14.5 / 350 × 100 = 4.1%
5  A  Net profit margin is a component of ROCE, so 16.3% / 4.19 = 3.9%
6  B  EPS = 800 / 4,000 = 20c. P/E ratio = 150 / 20 = 7.5
67 Victular
Text references. Chapters 19 and 20
Top tips. Note that only eight marks are available for calculating the ratios. If you had trouble remembering how to
calculate any of them, you could work back the ratios given for Grappa. The major part of the answer is the analysis
and it's best to organise this under headings.
Easy marks. The ratios were easy marks and so was part (c). The analysis was slightly challenging because it was
not a clear-cut picture, but you should have found enough useful points to make.
Examiner's comments. Many candidates were able to calculate the ratios but analysing and interpreting them was a
different matter. Much of the information in the scenario was ignored and many candidates failed to attempt part
(c), thereby throwing away five marks.
(a)
ROCE  (2,500 – 500 – 10) / (2,800 + 3,200 + 3,000 + 500) %  = 20.9%
Pre-tax ROE  (1,400 / 2,800)%  = 50%
Net asset turnover  20,500 / (14,800 – 5,700)  = 2.3 times
Gross profit margin  (2,500 / 20,500)%  = 12.2%
Operating profit margin  (2,000 / 20,500)%  = 9.8%
Current ratio  7,300 / 5,700  = 1.3 : 1
Closing inventory
holding period  (3,600 / 18,000) 365
= 73 days
Trade receivables
collection period  (3,700 / 20,500) 365
= 66 days
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Trade payables payment
period  (3,800 / 18,000) 365
= 77 days
Gearing  (3,200 + 500 + 3,000) / 9,500%  = 71%
Interest cover  2,000 / 600  = 3.3 times
Dividend cover  1,000 / 700  = 1.4 times
(b)  Assessment of relative position and performance of Grappa and Merlot
Profitability
At first sight it appears that Victular would see a much greater return on its investment if it acquired Merlot
rather than Grappa. A closer analysis of the figures suggests that this may not be the case.
Merlot has an ROCE over 40% higher than Grappa's and an ROE more than double Grappa's ROE. However,
the difference is due more to the lower level of equity in Merlot than to the superiority of its profit. Merlot's
equity (2,800) is only half that of Grappa (5,500). This reduces the denominator for ROCE and doubles the
ROE. A closer look at the profits of both companies shows that the operating profit margin of Grappa is
10.5% and that of Merlot is 9.75%.
The net asset turnover of Merlot (2.3 times) suggests that it is running the more efficient operation. Merlot
has certainly achieved a much greater turnover than Grappa and with a lower level of net assets. The
problem is that, on a much higher level of turnover, its net profit is not much higher than Grappa's.
Further analysis of net assets shows that Grappa owns its factory, while Merlot's factory must be rented,
partly accounting for the higher level of operating expenses. Grappa's factory is carried at current value, as
shown by the property revaluation reserve, which increases the negative impact on Grappa's ROCE.
Gearing
Merlot has double the gearing of Grappa, due to its finance lease obligations. At 7.5% Merlot is paying less
on the finance lease than on its loan notes, but this still amounts to a doubling of its interest payments. Its
interest cover is 3.4 times compared to six times for Grappa, making its level of risk higher. In a bad year
Merlot could have trouble servicing its debts and have nothing left to pay to shareholders. However, the fact
that Merlot has chosen to operate with a higher level of gearing rather than raise funds from a share issue
also increases the potential return to shareholders.
Liquidity
Grappa and Merlot have broadly similar current ratios, but showing a slightly higher level of risk in the case
of Merlot. Merlot is also running an overdraft while Grappa has $1.2m in the bank. Grappa is pursuing its
receivables slightly less aggressively than Merlot, but taking significantly longer to pay its suppliers. As this
does not appear to be due to shortage of cash, it must be due to Grappa being able to negotiate more
favourable terms than Merlot.
Summary
Merlot has a higher turnover than Grappa and a policy of paying out most of its earnings to shareholders.
This makes it an attractive proposition from a shareholder viewpoint. However, if its turnover were to fall,
there would be little left to distribute. This is the risk and return of a highly geared company. Merlot is
already running an overdraft and so has no cash to invest in any more plant and equipment. In the light of
this, its dividend policy is not particularly wise. Grappa has a lower turnover and a much more conservative
dividend policy but may be a better long-term investment. Victular's decision will probably depend upon its
attitude to risk and the relative purchase prices of Grappa and Merlot
(c)  While ratio analysis is a useful tool, it has a number of limitations, particularly when comparing ratios for
different companies.
Some ratios can be calculated in different ways. For instance, gearing can be expressed using debt as a
proportion of debt and equity or simply debt as a proportion of equity. Ratios can be distorted by inflation,
especially where non-current assets are carried at original cost.
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196  Answers
Ratios are based upon financial statements which may not be comparable due to the adoption of different
accounting policies and different estimation techniques. For instance, whether non-current assets are carried
at original cost or current value will affect ROCE, as will the use of different depreciation rates. In addition,
financial statements are often prepared with the key ratios in mind, so may have been subject to creative
accounting. The year end values also may not be representative of values during the year, due to seasonal
trading.
Victular will find further information useful in making a decision regarding this acquisition. Victular should
look at the composition of the Board of each company and the expertise it may be acquiring. It will also want
to see the audited final statements and any available management information, such as management
accounts, budgets and cash flow forecasts.
68 Bengal
Text references. Chapters 19 and 20.
Top tips. Note that only five marks are available for ratios – the rest is for your analysis, so it needs to make sense.
Review the information you have in the context of profitability, gearing and liquidity. This will tell you which ratios
need to be included.
Easy marks. Most marks here are for reviewing all the information and making as many useful points as you can,
not just calculating loads of ratios. Try to bear in mind the shareholder’s comments and arrive at a conclusion.
Examiner’s comments. Most did well on the ratios but not so well on the performance analysis, often failing to see
that the decline in profit was due to the finance costs and the tax charge.
Marking scheme
Marks
 1 mark per valid point (including up to 5 points for ratios)   15
It is correct that revenue has increased by 48% while profit for the year has only increased by 20%. However, on
closer inspection, we can see that this is to a large degree attributable to the tax charge for the year. The tax charge
was 28.6% of the profit before tax in the year ended 31.3.20X0 and 42.8% of the profit before tax in the year ended
31.3.20X1. We do not have a breakdown of the tax charge but it could include underpayments in previous years,
which distorts the trading results.
A better comparison between the two years is the profit before tax % and the gross profit %. Both of these are
higher in 20X1 than in 20X0. The shareholders will also be interested in the ROCE. There has been a significant
increase in capital employed during the year ended 31.3. 20X1. Bengal has acquired nearly $13m in tangible and
intangible assets, financed from cash reserves and a new issue of 8% loan notes. An additional $2m of non-current
assets have been reclassified as held for sale. This suggests that Bengal has taken over the trade of another
business and is disposing of the surplus assets. This is a long-term project which may take time to show a return
and the ROCE does show a significant drop in 20X1. However, if we disregard the loan capital and look at the ROE
we can see a considerable increase in 20X1.
The increase in loan capital does have significance for shareholders. The interest charge has increased from
$100,000 to $650,000, which reduces the amount available for dividend. Gearing has increased significantly. The
rate that Bengal has to offer to loan note holders has already increased from 5% to 8%. If it required further
borrowing, with this high gearing, it would have to pay substantially more. Shares in Bengal have become a riskier
investment. One indicator of this is the interest cover, which has fallen from 36 times to 9 times. The acquisition
could presumably have been financed from a share issue or share exchange, rather than loan capital. However, this
would have diluted the return available to shareholders.
The area in which there is most cause for concern is liquidity. As we can see from the statement of cash flows, cash
and cash equivalents have fallen by $4.2m and the company is now running an overdraft. It has tax to pay of $2.2m
and this will incur penalties if it is not paid on time. The current ratio has declined from 2.1:1 to 1.5:1 and this is
including the non-current assets held for sale as part of non-current assets. The quick ratio, excluding inventory
and non-current assets held for sale, indicates the immediate cash situation and this shows a fall from 1.6:1 to
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0.46:1. Bengal needs to remedy this by disposing of the non-current assets held for sale as soon as possible and
selling off surplus inventory, which may have been acquired as part of the acquisition.
Overall, the shareholder should be reassured that Bengal is profitable and expanding. The company has perhaps
overstretched itself and significantly raised its gearing, but itis to be hoped that the investment will bring in future
returns. This is no doubt the picture the company wants to give to shareholders, which is why it has paid a dividend
in spite of having very little cash with which to do so.
Appendix: Ratios
20X1  20X0
Net profit %  (3,000 / 25,500) / (2,500 / 17,250)  11.8%  14.5%
Net profit % (pre-tax)  (5,250 / 25,500)/ (3,500 / 17,250)  20.6%  20.3%
Gross profit %  (10,700 / 25,500)/ (6,900 / 17,250)  42%  40%
ROCE  (5,900 / 18,500) / (3,600 / 9,250)  31.9%  38.9%
ROE  (5,250 / 9,500) / (3,500 / 7,250)  55.3%  48.3%
Gearing  (9,000 / 9,500) / (2,000 / 7,250)  94.7%  27.6%
Interest cover  (5,900 / 650) / (3,600 / 100)  9 times  36 times
Current ratio  (8,000 / 5,200) / (7,200 / 3,350)  1.5:1  2.1:1
Quick ratio  (2,400 / 5,200) / (5,400 / 3,350)  0.5:1  1.6:1
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198  Answers
69 Multiple choice answers – limitations of financial
statements and interpretation techniques
1  D  Capital employed (assets) would decrease, increasing ROCE. The impairment loss will reduce equity
(revaluation surplus) and so increase gearing.
2  A  The value of the inventory will be added to both current assets and current liabilities. It will add
proportionately more to liabilities and so reduce the current ratio. The effect on the quick ratio will be
even greater as inventory is excluded from assets.
3  B  The new product will have an operating profit of120 / 1,600 = 7.5%, so will reduce the current
margin. It will have an ROCE of 120 / 500 = 24%, higher than the current 20%.
4  C  Obsolete goods can lead to a build-up of unsold inventory, thereby increasing the holding period. A
reduction in selling price or an increase in demand could increase sales leading to a fall in the holding
period. Seasonal fluctuations will change the holding period throughout the year, but should not
affect the year-on-year picture.
5  B  The use of historical cost accounting during a period of inflation can lead to overstatement of profits.
Non-current assets carried at historical cost may be presented at a value well below their fair value,
leading to understated depreciation and consequentlyoverstated profits. This can be compounded by
the use of FIFO, if inventory is held at an original cost which is significantly below replacement cost.
The charge to cost of sales will be understated and profit overstated.
  The use of historical cost accounting will lead to understatement rather than overstatement of noncurrent asset values and will not affect interest costs. It is likely to lead to overstatement rather than
understatement of ROCE.
6  A  Renegotiating to secure a lower interest rate may save interest costs but will have no effect on
gearing. The other options are methods that could be resorted to in order to reduce or avoid any
increase in gearing.
7  A  A sale and operating leaseback would be an unlikely transaction as it would remove the asset from
the statement of financial position.
  The deferral method of accounting for government grants leaves the carrying amount of the asset  intact, rather than deducting the amount of the grant from the asset amount.
  Revaluing assets is the obvious way of increasing the carrying amount of assets.
  Under the reducing balance method, more depreciation is charged in the earlier years of the life of an
asset, so a change to 10% straight line would reduce the depreciation charge for the first few years.
Of course this effect is only temporary as the charge will catch up after a few years.
70 Waxwork
Text reference. Chapter 20.
Top tips. Note that part (a) carries five marks. This means that the examiner is expecting more than two sentences.
If you really think about this and answer itproperly it will help you with part (b).
Easy marks. This was quite an easy question as long as you were clear about the period dealt with by IAS 10 and
the distinction between adjusting and non-adjusting events. You may have been uncertain whether or not the
commission earned should have been deducted to arrive at NRV in (b)(ii), but this would only have lost you a mark.
Examiner's comments. Performance was particularly disappointing on this question. There was confusion over the
period covered by the Standard and over the definition ofan adjusting event, and candidates who were unable to
correctly answer part (a) did not gain many marks in part (b).
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Marking scheme
Marks
(a) Definition  1
 Discussion of adjusting events  2
 Reference to going concern  1
 Discussion of non-adjusting events   1
5
(b)  (i) to (iii) 1 mark per valid point as indicated     10
Total     15
(a)  IAS 10 relates to events taking place between the last day of the reporting period (the year end date) and the
date on which the financial statements are approved and signed by the directors. This period is usually
several months.
Adjusting events are events taking place after the reporting period which provide further evidence of
conditions existing at the end of the reporting period or which call into question the going concern status of
the entity. For this reason, adjusting events require adjustment to be made to the financial statements. If
going concern is no longer applicable, the financial statements must be prepared on a break-up basis.
Non-adjusting events provide evidence of conditions arising afterthe end of the reporting period. If material,
these should be disclosed by note, but they do not require that the financial statements be adjusted.
(b)  (i)  This is a non-adjusting event as it does not affect the valuation of property or inventory at the year
end. However, it would be treated as adjusting if the scale of losses were judged to threaten the going
concern status of Waxwork. It will certainly need to be disclosed in the notes to the financial
statements, disclosing separately the $16m loss and the expected insurance recovery of $9m.
(ii)  The sale in April 20X9 gives further evidence regarding the realisable value of inventory at the year
end and so an adjustment will be required. If 70% of the inventory was sold for $280,000 less
commission of $42,000, it had a net realisable value of $238,000. On this basis, the total cost of
$460,000 should be restated at NRV of $340,000. So inventory at the end of the reporting period
should be written down by $120,000.
(iii)  This change has occurred outside the period specified by IAS 10, so it is not treated as an event after
the reporting period. Had it occurred prior to 6 May 20X9, it would have been treated as a nonadjusting event requiring disclosure in the notes. The increase in the deferred tax liability will be
accounted for in the 20Y0 financial statements.
71 Quartile
Text references. Chapters 19 and 20
Top tips. A bit of planning is useful for a question like this and the categories of profitability, liquidity and gearing
give you a structure around which to base your analysis. Note that this is a retail business, so this will affect the
ratios.
Easy marks. Analysis of the ratios is straightforward and some useful points on the limitations on usefulness of a
sector average comparison could have earned four marks.
Marking scheme
Marks
(a) 1 mark per valid comment   11
(b) 1 mark per issue   4
Total for question    15
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200  Answers
(a)  Analysis of financial and operating performance of Quartile compared to sector average
Profitability
Quartile has a ROCEsignificantly lowerat 12.1% than the sector average of 16.8%. This is mainly due to
the lower than average gross profit margin and consequent low operating profit margin. The operating
expenses are actually lower (17.5%) as a percentage of revenue than the sector average of 23% (35% –
12%) so the problem lies between revenue and cost of sales. Inventory turnover is quite brisk (4.5 times
compared to a sector average of three times) but Quartile’s mark-up of 33.3% ((25 / 75) ×100) is
significantly below the sector average of 54% (35 / 65) ×100). Quartile is maintaining turnoverby keeping
prices down.
The other component of ROCE, net asset turnover, is slightly higher than the sector average. This is due to
the buoyant turnover, as the ratio will have been depressed by the property revaluation and the capitalisation
of the development expenditure, which have increased the asset base. It is to be hoped that the development
expenditure will generate the expected revenue. If it had been necessary to expense it for the year ended 30
September 20X2 Quartile would have reported a loss before tax of $1.6m.
Liquidity
Quartile has a current ratio of 1.55:1 compared to the sector average of 1.25:1. Both appear low, but
satisfactory for the retail sector as the cash cycle is fairly rapid. Inventory can be turned into immediate
cash and this is particularly true for Quartile with its high inventory turnover level. The lower than average
payables days (45 compared to 64) and the absence of an overdraft suggest that Quartile is not suffering
liquidity problems.
Gearing
Quartile’s debt to equity ratio is 30%, well below the sector average of 38% and the interest rate on the loan
notes is below the ROCE of 12.1%, meaning that the borrowings are earning a good returnfor the
business. The interest cover of 5.25 times (4,200 / 800)is satisfactory. Quartile is not having any problems
servicing its loan and is unlikely to give lenders any particular concern,
Conclusion
There are no going concern worries for Quartile but it does have an issue with low profitability. It appears to
be positioned at the bottom end of the jewellery market selling high volume cheap items rather than more
valuable pieces on which there would be significantly higher profit margins. This may or may not be the
most advantageous strategy in a period of recession.
(b)  The following factors may limit the usefulness of comparisons based on business sector averages.
(i)  The companies included in the average may have used different accounting policies. Some may be
applying the revaluation basis to their assets and some may not. This will affect asset turnover and
ROCE.
(ii)  Some companies in the average may have used some form of creative accounting, such as sale and
leaseback transactions, which will have boosted both profit for the year and ROCE.
(iii)  The average may include a wide variety of entities with different trading methods and risk profiles.
Very high-end jewellers may even operate on an invoice rather than a cash basis and will have
receivables included in their current assets. Very large chains will probably have more access to
cheap borrowing.
(iv)  Some ratios, in particular ROCE and gearing, can be calculated in different ways. It is up to the
organisation carrying out the comparison to ensure that a standard definition is used, and they may
or may not do this.
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Answers  201
72 Multiple choice answers – statement of cash flows
1 A  $m
 B/f (500 + 100)  600   Cash received (β)  500
 C/f (750 + 350)   1,100
2 D  $m
 B/f  410   Depreciation  (115)   Revaluation  80  Purchases (β)  305  C/f    680
3 B  $’000
 Balance b/f  1,860   Revaluation  100   Disposal  (240)   Depreciation   (280)
  1,440  Additions (β)  1,440
Balance c/f  2,880
4 C  $’000
 B/f (2,000 + 800)  2,800   Additions (6,500 – 2,500 + 1,800)  5,800   Payments made (β)  (2,100)   C/f (4,800 + 1,700)   6,500
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202  Answers
73 Preparation question: Dickson
(a)  DICKSON – STATEMENT OF CASH FLOWS FOR YEAR ENDED 31 MARCH 20X8
Cash flows from operating activities   $'000   $'000
Profit before taxation   342
Adjustments for:
Depreciation    57
Amortisation (W1)   60
Interest expense 15
Profit on disposal of assets (100 – 103)  (7)
467
Decrease in trade receivables (W4)   50
Increase in inventories (W4) (133)
Decrease in trade payables (W4)  (78)
Cash generated from operations   306
Interest paid (W3) (10)
Income taxes paid (W3)  (256)
Net cash from operating activities  40
Cash flows from investing activities
Development expenditure
(190)
Purchase of property, plant & equipment (W1)
(192)
Proceeds from sale of property, plant & equipment  110
Net cash used in investing activities (272)
Cash flows from financing activities
Proceeds from issue of shares (50 + 250 (W2))   300
Proceeds from issue of debentures   50
Payment of finance lease liabilities (W3)
(31)
Dividends paid (W2)  (156)
Net cash from financing activities  163
Net decrease in cash and cash equivalents
(69)
Cash and cash equivalents at beginning of period    109
Cash and cash equivalent at end of period    40
Notes to the statement of cash flows
1 Property, plant and equipment
 During the period, the company acquired property, plant and equipment with an aggregate cost of
 $248,000 of which $56,000 was purchased by means of finance leases. Cash payments of $192,000
 were made to acquire property, plant and equipment.
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Workings
1Assets
Property, plant
and equipment
Development
expenditure
$’000  $’000
B/d  637  160
Disposals  (103)
SPLOCI  (57)
Purchase under F/L  56
Additions    190
Revaluation  100
Amortisation (β)   (60)
Cash additions (β)   192  -  C/d    825  290
2  Equity
Share
capital
Share
premium
Revaluation
surplus
Retained
earnings
$’000  $’000  $’000  $’000
B/d  400  100  60  255
Bonus issue  50     (50)
Rights issue (β)  50  250
Revaluation      100
SPLOCI        180
Transfer to retained
earnings (57 – 49)   (8)  8
Dividend paid (β)  – – –  (156)  C/d     500  350  152  237
3Liabilities
Debentures  Finance leases  Taxation  Interest
$’000  $’000  $’000  $’000
B/d  100  92*  198**  –
SPLOCI    162  15  New lease   56
Cash received (paid) (β)   50  (31)   (256)   (10)  C/d    150  117  104   5
*Non-current + current
 **Deferred + current
4Working capital
Inventories Receivables Payables
$’000  $’000  $’000
B/d  227  324  352
Movement (β)   133
(50)
(78)  C/d     360  274  274
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204  Answers
(b)  CASH FLOWS FROM OPERATING ACTIVITIES (Direct method)
$’000
Cash received from customers (W4)  1,526
Cash paid to suppliers and employees (W3)  (1,220)
Cash generated from operations  306
Interest paid (10)
Income taxes paid (256)
Net cash from operating activities  40
Workings
1Purchases
$’000
Inventory balance b/d  227
Transfer to cost of sales  (962)
Purchases (β)  1,095  Inventory balance c/d   360
2  Other expenses
$’000
Balance per statement of profit or loss  157
Depreciation
(57)
Amortisation
(60)
Profit on disposal  7
47
3  Payments
$’000
Payables balance b/d  352
Purchases (W1)  1,095
Other expenses (W2)  47
Payments (β)  1,220  Payables balance c/d    274
4  Cash received
$’000
Receivables balance b/d  324
Sales revenue  1,476
Cash received (β)  (1,526)  274
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Answers  205
74 Mocha
Text references. Chapter 4, 13, 14, 21.
Top tips. Statements of cash flow are popular questions with students. This one has a few complications, but is
basically straightforward. As always, get the proforma down and do the standard workings.
Easy marks. There are plenty of easy marks available for dealing with the usual adjustments – working capital, tax,
finance lease and share capital and 1½ marks just for showing that interest charged is the same as interest paid.
Examiner’s comments. The statement of cash flows was very well answered, with many candidates scoring full
marks. The main errors involved the profit on disposal, the warranty provision, the tax calculation, the finance lease
and the share issue. The bonus issue is not a cash flow. Many candidates seemed to misinterpret the requirement
for (c), which was to explain the discrepancy between reported profit and cash flow. This involved discussing
working capital adjustments, product warranties and other non-cash items. Some candidates ignored this and just
calculated ratios.
Marking scheme
Marks
(a)  Profit before tax  ½
Depreciation  1
Profit on disposal of property  1
Investment income deducted  ½
Interest expense added back  ½
Working capital items  1½
Decrease in product warranty  1½
Interest paid  1
Income tax paid  2
Purchase of PPE  1
Disposal of PPE  1
Disposal of investment  1
Dividends received  1
Share issue  2½
Payments under finance lease  2
Cash b/f / c/f  1
19
(b) ½ mark per valid point  5
(c)  (i) and (ii) 3 marks each   6
Total   30
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206  Answers
(a)  STATEMENT OF CASH FLOWS FOR THE YEAR ENDED 30 SEPTEMBER 20X1
 $’000  $’000  Cash flows from operating activities
Profit before tax  3,900
Adjustments for:
Depreciation  2,500
Profit on sale of property  (4,100)
Investment income  (1,100)
Interest expense    500
1,700  Increase in inventories (W4)  (3,000)   Decrease in receivables (W4)  200   Decrease in payables (W4)  (1,400)   Decrease in warranty provision (4,000 – 1,600)  (2,400)  Cash used in operations  (4,900)   Interest paid  (500)   Income tax paid (W3)   (800)
Net cash used in operating activities  (6,200)
Cash flows from investing activities
Sale of property  8,100
Purchase of plant  (8,300)
Sale of investment  3,400
Dividends received    200
Net cash from investing activities    3,400
Cash flows from financing activities
Issue of share capital (W2)  2,400
Payments under finance leases (W3)   (3,900)
Net cash from financing activities     (1,500)
Decrease in cash and cash equivalents (4,300)  Cash and cash equivalents b/f     1,400
Cash and cash equivalents c/f    (2,900)
Workings
1  Assets
PPE
Financial
asset
$’000  $’000
B/d  24,100  7,000
New F/L additions  6,700
Purchase of new plant  8,300
Disposal  (4,000)  (3,000)
Depreciation  (2,500)   Increase in fair value   _____    500
32,600 4,500
2  Equity
Share
capital
Share
premium
Revaluation
surplus
Retained
earnings
$’000  $’000  $’000  $’000
B/d  8,000  2,000  3,600  10,100
Bonus issue:  3,600  (2,000)  (1,600)
SPLOCI       2,900  Issued for cash (β)  2,400 – – –
C/d
14,000  – –13,000
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3  Liabilities
Finance leases  Income tax
$’000  $’000
B/d  9,000*  2,100**
Additions  6,700
SPLOCI    1,000
Paid (β)  (3,900)  (800)
11,800*    2,300**
*Non-current + current
**Deferred + current
4  Working capital
Inventories Receivables Payables
$’000  $’000  $’000
B/d  7,200  3,700  4,600
Movement  3,000  (200)  (1,400)
C/d   10,200  3,500  3,200
(b)  During the year Mocha’s cash balances declined by $4.3 million, despite a profit for the year of $2.9 million.
The first point to note is that a 43% increase in revenue from $41 million to $58.5 million has been
accompanied by a 55% increase in cost of sales and a 93% increase in operating expenses. This leads to a
profit for the year which is 42% down on 20X0.
Cost of sales has increased by $16.5 million over the year. Some of this increase will be due to increased
depreciation following investment in plant and equipment, but total depreciation for the year was only $2.5
million, so this does not account for any substantial part of the difference. Cost of sales has been kept down
by the reduction in the product warranty provision – without this the increase would have been $18.9
million. The reduction in the product warranty provision suggests that Mocha has switched to new, more
expensive and more reliable materials. This would explain the increase in cost of sales. The increase in
revenue has not kept pace because Mocha has not yet been able to pass on the full amount of the increase
to its customers. This has eroded gross profit. In this context, the increase in inventory holding of (only)
41% could mean that Mocha has actually reduced its volume holding of inventory in order to avoid tying up
too much cash.
The almost doubling of operating expenses has compounded this situation. Some of these costs are
probably to do with the new machinery, perhaps use ofconsultants, retraining of the workforce or maybe
redundancy payments following mechanisation of some functions. There is no restructuring provision in
place, so this is not part of a long-term plan, but more likely a reaction to a sudden change in the business
environment. On a more positive note, Mocha is meeting its interest and lease payments and has reduced its
payables days (perhaps stricter terms from a new supplier). If some of these additional costs are one-off
and it succeeds in raising its prices, profits could turn around next year.
The management of Mocha has dealt as best it can with the financial situation. It has sold property for $8.1
million, sold investments for $3.4 million, issued shares for $2.4 million and negotiated an overdraft
currently standing at $2.9 million. These measures have raised cash without the effect on gearing that would
have arisen from a loan stock issue. It has not paid a dividend this year and the fact that the share issue was
at par suggests that the business is not seen as a desirable investment at the moment.
(c)  (i)  The statement of profit or loss of Mocha shows profit for the year of $3.9 million. However this figure
 includes amounts based on estimates, such as the reduction in product warranties and gains which
 have not translated into cash, such as the increase in fair value of investments. $4.1 million of the
 profit for the year related to sale of a property – if this was removed there would be a trading loss of
 $0.2 million.
 Net cash from operating activities records only those transactions which have resulted in movement
 of cash, so items which rely on judgement or are unrealised are automatically excluded. It is to this
 degree a more verifiable amount than profit before tax and many users would consider it more useful.
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208  Answers
(ii)  Accrual-based financial information spreads the lives of property, plant and equipment over the
periods expected to benefit from their use and this can be affected by revaluations, impairment and
changes in expected life, which are all issues based on judgement. Also, entities can choose whether
or not to transfer back excess depreciation to retained earnings following a revaluation. So there is a
lot of subjectivity involved in asset values. In the case of Mocha the carrying amount of property,
plant and equipment has increased by $8.5 million over the year, but the statement of financial
position needs to be properly examined in order to see that $6.7 million of the increased plant was
obtained under finance leases and therefore carries a corresponding liability.
Net cash from investing activities deals simply in amounts paid to acquire property, plant and
equipment and in any proceeds of selling property, plant and equipment. This is valuable and
verifiable additional information which is not shown by the statement of financial position.
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Answers  209
75 Multiple choice answers – alternative models and
practices
1  C  Historical cost accounting does not avoid the overstatement of profit which arises during periods of
inflation, which is why alternative models have been proposed.
2  A  The concept of ‘physical capital maintenance’ is applied in current cost accounting.
3  B  Current purchasing power accounting adjusts for general price inflation.
4  B  Under CCA goods sold are charged to profit or loss at replacement cost.
5  C  A,B and D are all likely consequences of overstatement of profits. In the case of C, what tends to
happen when profits are overstated is that too muchcash is paid out in dividends to shareholders,
depleting funds needed for investment.
76 Preparation question: Changing prices
(a)  CURRENT COST OPERATING PROFIT FOR 20X6
$m   $m
Historical cost profit    15
Current cost adjustments:
Depreciation adjustment   3
Cost of sales adjustment   5
(8)
Current cost profit    7
SUMMARISED CURRENT COST STATEMENT OF FINANCIAL POSITION
AS AT 31 DECEMBER 20X6
$m   $m
Property, plant & equipment   85
Current assets
Inventories 21
Receivables   30
Bank   2
53
138
Equity    88
Non-current liability    20
Current liabilities   30
138
(b) (i)  Interest cover
HC accounts: 15 / 3 = 5 times
CC accounts: 7 / 3 = 2.3 times
(ii)  Return on shareholders' equity
HC accounts: 12 / 62 = 19.4%
CC accounts: 4 / 88 = 4.5%
(iii)  Debt/equity ratio
HC accounts: 20 / 62 = 32.3%
CC accounts: 20 / 88 = 22.7%
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210  Answers
(c) (i)  Interest cover
Companies must maintain their capital base if they wish to stay in business. The significance of the
interest cover calculation is that it indicates the extent to which profits after tax are being eaten into
by payments to finance external capital. The figures calculated above indicate that only one-fifth of
historical cost profit is being absorbed in this way, while four-fifths are being retained to finance
future growth. On the face of it, this might seem satisfactory; however, the current cost interest cover
is only 2.3 times indicating that, after allowing for the impact of rising prices, interest payments
absorb nearly half of profits after tax.
(ii) Return on shareholders' equity
This is the ratio of profits earned for shareholders (ie profits after interest) to shareholders' equity.
Once again, the position disclosed by the historicalcost accounts is more favourable than appears
from the current cost ratio. The historical cost profit is higher than the current cost profit because no
allowance is made for the adverse impact of rising prices, and, at the same time, the denominator in
the historical cost fraction is lower because, shareholders' capital is stated at historical values rather
than their higher current values.
The significance of the ratio is that it enables shareholders to assess the rate of return on their
investment and to compare it with alternative investments that might be available to them.
(iii)  Debt/equity ratio
The significance of this ratio is as a measure of the extent to which the company's net assets are
financed by external borrowing and shareholders' funds respectively.
In times of rising prices it can be beneficial to finance assets from loan capital. While the assets
appreciate in value over time (and the gain accrues to shareholders), the liability is fixed in monetary
amount. The effect of this is that current cost accounts tend to give a more favourable picture of the
debt/equity ratio than historical cost accounts. In the ratios calculated above, the amount of debt is
$20m in both statements of financial position. This represents nearly one-third of the historical cost
value of shareholders' funds, but only one-fifth of the equity calculated on a current cost basis.
77 Update
Marking scheme
Marks
(a) 1 mark per valid point to maximum   7
(b) Historical cost  2
CPP  3
CCA  3
8
Total    15
(a) Problems with historical cost
Although retail price inflation has eased throughout the developed world, it is still a big issue for many
businesses.
The carrying values of property and other assets with long useful lives soon become unrealistic if based on
historical cost, leading to the following problems.
 Even with modest inflation, the depreciation charge on these assets will be too low in comparison
with the revenues that the assets are generating, inflating operating profits.
 The return on capital employed is doubly distorted; not only are operating profits overstated, but the
related net assets will be understated, resulting in a flattering and unrealistic return. This makes it
difficult to compare two companies with similar assets if those assets were bought at different times.
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Answers  211
 Low asset values reduce the net assets of a business. This exaggerates the gearing ratio, which
might dissuade banks from advancing loans to the business. It might also cause the stock market to
undervalue a business.
The traditional solution to these problems is to revalue certain items. However, this creates a hybrid set of
financial statements, with some assets at historical cost others at valuation.
(b)Alternative methods
Historical
cost  CPP
Current
cost
$   $   $
Cost/Valuation 250,000  (a)  300,000  (b)  280,000
Carrying value based on 2 years depreciation (c)  160,000   192,000   179,200
Carrying value based on 3 years depreciation (d)  128,000   153,600   143,360
Depreciation charge for this year (c – d = e)  32,000   38,400   35,840
(1)  The original cost of $250,000 will be indexed up for the change in the retail price index between the
date of purchase and the end of the reporting period.
$250,000 × 216 / 180 = $300,000
(2)  The current cost will be reduced to reflect the lower productivity of the old asset.
$320,000 × 420 / 480 = $280,000
(3)  The carrying value after two years depreciation at 20% reducing balance will be 64% of the gross
amount (0.8 × 0.8).
(4)  The carrying value after three years depreciation at 20% reducing balance will be 51.2% of the gross
amount (0.8 × 0.8 × 0.8).
(5)  This years charge will be the difference between (c) and (d).
78 Multiple choice answers – specialised, not-for-profit and
public sector entities
1  C  Charities do not usually have shareholders, in the commercial sense of the term.
2  B  Public sector accounting needs to move from cash-based accounting to application of the accruals
concept.
3  A  A local council would not pay dividends and would be unlikely to measure ROCE, which deals with
return to investors.
4  D  Charities have to consider a very wide group of shareholders, which can include donors,
beneficiaries, volunteers, local organisations, government bodies and the public at large.
5  B  Public sector bodies have a major advantage notgenerally enjoyed by charities – government
funding.
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212  Answers
79 Preparation question: Appraisal
(a)  A not-for-profit organisationneeds funds to operate, just as a profit-making organisation does. It is also
required to make good and sensible use of its assets and spend within its budget. To this degree, calculation
of certain financial ratios and their comparison to the previous year is valid and would yield information
about how well the organisation is run, and how well it manages its funds.
However, there are a number of differences between a profit-making and a not-for-profit organisation. A notfor-profit organisation does not have the basic purpose of increasing the wealth of its shareholders or of
achieving a return on capital. Its success or failure is judged by the degree to which it achieves its
objectives. These are laid down in a whole different set of parameters. A hospital has many different targets
to meet – some of them apparently not that useful. One of its major targets will be to cut the length of its
waiting lists for operations. Local government bodies may be judged on the basis of whether they have
secured VFM (value for money) in spending local taxes. Schools are judged on their examination passes and
their budgets may be affected by issues such as how many of their children are considered to have 'special
needs'.
A charity will judge its success by the amount of work it has achieved in line with its mission statement, and
by the level of funding and donations it has secured – without which nothing can be achieved.
It is worth pointing out that, just as a profit-making organisation may seek to enhance the picture given by
its financial statements, not-for-profit organisations may also be driven in the same direction. It has been
found in the UK that some hospitals have brought forward minor operations and delayed major ones in order
to secure maximum impact on the waiting list and meet government targets. Some schools have a policy of
only entering pupils for exams which they have a good chance of passing. This keeps up their pass rate and
their position in the school league tables.
(b)  Although the sports club is a not-for-profit organisation, any potential loan provider will have to apply the
same criteria to its loan request as it would use in assessing a request from a profit-making entity.
The first ratio to look at would be gearing. There will be no share capital, so this would be calculated as the
ratio of long-term borrowing to net assets. If the club is already carrying a large amount of borrowing, then a
further loan may carry too much risk.
The income and expenditure statement will show whether any interest is currently being paid and interest
cover can be calculated by dividing the surplus of income over expenditure by the interest payments. This
should then also be done taking into account the projected interest payments from the loan that has been
requested.
It will be a good idea to look at the current ratio. As there is presumably very little inventory involved, this
will probably be the same as the quick ratio and will give some idea of solvency and of how well the cash is
being managed.
These ratios should be calculated for all four years to see any underlying trends, and it will also be useful to
look at the sources of income, such as memberships and whether they are increasing or decreasing over the
period. If an extension is needed, there should be an increasing number of members.
The accounts will also show what assets the club owns, which could be used as security, and whether there
are any prior charges against these assets. It is also possible that the trustees may be able to provide
additional security.
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Mock Exams
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215
ACCA
Fundamentals Level
Paper F7
Financial Reporting
Mock Examination 1
Question Paper
Time allowed
Reading and Planning
Writing
15 minutes
3 hours
Answer all FIVE questions
DO NOT OPEN THIS PAPER UNTIL YOU ARE READY TO START UNDER
EXAMINATION CONDITIONS
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Mock exam 1: questions  217
Section A – ALL 20 questions are compulsory and MUST
be attempted
1  Monty had profit before tax of $3 million for the year ended 31 March 20X3, after charging loan interest of
$150,000 and interest on a finance lease of $250,000. Extracts from the equity and liabilities section of the
statement of financial position of Monty at 31 March 20X3 are as follows.
$’000  $’000
Total equity    12,550
Non-current liabilities
8% loan notes  1,400
Deferred tax  1,500
Finance lease obligation   1,200
4,100
Current liabilities
Finance lease obligation  750
Trade payables  2,650
Current tax  1,250
4,650
What is the return on year-end capital employed?
A 16.3%
B 21.4%
C 18.6%
D 24.3%  (2 marks)
2  How can ROCE be further analysed into its component ratios?
A  Gross profit margin / net asset turnover
B  Gross profit margin × net asset turnover
C  Net profit margin / net asset turnover
D  Net profit margin × net asset turnover  (2 marks)
3  At 1 April 20X2 Atlas had in issue 80 million 50c equity shares. On 1 July 20X2 Atlas made and recorded a
fully subscribed rights issue of 1 for 4 at $1.20 each. Immediately before this issue the stock market value of
Atlas’s shares was $2 each, giving a theoretical ex-rights price of $1.84. Earnings for the year amounted to
$31.2 million.
What is the basic earnings per share of Atlas for the year ended 31 March 20X3?
A 32.8c
B 31.2c
C 32.3c
D 33.4c  (2 marks)
4  At 31 March 20X2 Monty had equity of $9.75 million, loan notes of $3.125 million and finance lease
obligations totalling $1.5 million.
During the year to 31 March 20X3 equity increased by$2.8 million, $1.725 million of the loan notes were
repaid and finance lease obligations increased by $450,000.
What was gearing (debt / debt + equity) at 31 March 20X3?
A 10%
B 35%
C 28%
D 21%  (2 marks)
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218  Mock exam 1: questions
5  On 1 October 20X2 Atlas sold $10 million of maturing inventory to Xpede. The cost of the goods at the date
of sale was $7 million and Atlas has the option to repurchase these goods at any time within three years of
the sale at a price of $10 million plus accrued interest from the date of sale at 10% per annum. At 31 March
20X3 the option had not been exercised but it is highly likely that it will be before the date it lapses.
What should be the net effect on profit or loss of this transaction for the year ended 31 March 20X3?
A Credit $3,000,000
B Charge $500,000
C Credit $2,500,000
D Credit $2,000,000  (2 marks)
6  Radar’s sole activity is the operation of hotels all over the world. After a period of declining profitability,
Radar’s management took the following steps during the year ended 31 March 20X3:
(i)  It entered into negotiations with a buyer to sell all of its hotels in country A
(ii)  It disposed of two loss-making hotels in country B
Which of these decisions meet the criteria for being classified as discontinued operations in the financial
statements for the year ended 31 March 20X3?
A (i)
B (ii)
C  Both of them
D  Neither of them  (2 marks)
7  Which of the following is notan advantage which could be expected to follow from global harmonisation of
accounting standards?
A  Elimination of exchange differences
B  Easier transfer of accounting staff across national borders
C  Ability to comply with the requirements of overseas stock exchanges
D  Better access to foreign investor funds  (2 marks)
8  Ravenscroft is closing one of its production facilities and satisfies the requirements for a restructuring
provision. The facility has 250 employees. 50 will be retrained and deployed to other subsidiaries; the
remainder will accept redundancy and be paid an average of $5,000 each. Plant has a carrying amount of
$2.2 million but is only expected to sell for $500,000, incurring $50,000 of selling costs. The facility itself is
expected to sell for a profit of $1.2 million.
What amount should be provided for restructuring?
A $2,750,000
B $2,875,000
C $2,650,000
D $2,775,000  (2 marks)
9  Which of the following would notgive rise to a valid provision in accordance with IAS 37 Provisions,
contingent liabilities and contingent assets?
A  A company’s operations have caused environmental damage. It is not legally obliged to rectify this
but will do so in order to maintain its eco-credentials.
B  A company is vacating a factory building that it was occupying under an operating lease. It is moving
to a new building on 1 July but the lease on the existing building runs up to 1 September and cannot
be cancelled.
C  A company has decided to change one of its current raw materials for a substitute which is more
environmentally friendly. This material is more expensive and it is estimated that this will lead to a $2
million reduction in profit in the coming year.
D  A company sells a product with a six-month guarantee which provides customers with free repairs or
replacement for any defect which arises within that period.  (2 marks)
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Mock exam 1: questions  219
10  Speculate owned an office building with a depreciated historical cost of $2 million and a remaining useful life
of 20 years at 1 April 20X2. On 1 October 20X2 Speculate ceased to occupy the building and let it out to a
third party. The property was reclassified as an investment property, applying the revaluation model in
accordance with IAS 40 Investment Property. The value of the property was independently assessed at $2.3
million at 1 October 20X2 and had risen to $2.34 million by 31 March 20X3.
What amount will be charged/credited to profit or loss in respect of this property for the year ended 31
March 20X3?
A Credit $40,000
B Charge $50,000
C Charge $10,000
D  No charge or credit  (2 marks)
11  At what amount does IAS 41 Agriculturegenerally require biological assets to be measured upon initial
recognition?
A Cost
B Fair value
C Market value
D  Fair value less costs to sell  (2 marks)
12  What are the two fundamental qualitative characteristics of financial information according to the
Conceptual Framework?
A  Relevance and faithful representation
B  Accruals and going concern
C  Going concern and faithful representation
D  Relevance and accruals  (2 marks)
13 The Conceptual Frameworkdescribes a number of different measurement bases. One of them is described
as follows.
‘Assets are carried at the amount of cash or cash equivalents that would have to be paid if the same or an
equivalent asset was acquired currently. Liabilities are carried at the undiscounted amount of cash or cash
equivalents that would be required to settle the obligation currently.’
Which measurement basis is being described?
A Historical cost
B Current cost
C  Realisable (settlement) value
D Present value  (2 marks)
14  Pisces has an asset carried at $6.5 million in its statement of financial position at 31 December 20X2. The
present value of the cash flows which the asset will generate for the rest of its useful life is $5.8 million. The
current cost of an identical asset of the same age is $6.1 million. Pisces has received an offer of $6.2
million for the asset. The cost of dismantling the asset and transporting it to the customer would be
$200,000.
At what amount should the asset be recognised in the statement of financial position at 31 December 20X2?
A $6 million
B $6.5 million
C $6.1 million
D $5.8 million  (2 marks)
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220  Mock exam 1: questions
15  Which one of the following would require adjustment to the financial statements according
to IAS 10 Events After the Reporting Periodif they took place between the end of the reporting period and
the date the financial statements were authorised for issue?
A  A decision to discontinue an operation
B  A collapse in property prices, affecting the company’s portfolio
C  Sale of inventory in its year-end condition at a price below its year end carrying amount
D  Legal action commenced by a supplier  (2 marks)
16 IFRS 10 Consolidated Financial Statementsprovides a definition of control and identifies three separate
elements of control. Which one of the following is notone of these elements of control?
A Power over the investee
B  The power to participate in the financial and operating policies of the investee
C  Exposure to, or rights to, variable returns from its involvement with the investee
D  The ability to use its power over the investee to affect the amount of the investor’s returns (2 marks)
17  Springthorpe entered into a three-year contract on 1 January 20X2 to build a factory. The contract price was
$12 million. At 31 December 20X2 details of the contract were as follows.
$m
Costs to date  6
Estimated costs to complete  9
Progress billings  4
Certified complete  40%
What amount should appear in the statement of financial position of Springthorpe as at 31 December 20X2
as amount due to/from customers in respect of this contract?
A  $1 million due to customers
B  $2 million due to customers
C  $1 million due from customers
D  $2 million due from customers  (2 marks)
18  How does IFRS 9 Financial Instrumentsrequire investments in equity instruments to be measured and
accounted for (in the absence of any election at initial recognition)?
A  Fair value with changes going through profit or loss
B  Fair value with changes going through other comprehensive income
C  Amortised cost with changes going through profit or loss
D  Amortised cost with changes going through other comprehensive income  (2 marks)
19  On 1 January 20X1 Penfold purchased a debt instrument for its fair value of $500,000. It had a principal
amount of $550,000 and was due to mature in five years. The debt instrument carries fixed interest of 6%
paid annually in arrears and has an effective interest rate of 8%. It is held at amortised cost.
At what amount will the debt instrument be shown in the statement of financial position of Penfold as at
31 December 20X2?
A $514,560
B $566,000
C $564,560
D $520,800  (2 marks)
20  A sale and leaseback transaction involves the sale of an asset and the leasing back of the same asset. If the
lease arrangement results in a finance lease, how should any ‘profit’ on the sale be treated?
A  Recognise immediately in profit or loss
B  Defer and amortise over the lease term
C  Any excess above fair value to be deferred and amortised, rest to be recognised in profit or loss
D  No profit should be recognised  (2 marks)
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Mock exam 1: questions  221
Section B – ALL 3 questions are compulsory and MUST be
attempted
1  The following trial balance relates to Atlas at 31 March 20X3.
$’000  $’000
Equity shares of 50 cents each   50,000
Share premium   20,000
Retained earnings at 1 April 20X2   11,200
Land and buildings – at cost (land $10 million) (Note 1)  60,000
Plant and equipment – at cost (Note 1)  94,500
Accumulated depreciation at 1 April 20X2: – buildings   20,000
– plant and equipment   24,500
Inventory at 31 March 20X3  43,700
Trade receivables  42,200
Bank  6,800
Deferred tax (Note 2)   6,200
Trade payables   35,100
Revenue  550,000
Cost of sales  411,500
Distribution costs  21,500
Administrative expenses  30,900
Dividends paid  20,000
Bank interest  700
Current tax (Note 2)     1,200
725,000  725,000
Notes
The following notes are relevant.
1 Non-current assets:
On 1 April 20X2, the directors of Atlas decided that the financial statements would show an improved
position if the land and buildings were revalued to market value. At that date, an independent valuer
valued the land at $12 million and the buildings at $35 million and these valuations were accepted by
the directors. The remaining life of the buildings at that date was 14 years. Atlas does not make a
transfer to retained earnings for excess depreciation. Ignore deferred tax on the revaluation surplus.
Plant and equipment is depreciated at 20% per annum using the reducing balance method and time
apportioned as appropriate. All depreciation is charged to cost of sales, but none has yet been
charged on any non-current asset for the year ended 31 March 20X3.
2  Atlas estimates that an income tax provision of $27.2 million is required for the year ended
31 March 20X3 and at that date the liability to deferred tax is $9.4 million. The movement on deferred
tax should be taken to profit or loss. The balance on current tax in the trial balance represents the
under/over provision of the tax liability for the year ended 31 March 20X2.
Required
(a)  Prepare the statement of profit or loss and other comprehensive income for Atlas for the year
ended 31 March 20X3.  (7 marks)
(b)  Prepare the statement of financial position of Atlas as at 31 March 20X3.  (8 marks)
(15 marks)
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222  Mock exam 1: questions
2  Monty is a publicly listed company. Its financial statements for the year ended 31 March 20X3 including
comparatives are shown below.
STATEMENTS OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDED 31 MARCH
20X3 20X2
$’000  $’000
Revenue  31,000  25,000
Cost of sales  (21,800) (18,600)
Gross profit  9,200  6,400
Distribution costs
(3,600) (2,400)
Administrative expenses
(2,200) (1,600)
Finance costs – loan interest
(150) (250)
– lease interest (250) (150)
Profit before tax  3,000  2,050
Income tax expense (1,000) (750)
Profit for the year  2,000  1,300
Other comprehensive income (Note 1) 1,350    –
Total comprehensive income 3,350    1,300
STATEMENTS OF FINANCIAL POSITION AS AT 31 MARCH
20X3 20X2
ASSETS  $’000  $’000
Non-current assets
Property, plant and equipment  14,000  10,700
Deferred development expenditure 1,000    –
15,000  10,700
Current assets
Inventory 3,300  3,800
Trade receivables  2,950  2,200
Bank 50    1,300   6,300    7,300
Total assets  21,300  18,000
EQUITY AND LIABILITIES
Equity shares of $1 each  8,000  8,000
Revaluation surplus  1,350  –
Retained earnings 3,200    1,750
12,550    9,750
Non-current liabilities
8% loan notes  1,400  3,125
Deferred tax  1,500  800
Finance lease obligation 1,200    900   4,100    4,825
Current liabilities
Finance lease obligation  750  600
Trade payables  2,650  2,100
Current tax payable 1,250    725   4,650    3,425
Total equity and liabilities   21,300   18,000
Notes
1  On 1 July 20X2, Monty acquired additional plant under a finance lease that had a fair value
of $1.5 million. On this date it also revalued its property upwards by $2 million and transferred
$650,000 of the resulting revaluation reserve this created to deferred tax. There were no disposals of
non-current assets during the period.
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Mock exam 1: questions  223
2  Depreciation of property, plant and equipment was $900,000 and amortisation of the deferred
development expenditure was $200,000 for the year ended 31 March 20X3.
Required
Prepare a statement of cash flows for Monty for the year ended 31 March 20X3, in accordance with
IAS 7 Statement of Cash Flows, using the indirect method.(15 marks)
3  (a)  On 1 October 20X2, Paradigm acquired 75% of Strata’s equity shares by means of a share exchange
of two new shares in Paradigm for every five acquired shares in Strata. In addition, Paradigm issued
to the shareholders of Strata a $100 10% loan note for every 1,000 shares it acquired in Strata.
Paradigm has not recorded any of the purchase consideration, although it does have other 10% loan
notes already in issue.
The market value of Paradigm’s shares at 1 October 20X2 was $2 each.
The summarised statements of financial position of the two companies at 31 March 20X3 are:
Paradigm Strata
$’000  $’000
ASSETS
Non-current assets
Property, plant and equipment  47,400  25,500
Financial asset: equity investments (Notes 1 and 4)  10,500  3,200
57,900  28,700
Current assets
Inventory (Note 2) 17,400  8,400
Trade receivables (Note 3)  14,800  9,000
Bank    2,100 –
Total assets  92,200  46,100
EQUITY AND LIABILITIES
Equity
Equity shares of $1 each  40,000  20,000
Retained earnings/(losses) – at 1 April 20X2  19,200
(4,000)
– for year ended 31 March 20X3 7,400  8,000
66,600  24,000
Non-current liabilities
10% loan notes  8,000  –
Current liabilities
Trade payables (Note 3)  17,600  13,000
Bank overdraft    –  9,100
Total equity and liabilities  92,200  46,100
Notes
The following information is relevant.
1  At the date of acquisition, Strata produced a draft statement of profit or loss which showed it
had made a net loss after tax of $2 million at that date. Paradigm accepted this figure as the
basis for calculating the pre- and post-acquisition split of Strata’s profit for the year ended 31
March 20X3.
Also at the date of acquisition, Paradigm conducted a fair value exercise on Strata’s net assets
which were equal to their carrying amounts (including Strata’s financial asset equity
investments) with the exception of an item of plant which had a fair value of $3 million below
its carrying amount. The plant had a remaining economic life of three years at 1 October
20X2.
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224  Mock exam 1: questions
Paradigm’s policy is to value the non-controlling interest at fair value at the date of
acquisition. For this purpose, a share price for Strata of $1.20 each is representative of the fair
value of the shares held by the non-controlling interest.
2  Each month since acquisition, Paradigm’s sales to Strata were consistently $4.6 million.
Paradigm had marked these up by 15% on cost. Strata had one month’s supply ($4.6 million)
of these goods in inventory at 31 March 20X3. Paradigm’s normal mark-up (to third party
customers) is 40%.
3  Strata’s current account balance with Paradigm at 31 March 20X3 was $2.8 million, which did
not agree with Paradigm’s equivalent receivable due to a payment of $900,000 made by Strata
on 28 March 20X3, which was not received by Paradigm until 3 April 20X3.
4  On 1 January 20X3 Paradigm acquired 35% of the equity shares in Rainbow, a holding which
enabled it to exercise significant influence. Rainbow had retained earnings of $7.5 million at
31 March 20X2 and $13.5 million at 31 March 20X3. Its profits accrue evenly over the year.
Rainbow paid a dividend of $2 million on 1 March 20X3. Paradigm credited its dividend
received to profit or loss.
5  The financial asset equity investments of Paradigm include $3 million paid for the shares in
Rainbow. The other financial asset equity investments of Paradigm and Strata are carried at
their fair values as at 1 April 20X2. As at 31 March 20X3, these had fair values of $7.1 million
and $3.9 million respectively.
6  There were no impairment losses within the group during the year ended 31 March 20X3
Required
Prepare the consolidated statement of financial position for Paradigm as at 31 March 20X3.
(25 marks)
(b)  Paradigm has a strategy of buying struggling businesses, reversing their decline and then selling
them on at a profit within a short period of time. Paradigm is hoping to do this with Strata.
Required
As an advisor to a prospective purchaser of Strata, explain any concerns you would raise about
basing an investment decision on the information available in Paradigm’s consolidated financial
statements and Strata’s entity financial statements.  (5 marks)
(30 marks)
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225
Answers
DO NOT TURN THIS PAGE UNTIL YOU HAVE
COMPLETED THE MOCK EXAM
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Mock exam 1: answers  227
A plan of attack
If this were the real Financial Reporting exam and you had been told to turn over and begin, what would be going
through your mind?
Perhaps you're having a panic. You've spent most of your study time on groups and interpretation of accounts
(because that's what your tutor/BPP study Text told you to do), plus a selection of other topics, and you're really
not sure that you know enough. So calm down. Spend the first few moments or so looking at the paper, and
develop a plan of attack.
Looking through the paper:
The first section is 20 MCQs. These will cover all sectionsof the syllabus. Some you may find easy and some more
difficult. Don’t spend a lot of time on anything you reallydon’t know. You are not penalised for wrong answers, so
you should answer all of them. If all else fails – guess!
In Section Byou have three questions:
 Question 1 is a single company financial statements preparation question. The first requirement is to get the
formats down correctly – this will really help you to organise the information.
 Question 2 is a statement of cash flows including a finance lease.
 Question 3 a consolidated statement of financial position and comment on the consolidated financial
statements from a user perspective. Make sure you leave time for this short written part.
All of these questions are compulsory.
This means that you do not have to waste time wondering which questions to answer.
Allocating your time
BPP's advice is always allocate your time according to the marks for the question in total and for the parts of the
question. But use common sense. If you're confronted by an MCQ on a topic of which you know nothing, pick an
answer and move on. Use the time to pick up marks elsewhere.
After the exam…Forget about it!
And don't worry if you found the paper difficult. More than likely other candidates will too. If this were the real thing
you would need to forgetthe exam the minute you left the exam hall and think about the next one. Or, if it's the last
one, celebrate!
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228  Mock exam 1: answers
SECTION A
1  B    $’000
Return  (3,000 + 150 + 250)   3,400%
Capital employed  (12,550 + 1,400 + 1,200 + 750)  15,900
 = 21.4%  2  C  Net profit margin / net asset turnover
3 C   Shares ‘000
80million × 2 / 1.84 × 3/12  21,739
100million × 9/12   75,000
96,739
EPS = 31,200 / 96,739 = 32.3c
4  D  Equity  (9.75 + 2.8)  12.55
Debt  (3.125 + 1.5 – 1.725 + .45)  3.35
Gearing:  (3.35 / (3.35 + 12.55)) × 100 =  21%
Option A (10%) ignores the finance leases
Option B (35%) adds the loan note repayment instead of deducting it
Option C (28%) incorporates both of these errors
5  B  The only amount to be included is loan interest of $500,000 ($10 million × 10% × 6/12). The
transaction is a secured loan, not a sale, so there is no profit to be credited.
6  A  (i) does represent withdrawal from a separate geographical area, so qualifies to be classified as a
discontinued operation. (ii) does not represent withdrawal from either a geographical area or a major
line of business (as it has other hotels in Country B) so would not be treated as a discontinued
operation.
7  A  Global harmonisation of accounting standards does not affect currencies, so exchange differences
would still arise. The other options have all been identified as possible advantages.
8 A   $’000
Redundancy (200 × 5)   1,000
Plant impairment (2,200 – (500 – 50))  1,750
2,750
Note.Retraining costs are not included in a restructuring provision. The profit on sale of the facility
cannot be recognised until realised.
9  C  Provisions cannot be made for future operating losses. The other options would all give rise to valid
provisions.
10 C    $’000
Depreciation to 1.10.2012 (($2m / 20) × 6/12)  (50)  Revaluation gain ($2.34m – $2.3m)  40
Charge to profit or loss  (10)
A only reflects the depreciation, B only reflects the revaluation gain. Note that the surplus from $2m
to $2.3m will go to other comprehensive income, not profit or loss.
11  D  Fair value less costs to sell
12  A  Relevance and faithful representation
13  B  Current cost. Historical cost is the original amount of the asset or liability. Realisable value is the
amount that would be received to transfer the asset or the amount that would have to be paid to
settle the liability. Present value is the discountedamount of the future cash flows that can be
obtained from continuing to use an asset.
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Mock exam 1: answers  229
14 A  Fair value less costs of disposal ($6.2m – $0.2m)  $6 million
Value in use  $5.8 million
Recoverable amount (higher)  $6 million
15  C  This calls into question the inventory valuation atthe year end. The other options describe events that
have arisen after the year end and do not call into question conditions at the year end.
16  B  This is the definition of significant influence, not control. A, C and D form part of the definition of
control.
17 A    $m
Contract price  12
Total costs (6 + 9)   (15)
Foreseeable loss    (3)
Costs to date  6
Foreseeable loss
(3)
Progress billings    (4)
Due to customer    (1)
18  A  Fair value with changes going through profit or loss. Option B would be correct if an election had
been made to recognise changes in value through other comprehensive income. Amortised cost is
used for debt instruments, not equity instruments.
19  A    $
1 January 20X1   500,000
Interest 8% 40,000
Interest received (550,000 × 6%) (33,000)
31 December 20X1  507,000
Interest 8% 40,560
Interest received (33,000)
31 December 20X2  514,560
20  B  The profit should be deferred and amortised over the lease term. Option A would apply if there was
no leaseback. Option C would apply if the leaseback involved an operating lease.
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230  Mock exam 1: answers
SECTION B
1
Text references. Chapters 3, 4, 15, 17.
Top tips. This is a standard question – preparation of financial statements from a trial balance.
Easy marks. While there were a few difficult bits, some marks were available for items which just needed to be
brought across from the trial balance and dealing correctly with PPE and tax would have brought in five marks.
Marking scheme
Marks
(a)  Statement of profit or loss and OCI
Revenue  1
 Cost of sales  2
Distribution costs  ½
Administrative expenses  ½
Finance costs  ½
Income tax  1½
Other comprehensive income   1
7
(b) Statement of financial position
Property, plant and equipment  3
Inventory ½
Trade receivables  ½
Retained earnings  1½
Deferred tax  1
Trade payables  ½
Current tax  ½
Bank overdraft  ½
8
Total    15
(a)  STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDED 31 MARCH 20X3
$’000
Revenue    550,000
Cost of sales (W1)  (428,000)
Gross profit  122,000
Distribution costs
(21,500)
Administrative expenses
(30,900)
Finance costs     (700)
Profit before tax  68,900
Income tax expense ((27,200 – 1,200) + (9,400 – 6,200)) (29,200)
Profit for the year  39,700
Other comprehensive income:
Gain on revaluation of property (W3)    7,000
Total comprehensive income for the year    46,700
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Mock exam 1: answers  231
(b)  STATEMENT OF FINANCIAL POSITION AS AT 31 MARCH 20X3
$’000  $’000
ASSETS
Non-current assets
Property, plant and equipment (W2)   100,500
Current assets
Inventory  43,700
Trade receivables   42,200
85,900
Total assets  186,400
EQUITY AND LIABILITIES
Equity
Share capital  50,000
Share premium  20,000
Revaluation surplus  7,000
Retained earnings (11,200 + 39,700 – dividend 20,000)  30,900
107,900
Non-current liabilities
Deferred tax  9,400
Current liabilities
Trade payables
35,100
Tax payable
27,200
Overdraft    6,800
69,100
186,400
Workings
1  Expenses
Distribution Administrative
Cost of sales  costs  expenses
$’000 $’000 $’000
Per TB  411,500 21,500 30,900
Depreciation (W2)    16,500 – –
428,000  21,500  30,900
2  Property, plant and equipment
Land Buildings Plant  Total
$’000  $’000  $’000  $’000
Cost 10,000  50,000  94,500
Accumulated depreciation   –  (20,000) (24,500)
Balance 1 April 20X3  10,000  30,000  70,000  110,000
Revaluation surplus    2,000 5,000  7,000
Revalued amount  12,000  35,000
Depreciation (35/14) (70 × 20%)  – (2,500) (14,000) (16,500)
12,000  32,500  56,000  100,500
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232  Mock exam 1: answers
2 Monty
Text reference. Chapter 21.
Top tips. It’s important to be able to set down the format for the statement of cash flows without any trouble.
Finance leases are a frequent component of statements of cash flow and should be a familiar adjustment and
always remember to check the retained earnings balances to see whether a dividend has been paid.
Easy marks. There were plenty of easy marks available in the statement of cash flows – the working capital items,
the finance lease payments, the dividend, the loan notes.
Marking scheme
Marks
Profit before tax    ½
Depreciation/amortisation  1
Finance costs added back    ½
Working capital items (½ mark each)    1½
Finance cost paid (outflow)    ½
Income tax paid    2½
Purchase of property, plant and equipment    2½
Deferred development expenditure    1
Repayment of 8% loan notes    1
Repayment of finance lease obligations    2
Equity dividend paid    1
Cash b/f    ½
Cash c/f     ½
Total     15
STATEMENT OF CASH FLOWS FOR THE YEAR ENDED 31 MARCH 20X3
$’000 $’000
Cash flows from operating activities
Profit before tax  3,000
Depreciation 900
Amortisation 200
Interest payable  400
Decrease in inventory (W4)  500
Increase in trade receivables (W4)  (750)
Increase in trade payables(W4)    550
Cash generated from operations  4,800
Interest paid (400)
Income tax paid (W3) (425)
Net cash from operating activities    3,975
Cash flows from investing activities
Purchase of property, plant and equipment (W1)
(700)
Development expenditure (W1)  (1,200)
Net cash used in investing activities
(1,900)
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Mock exam 1: answers  233
$’000 $’000
Cash flows from financing activities
Redemption of loan notes (W3)
(1,725)
Payments under finance leases (W3)
(1,050)
Dividend paid (W2)    (550)
Net cash used in financing activities    (3,325)
Net decrease in cash and cash equivalents
(1,250)
Cash and cash equivalents at beginning of period    1,300
Cash and cash equivalents at end of period   50
Workings
1  Assets
Development
PPE expenditure
$’000  $’000
B/d  10,700  –
Revaluation  2,000
Depreciation/amortisation
(900) (200)
Non-cash addition (i)  1,500
Cash paid (β) 700  1,200
C/d  14,000  1,000
2  Equity
Share capital /  Retained
premium earnings
$’000  $’000
B/d  8,000  1,750
SPLOCI  2,000
Cash paid (dividend)    –    (550)
C/d  8,000  3,200
3  Liabilities
Loan notes Tax Finance leases Interest
$’000  $’000  $’000  $’000
B/d  3,125  1,525*  1,500**  –
SPLOCI   1,000  400
Deferred tax on reval  650
Additions   1,500
Cash paid (β) (1,725) (425) (1,050) (400)
C/d   1,400  2,750  1,950 –
*Deferred and current
**Non-current and current
4  Working capital
Inventories Receivables Payables
$’000 $’000 $’000
B/d  3,800 2,200 2,100
Movement    (500) 750 550
C/d  3,300  2,950  2,650
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234  Mock exam 1: answers
3 Paradigm
Text references.Chapter 9.
Top tips. Always pay attention to words in a question which are highlighted in bold. In this case, they drew your
attention to two important issues in this question – Strata showed a pre-acquisition loss and had a negative fair
value adjustment. The question was otherwise straightforward.
Easy marks. Five marks are allocated for the goodwill calculation and plenty of marks are available for standard
consolidation issues. Part (b) is worth five marks and it is important to leave time for this.
Examiner’s comments.Part (a) included a fair value adjustment for plant which was below its carrying amount –
which many candidates treated as a surplus. Most candidates correctly calculated and accounted for the value of
the share exchange and the NCI but there were some errors in calculating the number of loan notes issued. Some
candidates incorrectly calculated post-acquisition profit as $6 million. Many candidates failed to grasp the important
points to be made in part (b) – that consolidated financial statements are not useful for assessing the performance
of a single company and that, even when single entity financial statements are available, they can be distorted by
intragroup issues.
Marking scheme
Marks
(a)  Statement of financial position
 Property, plant and equipment  1½
Goodwill  5
Equity investments  1½
 Investment in associate  3½
Inventory  1
Trade receivables  1½
Bank  1
Equity shares  1½
Share premium  ½
Retained earnings  4
Non-controlling interest  1½
 10% loan notes  1
Trade payables  1
Bank overdraft   ½
25
(b)  1 mark per valid point     5
Total     30
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Mock exam 1: answers  235
(a)  CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT 31 MARCH 20X3
$’000  $’000
ASSETS
Non-current assets
Property, plant and equipment (47,400 + 25,500 – 2,500 (W6))  70,400
Goodwill (W1)  8,500
Financial asset: equity investments (7,100 + 3,900)  11,000
Investment in associate(W7)  3,350
93,250
Current assets
Inventory (17,400 + 8,400 – 600 (W2))  25,200
Receivables (14,800 + 9,000 – 900 (W3) – 2,800 interco)
20,100
Cash (2,100 + 900 (W3))    3,000
48,300
Total assets  141,550
EQUITY AND LIABILITIES
Equity attributable to owners of Paradigm
Share capital (40,000 + 6,000 (W1))   46,000  Share premium (W1)  6,000
Retained earnings (W4)  34,350
86,350
Non-controlling interest (W5)  8,800
95,150
Non-current liabilities
10% loan notes (8,000 + 1,500 (W1))  9,500
Current liabilities
Trade payables (17,600 + 13,000 – 2,800 intercompany)
27,800
Overdraft    9,100
36,900
Total equity and liabilities  141,550
Workings
1  Goodwill
$’000  $’000
Consideration transferred:
Shares (20m × 2/5 × 75% × $2)   12,000
Loan notes (15m × 100 / 1,000)   1,500
13,500
Non-controlling interest (5m × $1.2)   6,000
19,500
Net assets at acquisition;
Share capital  20,000
Retained earnings ((4,000) + (2,000))
(6,000)
Fair value adjustment (W5)  (3,000)
(11,000)
Goodwill   8,500
2  PURP
Intercompany sales in inventory $4.6m
PURP = $4.6m x 15 / 115 = $600,000
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236  Mock exam 1: answers
3  Intercompany cash in transit
 $’000  $’000  Dr Cash  900
Cr Receivables   900
4  Retained earnings
Paradigm Strata
$’000 $’000
Per draft
26,600
4,000  Add back pre-acquisition loss     6,000
10,000
PURP
(600)
Gain (loss) on equity investments*
(400)  700  Movement on fair value adjustment (W6)     500
11,200
Group share of Strata – 75% × 11,200
8,400
Group share of Rainbow (W7)    350
Group retained earnings   34,350
*Loss on equity investments in Paradigm: ((10,500 – 3,000) – 7,100)
5  Non-controlling interest
$’000
Fair value at acquisition (W1)  6,000
Share of post –acquisition retainedearnings (11,200 (W4) × 25%)   2,800
8,800
6  Movement on fair value adjustment
At acquisition  Movement  At year end
$’000 $’000 $’000
FVA on plant (W1)  (3,000)  500  (2,500)
7  Investment in Rainbow
$’000  $’000
Cost of investment   3,000
Post-acquisition earnings (13.5m – 7.5m)  6,000
Less dividend paid  (2,000)
4,000
× 3/12  1,000
× 35%  350
3,350
Note.Paradigm’s share of the dividend received from Rainbow will already be included in its retained
earnings.
(b)  The consolidated financial statements of Paradigm would not give much useful information regarding the
individual performance and financial position of Strata. The individual financial statements of Strata are also
likely to be subject to certain shortcomings.
As Paradigm is hoping to sell Strata in the near future, it wants to present Strata’s results as favourably as
possible. One way in which the appearance of results canbe improved is through transfer pricing. We know
that intercompany trading has taken place and that Paradigm has been selling to Strata at below its normal
trading price, effectively transferring profit from the parent to the subsidiary. The goods bought from
Paradigm, marked up by 15% on cost, have cost Strata $4.6m per month. At the normal mark-up of 40% on
cost, Strata would have been paying $5.6m per month. Inthis way, Paradigm has transferred $6m profits to
Strata. Without this intervention, Strata’s retained earnings for the year ended 31 March 20X3 would have
been down to $2m and the overdraft consequently increased.
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Mock exam 1: answers  237
There is also the matter of the £3m fair value loss on Strata’s plant. This means that assets in Strata’s
individual statement of financial position are overvalued by £3m and the adjustment to deal with this is lost
in the consolidated financial statements.
An investor looking over the financial statements of Strata for the year ended 31 March 20X3 may be
tempted to see an impressive turnaround in profitability attributable to the expertise of Paradigm’s
management. They should dig a bit deeper, beginning with the financial statements for the prior year, before
the acquisition by Paradigm.
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238  Mock exam 1: answers
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239
ACCA
Fundamentals Level
Paper F7
Financial Reporting
Mock Examination 2
Question Paper
Time allowed
Reading and Planning
Writing
15 minutes
3 hours
Answer all FIVE questions
DO NOT OPEN THIS PAPER UNTIL YOU ARE READY TO START UNDER
EXAMINATION CONDITIONS
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Mock exam 2: questions  241
Section A – ALL 20 questions are compulsory and MUST be
attempted
1  Which of the following are possible effects of rising prices upon financial statements?
(i) Understatement of operating costs
(ii)  Understatement of capital employed
(iii)  Overstatement of capital employed
(iv) Overstatement of profits
(v) Understatement of profits
A (i), (ii) and (iv)
B  (ii), (iii) and (v)
C  (i), (iii) and (iv)
D  (ii), (iv) and (v)  (2 marks)
2  On 1 September 20X3 Laidlaw factored (sold) $2 million of trade receivables to Finease for an immediate
payment of $1.8 million and further amounts depending on how quickly Finease collects the receivables.
Finease will charge a monthly administration fee and interest on the outstanding balance and any receivables
not collected after four months would be sold back to Laidlaw.
How should Laidlaw account for this factoring arrangementin its financial statements for the year ended 30
September 20X3?
A  Derecognise the receivables and recognise a loss on disposal of $200,000
B  Continue to recognise the receivables and treat the $1.8 million received as a loan
C  Continue to recognise the receivables and treat the $1.8 million as deferred income
D  Derecognise the receivables and make a provision for the loss of $200,000  (2 marks)
3  Which pair of ratios would provide the most useful information to a bank providing a long-term loan to a
business?
A  Asset turnover and ratio of expenses to sales
B  Gearing and interest cover
C  ROCE and gross profit margin
D  Return on equity and EPS  (2 marks)
4  Penfold holds several properties under operating leases. If these were treated as finance leases how would
that affect these ratios?
ROCE Gearing
A Decrease Decrease
B Decrease Increase
C Increase Decrease
D Increase Increase  (2 marks)
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242  Mock exam 2: questions
5  Raycroft operates a nuclear power station. The power station is due to be decommissioned on
31 December 20X8 but will be fully operational up to that date. It has been estimated that the cost of
decommissioning the power station and cleaning up any environmental damage, as required by legislation,
will be $60 million. Raycroft recognised a provision for the present value of this expenditure at 31 December
20X0. A suitable discount rate for evaluating costs of this nature is 12%, equivalent to a present value factor
after eight years of 0.404. The decommissioning cost will be depreciated over eight years.
What is the total charge to profit or loss in respect of this provision for the year ended 31 December 20X1?
A $2,880,800
B $3,030,000
C $5,939,800
D $7,500,000  (2 marks)
6  On 1 December 20X4 Scaffold acquired 80% of the 3,000,000 issued ordinary shares of Plank. The
consideration for each share acquired comprised a cash payment of $1.20 and two ordinary shares in
Scaffold. The market value of a $1 ordinary share in Scaffold on 1 December 20X4 was $1.50, rising to
$1.60 by the entity’s year end on 31 December 20X4. Professional fees paid to Scaffold’s external
accountants and legal advisors in respect of the acquisition were $400,000.
At what amount would the investment in Plank be recordedin the entity financial statements of Scaffold for
the year ended 31 December 20X4?
A $10,480,000
B $10,080,000
C $10,560,000
D $10,960,000  (2 marks)
7  Where the purchase price of an acquisition is less thanthe aggregate amount of the non-controlling interest
plus fair value of net assets acquired, IFRS 3 requires that the value of the assets acquired and liabilities
assumed be reassessed. If no change is made as a result of this reassessment, how should the difference be
treated?
A  Deduct from goodwill in the consolidated statement of financial position
B  Recognise immediately as a gain in other comprehensive income
C  Recognise in profit or loss over its useful life
D  Recognise immediately as a gain in profit or loss  (2 marks)
8  At a year-end board meeting on 31 March 20X2, Pulsar’s directors made the decision to close down one of
its factories at the end of the following year, on 31 March 20X3. The factory and its related plant would then
be sold. A formal plan was formulated and the factory’s employees were given three months’ notice of
redundancy on 1 January 20X3. Customers and suppliers were also informed of the closure at this date.
How should the closure be accounted for?
A  Discontinued operation as at 31 March 20X2
B  Discontinued operation during the year to 31 March 20X3
C  No discontinued operation, but restructuring provision at 31 March 20X3
D  No discontinued operation or restructuring provision  (2 marks)
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Mock exam 2: questions  243
9  Which of the following items would qualify for treatment as a change in accounting estimate according to
IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors?
(i)  Provision for obsolescence of inventory
(ii)  Correction necessitated by a material error
(iii)  A change of inventory valuation from FIFO to weighted average
(iv)  A change in the useful life of a non-current asset
A  All four items
B  (ii) and (iii) only
C  (i) and (iii) only
D  (i) and (iv) only  (2 marks)
10  A company purchased a machine for $50,000 on 1 January20X1. It was judged to have a five-year life with
a residual value of $5,000. On 1 January 20X3 $15,000 was spent on an upgrade to the machine. his
extended its remaining useful life to 5 years with the same residual value. During 20X3 the market for the
product declined and the machine was sold on 1 January 20X4 for $7,000.
What was the loss on disposal?
A $30,600
B $40,000
C $31,600
D $29,000  (2 marks)
11  The components of the cost of a major item of equipment are given below:
$
Purchase price  780,000
Import duties  117,000
VAT (refundable)  78,000
Site preparation  30,000
Installation 28,000
Testing 10,000
Initial losses before asset reaches planned performance  50,000
Discounted cost of dismantling and removal at end of useful life    40,000
1,133,000
What amount should be recognised as the cost of the asset in accordance with
IAS 16 Property, Plant and Equipment?
A $896,000
B $1,045,000
C $1,005,000
D $1,133,000  (2 marks)
12  Which one of the following would be included in the cost of inventories of goods for resale in accordance
with IAS 2 Inventories?
A Storage costs
B Administrative overheads
C Import duties
D Selling costs  (2 marks)
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244  Mock exam 2: questions
13  The position of a construction contract at 31 March 20X9 is as follows.
$
Contract price  900,000  At 31 March:
Costs to date  720,000
Estimated costs to complete  480,000
Progress payments invoiced  400,000
Percentage complete  60%
What amount should appear as ‘amount due to/from customers’ in respect of this contract in the statement
of financial position as at 31 March 20X9?
A  $220,000 due to customer
B  $20,000 due from customer
C  $180,000 due to customer
D $100,000 due from customer  (2 marks)
14  On 1 January 20X3 Wincarnis purchased 30,000 $1 shares in a listed entity for $5 per share. Transaction
costs were $2,000 and Wincarnis elected to recognise the shares at fair value through other comprehensive
income. At the year end of 31 December 20X3 the shares were trading at $6.50.
At what amount will the shares be recognised in the statement of financial position of Wincarnis at 31
December 20X3?
A $197,000
B $195,000
C $193,000
D $152,000  (2 marks)
15  A company’s statement of profit or loss showed a profit before tax of $1.8 million. After the end of
the reporting period and before the financial statements were authorised for issue, the following
events took place.
(i)  The value of an investment held at the year end fell by $85,000.
(ii)  A customer who owed $116,000 at the year end went bankrupt owing a total of $138,000.
(iii)  Inventory valued at $161,000 in the statement of financial position was sold in year-end condition for
$141,000.
(iv)  Assets with a carrying amount at the year end of $240,000 were unexpectedly expropriated by the
government.
What is the company’s profit before tax after making the necessary adjustments for these events?
A $1,399,000
B $1,579,000
C $1,664,000
D $1,800,000  (2 marks)
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Mock exam 2: questions  245
16  Which of the following statements are correct in accordance with IAS 37 Provisions, Contingent Liabilities
and Contingent Assets?
(i)  Provisions should be made for both constructive and legal obligations.
(ii)  Discounting may be used when estimating the amount of a provision.
(iii)  A restructuring provision must include the estimated costs of retraining or relocating continuing
staff.
(iv)  A restructuring provision may only be made when a company has a detailed plan for the restructuring
and has communicated to interested parties a firm intention to carry it out.
A  All four statements are correct
B  (i), (ii) and (iv) only
C  (i), (iii) and (iv) only
D  (ii) and (iii) only  (2 marks)
17  On 25 June 20X9 Cambridge received an order from a new customer, Circus, for products with a sales value
of $900,000. Circus enclosed a deposit with the order of $90,000.
On 30 June Cambridge had not completed credit checks on Circus and had not despatched any goods.
Cambridge is considering the following possible entries for this transaction in its financial statements for the
year ended 30 June 20X9.
(i)  Include $900,000 in revenue for the year
(ii)  Include $90,000 in revenue for the year
(iii)  Do not include anything in revenue for the year
(iv)  Create a trade receivable for $810,000
(v)  Show $90,000 as a current liability
According to IAS 18 Revenue, how should Cambridge record this transaction in its financial statements for
the year ended 30 June 20X9?
A (i) and (iv)
B (ii) and (v)
C (ii) and (iv)
D  (iii) and (v)  (2 marks)
18  Phantom acquired 70% of the $100,000 equity share capital of Ghost, its only subsidiary, for $200,000 on 1
January 20X9 when the retained earnings of Ghost were $156,000.
At 31 December 20X9 retained earnings are as follows.
$
Phantom 275,000
Ghost 177,000
Phantom considers that goodwill on acquisition is impairedby 50%. Non-controlling interest is measured at
fair value, estimated at $82,800.
What are group retained earnings at 31 December 20X9?
A $276,300
B $289,700
C $280,320
D $269,200  (2 marks)
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246  Mock exam 2: questions
19  Ruby owns 30% of Emerald and exercises significant influence over it. Emerald sold goods to Ruby for
$160,000. Emerald applies a one third mark up on cost. Ruby still had 25% of these goods in inventory at
the year end.
What amount should be deducted from consolidated retained earnings in respect of this transaction?
A $40,000
B $3,000
C $10,000
D $4,000  (2 marks)
20  The following information relates to an entity.
(i)  At 1 January 20X8 the carrying amount of non-current assets exceeded their tax written down value
by $850,000.
(ii)  For the year to 31 December 20X8 the entity claimed depreciation for tax purposes of $500,000 and
charged depreciation of $450,000 in the financial statements.
(iii)  During the year ended 31 December 20X8 the entity revalued a freehold property. The revaluation
surplus was $250,000. There are no current plans to sell the property.
(iv)  The tax rate was 30% throughout the year.
What is the provision for deferred tax required by IAS 12 Income Taxesat 31 December 20X8?
A $240,000
B $270,000
C $315,000
D $345,000  (2 marks)
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Mock exam 2: questions  247
SECTION B – ALL 3 questions are compulsory and MUST be
attempted
1  On 1 April 20X3, Polestar acquired 75% of the 12 million 50 cent equity shares of Southstar. Southstar had
been experiencing difficult trading conditions and making significant losses. Its retained earnings at the
acquisition date were $14.3 million. In allowing for Southstar’s difficulties, Polestar made an immediate cash
payment of only £1.50 per share. In addition, Polestar will pay a further amount in cash on 30 September
20X4 if Southstar returns to profitability by that date. The value of this contingent consideration at the date
of acquisition was estimated to be $1.8 million, but at 30 September 20X3 in the light of continuing losses,
its value was estimated at only $1.5 million. The contingent consideration has not been recorded by
Polestar. Overall, the directors of Polestar expect the acquisition to be a bargain purchase leading to
negative goodwill.
At the date of acquisition shares in Southstar had a listed market price of $1.20 each.
The statements of profit or loss of both companies are as follows.
STATEMENTS OF PROFIT OR LOSS FOR THE YEAR ENDED 30 SEPTEMBER 20X3
Polestar Southstar
$’000 $’000
Revenue  110,000 66,000
Cost of sales   (88,000)  (67,200)
Gross profit (loss)
22,000
(1,200)
Distribution costs
(3,000)  (2,000)
Administrative expenses
(5,250)  (2,400)
Finance costs    (250)  –
Profit (loss) before tax
13,500
(5,600)
Income tax (expense)/relief (3,500)  1,000
Profit (loss) for the year  10,000 (4,600)
The following information is relevant:
(i)  At the date of acquisition, the fair values of Southstar’s assets were equal to their carrying amounts
with the exception of a leased property. This had a fair value of $2 million above its carrying amount
and a remaining lease term of ten years at that date. All depreciation is included in cost of sales.
(ii)  Polestar transferred raw materials at their cost of $4 million to Southstar in June 20X3. Southstar
processed all of these materials incurring additional direct costs of $1.4 million and sold them back
to Polestar in August 20X3 for $9 million. At 30 September 20X3 Polestar had $1.5 million of these
goods still in inventory. There were no other intragroup sales.
(iii)  Polestar has recorded its investment in Southstar at the cost of the immediate cash payment; other
equity investments are carried at fair value through profit or loss as at 1 October 20X2. The other
equity investments have fallen in value by $200,000 during the year ended 30 September 20X3.
(iv)  Polestar’s policy is to value the non-controlling interest at fair value at the date of acquisition. For this
purpose, Southstar’s share price at that date can be deemed to be representative of the fair value of
the shares held by the non-controlling interest.
(v)  All items in the above statements of profit orloss are deemed to accrue evenly over the year unless
otherwise indicated.
Required
(a)  Calculate the goodwill on acquisition of Southstar.  (4 marks)
(b)  Prepare the consolidated statement of profit or loss for Polestar for the year ended 30 September
20X3.  (11 marks)
(15 marks)
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248  Mock exam 2: questions
2  Shown below are the recently issued (summarised) financial statements of Harbin, a listed company, for the
year ended 30 September 20X7, together with comparatives for 20X6 and extracts from the Chief
Executive's report that accompanied their issue.
STATEMENT OF PROFIT OR LOSS
20X7  20X6
$'000  $'000
Revenue   250,000  180,000
Cost of sales   (200,000) (150,000)
Gross profit   50,000  30,000
Operating expenses
(26,000) (22,000)
Finance costs  (8,000) (nil)
Profit before tax   16,000  8,000
Income tax expense (at 25%)  (4,000) (2,000)
Profit for the year   12,000    6,000
STATEMENT OF FINANCIAL POSITION
20X7  20X6
$'000  $'000
Non-current assets
Property, plant and equipment   210,000  90,000
Goodwill   10,000 nil
220,000 90,000
Current assets
Inventory  25,000  15,000
Trade receivables   13,000  8,000
Bank  nil 14,000
38,000 37,000
Total assets   258,000  127,000
Equity and liabilities
Equity shares of $1 each   100,000  100,000
Retained earnings   14,000 12,000
114,000  112,000
Non-current liabilities
8% loan notes   100,000 nil
Current liabilities
Bank overdraft   17,000
nil
Trade payables   23,000  13,000
Current tax payable  4,000 2,000
44,000 15,000
Total equity and liabilities   258,000  127,000
Extracts from the Chief Executive's report:
'Highlights of Harbin's performance for the year ended 30 September 20X7:
An increase in sales revenue of 39%
Gross profit margin up from 16.7% to 20%
A doubling of the profit for the period
In response to the improved position the Board paid a dividend of 10 cents per share in September 20X7 an
increase of 25% on the previous year.'
You have also been provided with the following further information.
On 1 October 20X6 Harbin purchased the whole of the net assets of Fatima (previously a privately owned
entity) for $100 million, financed by the issue of $100,000 8% loan notes. The contribution of the purchase
to Harbin's results for the year ended 30 September 20X7 was:
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Mock exam 2: questions  249
$'000
Revenue    70,000
Cost of sales   (40,000)
Gross profit    30,000
Operating expenses    (8,000)
Profit before tax    22,000
There were no disposals of non-current assets during the year.
The following ratios have been calculated for Harbin for the year ended 30 September.
20X6 20X7
Return on year-end capital employed  7.1%  11.2%
(profit before interest and tax over total assets less current liabilities)
Net asset (equal to capital employed) turnover  1.6  1.17
Net profit (before tax) margin  4.4%  6.4%
Current ratio  2.5  0.86:1
Closing inventory holding period (in days)  37  46
Trade receivables' collection period (in days)  16  19
Trade payables' payment period (based on cost of sales) (in days)  32  42
Gearing (debt over debt plus equity)  nil  46.7%
Required
Assess the financial performance and position of Harbin for the year ended 30 September 20X7 compared to
the previous year. Your answer should refer to the information in the Chief Executive's report and the impact
of the purchase of the net assets of Fatima. Up to three marks are available for additional ratios.
(15 marks)
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250  Mock exam 2: questions
3  The following trial balance relates to Moby as at 30 September 20X3.
$’000 $’000
Revenue 227,800  Cost of sales  164,500   Construction contract (Note 1)  4,000   Distribution costs  13,500   Administrative expenses  16,500   Bank interest  900
Dividend 2,000  Lease rental paid on 30 September 20X3 (Note 2)  9,200   Land ($12 million) and building ($48 million) at cost (Note 2)  60,000   Owned plant and equipment at cost (Note 2)  65,700   Leased plant at initial carrying amount (Note 2)  35,000   Accumulated depreciation at 1 October 20X2:
Building   10,000
Owned plant and equipment   17,700
Leased plant   7,000  Inventory at 30 September 20X3  26,600   Trade receivables  38,500
Bank 5,300
Insurance provision (Note 3)   150
Deferred tax (Note 4)   8,000
Finance lease obligation at 1 October 20X2 (Note 2)   29,300
Trade payables   21,300
Current tax (Note 4)   1,050
Equity shares of 20 cents each   45,800
Share premium   3,200
Loan note (Note 5)   40,000  Retained earnings at 1 October 20X2   – 19,800
436,400  436,400
Notes
The following notes are relevant.
1  The balance on the construction contract is made up of the following items.
Cost incurred to date  $14 million
Value of contract billed (work certified)  $10 million
The contract commenced on 1 October 20X2 and is for a fixed price of $25 million. The costs to
complete the contract at 30 September 20X3 are estimated at $6 million. Moby’s policy is to accrue
profits on construction contracts based on a stage of completion given by the work certified as a
percentage of the contract price.
2 Non-current assets:
Moby decided to revalue its land and buildings for the first time on 1 October 20X2. A qualified valuer
determined the relevant revalued amounts to be $16 million for the land and $38.4 million for the
building. The building’s remaining life at the date of the revaluation was 16 years. This revaluation
has not yet been reflected in the trial balance figures. Moby does not make a transfer from the
revaluation surplus to retained earnings in respectof the realisation of the revaluation surplus.
Deferred tax is applicable to the revaluation surplus at 25%.
The leased plant was acquired on 1 October 20X1 under a five-year finance lease which has an
implicit interest rate of 10% per annum. The rentals are $9.2 million per annum payable on 30
September each year.
Owned plant and equipment is depreciated at 12.5% per annum using the reducing balance method.
No depreciation has yet been charged on any non-current asset for the year ended 30 September
20X3. All depreciation is charged to cost of sales.
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Mock exam 2: questions  251
3  On 1 October 20X2 Moby received renewal quote of$400,000 from the company’s property insurer.
The directors were surprised at how much it had increased and believed it would be less expensive
for the company to ‘self-insure’. Accordingly, they charged $400,000 to administrative expenses and
credited the same amount to the insurance provision. During the year, the company incurred
$250,000 of expenses relating to previously insured property damage which it has debited to the
provision.
4  A provision for income tax for the year ended 30 September 20X3 of $3.4 million is required. The
balance on current tax represents the under/over provision of the tax liability for the year ended 30
September 20X2. At 30 September 20X3 the tax base of Moby’s net assets was $24 million less than
their carrying amounts. This does not include the effect of the revaluation in Note 2 above. The
income tax rate of Moby is 25%.
5  The $40 million loan note was issued at par on 1 October 20X2. No interest will be paid on the loan;
however it will be redeemed on 30 September 20X5 for $53,240,000, which gives an effective finance
cost of 10% per annum.
6  A share issue was made on 31 December 20X2 of 4 million shares for $1 per share. It was correctly
accounted for.
Required
(a)  Prepare the statement of profit or loss and other comprehensive income for Moby for the year ended
30 September 20X3.  (12 marks)
(b)  Prepare the statement of changes in equity for Moby for the year ended 30 September 20X3.
(6 marks)
(c)  Prepare the statement of financial position for Moby as at 30 September 20X3.  (12 marks)
(30 marks)
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252  Mock exam 2: questions
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253
Answers
DO NOT TURN THIS PAGE UNTIL YOU HAVE
COMPLETED THE MOCK EXAM
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254
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Mock exam 2: answers  255
A plan of attack
Managing your nerves
As you turn the pages to start this mock exam a number of thoughts are likely to cross your mind. At best,
examinations cause anxiety so it is important to stay focused on your task for the next three hours! Developing an
awareness of what is going on emotionally within you may help you manage your nerves. Remember, you are
unlikely to banish the flow of adrenaline, but the key is to harness it to help you work steadily and quickly through
your answers.
Working through this mock exam will help you develop the exam stamina you will need to keep going for three
hours.
Managing your time
Planning and time management are two of the key skills which complement the technical knowledge you need to
succeed. To keep yourself on time, do not be afraid to jot down your target completion times for each question,
perhaps next to the title of the question on the paper. As all the questions are compulsory, you do not have to
spend time wondering which question to answer!
Doing the exam
Actually doing the exam is a personal experience. There is not a single right way. As long as you submit complete
answers to all questions after the three hours are up, then your approach obviously works.
Looking through the paper
Section A has 20 MCQs. This is the section of the paper where the examiner can test knowledge across the breadth
of the syllabus. Make sure you read these questions carefully. The distractors are designed to present plausible, but
incorrect, answers. Don’t let them mislead you. If you really have no idea – guess. You may even be right.
Section has three longer questions:
 Question 1 is on group accounts. This time it requires calculation of goodwill and a consolidated statement
of profit or loss. You have to deal with contingent consideration and unrealised profit.
 Question 2 is aninterpretation of financial statements question. You have been given the ratios. The
marks are all for your analysis.
 Question 3 is a single entity statement of profit or loss and other comprehensive income, statement of
changes in equity and statement of financial position.This includes a construction contract, a finance lease,
deferred tax and a financial instrument.
Allocating your time
BPP's advice is to always allocate your time according to the marks for the question. However, use common
sense. If you're doing a question but haven't a clue how to do part (b), you might be better off re-allocating your
time and getting more marks on another question, where you can add something you didn't have time for earlier
on. Make sure you leave time to recheck the MCQs and make sure you have answered them all.
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256  Mock exam 2: answers
SECTION A
1  A  When prices are rising, the historical cost of inventory will be less than the cost of replacing it, giving
rise to an understatement of operating costs and overstatement of profits. Where non-current assets
are held at cost, they may have fallen significantly below replacement cost, leading to an
understatement of the value of capital employed.
2  B  The receivables have been factored ‘with recourse’, so Laidlaw still bears the risks and rewards. A
and D assume the receivables have been factored ‘without recourse’. C is not correct because the
substance of the transaction is a secured loan.
3  B  Gearing and interest cover will give the bank the most information regarding whether this client will
be able to make repayments on a loan. A and C will be monitored by management, D will be of
interest to shareholders.
4  B  Capital employed (assets) would increase, causing ROCE to decrease and debt (amounts due under
finance leases) would increase, thereby increasing gearing.
5  C    $
Unwinding of discount (24,240,000* × 12%)   2,909,800
Depreciation (24,240,000/8)  3,030,000
5,939,800
* 60 million × 0.404 = 24,240,000
6 B   $’000
Cash (80% × 3 million × $1.20)  2,880  Shares (80% × 3 million × 2 × $1.50)   7,200
10,080
7  D  This is treated as negative goodwill arising froma bargain purchase and recognised as a gain in
profit or loss.
8  C  This does not qualify as a discontinued operation, so A and B are incorrect, but a restructuring
provision should be made. It is not a discontinued operation because it does not represent
withdrawal from either a major line of business or a geographical area of operations.
9  D  The provision for inventory obsolescence and a change in useful life are both arrived at using
estimates. Correction of a material error and a change in inventory valuation will both be accounted
for retrospectively.
10  C    $  Balance 1 January 20X1  50,000
Depreciation (45,000 × 2/5)  (18,000)
Balance 1 January 20X3  32,000
Upgrade  15,000
47,000
Depreciation (42,000 / 5)  (8,400)
Balance 1 January 20X4  38,600
Proceeds  (7,000)
Loss on disposal  31,600
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Mock exam 2: answers  257
11  C    $
Purchase price  780
Import duty  117
Site preparation  30
Installation 28
Testing 10
Dismantling    40
1,005
12  C  Import duties are included in the cost of inventory. The other expenses are included in
distribution or administrative costs.
13  B    $
Costs to date  720
Less loss (900 – (720 + 480))   (300)
420
Less billings  (400)
Due from customer    20
14 A    $’000
30,000 × $6.50  195,000
Transaction costs    2,000
197,000
Note that because the shares are held at fair value through other comprehensive income the
transaction costs are added to fair value in the statement of financial position.
15 C    $’000
Unadjusted profit  1,800
Irrecoverable debt  (116)
Loss on sale of inventory    (20)
1,664
16  B  A restructuring provision must notinclude the costs of retraining or relocating staff.
17  D  No sale has taken place but Cambridge must show that it is holding $90,000 which belongs to
Circus.
18 C    $  $
Consideration  200,000
NCI  82,800
Net assets:
Shares 100,000
Retained earnings   156,000  256,000
Goodwill   26,800
Phantom   275,000
Ghost:
(177 – 156) × 70% 14,700
Goodwill impairment (26,800 / 2) × 70%   (9,380)
Group retained earnings   280,320
19  B  ($160,000 / 4) × 25% × 30% = $3,000
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258  Mock exam 2: answers
20 D   $’000
Difference b/f  850
Additional difference (500 – 450)  50
Revaluation surplus    250
1,150
× 30%    345
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Mock exam 2: answers  259
SECTION B
1
Top tips.As always, pay close attention to dates. In this case Southstar is a mid-year acquisition, so profit or loss
will need to be apportioned.
Easy marks.There were not any major technical difficulties in this question. The negative goodwill was flagged in
the question, so it was only necessary to know how to deal with it. There were plenty of marks available for the
goodwill calculation.
Marking scheme
Marks
Goodwill working:
Consideration transferred  1
Non-controlling interest  ½
Net assets   2½
4
Consolidated statement of profit or loss
Revenue  1½
Cost of sales3
Distribution costs½
Administrative expenses1½
Negative goodwill1
Loss on equity investments½
Decrease in contingent consideration  ½
Finance costs  ½
Income tax expense  ½
Non-controlling interest  1½
11
Total    15
(a)  Goodwill on acquisition
$’000  $’000
Consideration transferred:
Cash  13,500
Contingent consideration   1,800
15,300
Non-controlling interest at fair value   3,600
18,900
Fair value of net assets:
Share capital  6,000
Retained earnings at 30.9.X3  12,000
Add back post-acquisition losses (4,600 × 6/12)  2,300
Fair value adjustment on property   2,000
(22,300)
Negative goodwill    (3,400)
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260  Mock exam 2: answers
(b)  CONSOLIDATED STATEMENT OF PROFIT OR LOSS FOR THE YEAR ENDED 30 SEPTEMBER 20X3
$’000
Revenue (110,000 + (66,000 × 6/12) – 13,000(W2))  130,000  Cost of sales (W1)  (109,300)
Gross profit  20,700
Distribution costs (W1)
(4,000)
Administrative expenses (W1)
(2,950)
Finance costs (250)
Profit before tax  13,500
Income tax (3,500,- 500) (3,000)
Profit for the year 13,500
Profit attributable to:
Owners of Polestar (β) 11,250
Non-controlling interest (W3) 750
13,500
Workings
1  Expenses
Distribution Administrative
Cost of sales  costs  expenses
$’000  $’000  $’000
Polestar 88,000  3,000  5,250
Southstar × 6/12  33,600  1,000  1,200
Intragroup (W2)  (13,000)
PURP (W2)  600
Depreciation on FVA (20,000 / 10 × 6/12)  100
Adj contingent consideration (1.8 – 1.5)      (300)
Negative goodwill (W2)     (3,400)
Loss on investments      200
109,300 4,000 2,950
2  Intragroup trading
$’000 $’000
Polestar sales to Southstar   4,000  Southstar sales to Polestar    9,000
13,000
DR Revenue  13,000
CR Cost of sales  13,000
Unrealised profit = 9,000 – 5,400 = 3,600
Still in inventory = 3,600 × 1.5 / 9 = 600
DR Revenue (Southstar)  600
CR Group inventory   600
3  Non-controlling interest
$’000
Post-acquisition loss ((4,600) × 6/12)  (2,300)
Depreciation on FVA (W1)  (100)
PURP (W2)    (600)
3,000
× 25%    750
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Mock exam 2: answers  261
2
Text references. Chapters 19 and 20.
Top tips. You have been given most of the ratios in this question. You can probably see that additional ratios are
relevant here, to illustrate the effect of the purchase of Fatima. The examiner frequently points out that to compare
two ratios and say something went up or down is not analysis. You must look behind the numbers and make some
suggestion regarding why this has happened.
Easy marks. You were told that the purchase of Fatima was significant, so you must allow for this in looking at the
ratios and compute additional ratios as needed. If you did this, the ratios gave you plenty to analyse.
Examiner's comments. Unfortunately, the performance assessment in this question was quite poor. Some
candidates did not even point out obvious issues arising from the purchase of Fatima.
Marking scheme
Marks
Ratios  3
Consideration of Chief Executive's report
3
Impact of purchase 6
Remaining issues -½ mark per valid point   3
15
It is clear that the acquisition of Fatima has had a very positive impact on Harbin's results for the year ended
30 September 20X7. For this reason it is instructive to look at the 20X7 ratios which have been affected by the
acquisition and see what they would have been without the addition of Fatima's results. The additional ratios are at
the end of this report.
Profitability
It is immediately apparent that without the purchase of Fatima the Chief Executive's report would have looked very
different. The increase in sales revenue of 39% would have disappeared. The sales revenue of Harbin is static. The
increase in gross profit margin from 16.7% to 20% would have been a fall to 11.1%. The profit for the period would
not have doubled. It would have gone from an $8m profit before tax in 20X6 to a $2m profit before tax in 20X7,
assuming that the loan note interest would not have arisen. This would have given an ROCE of 2.05% for 20X7
rather than the 11.2% when Fatima is included. If we break ROCE down into net profit% and asset turnover, we can
see that Fatima's results have increased the net profit% by almost six times, while having an adverse effect on the
asset turnover due to the $100m funding through loan notes. There is some distortion in the 20X7 figures arising
from interest charges which are not deducted in calculating ROCE but have been deducted in arriving at net profit.
Liquidity
While it has greatly enhanced Harbin's profitability, the purchase of Fatima has done little for liquidity, an aspect not
touched on in the extract from the Chief Executive's report. Harbin borrowed $100m to pay for Fatima, so the
purchase was not funded from working capital. However, it has paid $8m loan note interest, increased its inventory
holding by $10m, invested in additional property, plant and equipment and paid a $10m dividend. In this way it has,
despite the increased profit, converted a positive cash balance of $14m to an overdraft of $17m. The ratios show
this very clearly. Harbin's current ratio has declined from 2.5:1 to 0.86:1 and its quick ratio (not shown above) has
declined from 1.47:1 to 0.30:1, casting some doubt upon whether it will be able to continue to meet its
commitments as they fall due.
The increase in the inventory holding period is worrying, as it suggests that Harbin may have inventory which is
slow-moving, and the increase in the payables period by ten days suggests problems paying suppliers. Harbin has a
$4m tax bill outstanding. If this is not paid on time it will incur interest, which will further weaken the cash position.
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262  Mock exam 2: answers
Gearing
The cost of acquiring Fatima is directly reflected in the gearing ratio, which has gone from nil in 20X6 to 46.7% in
20X7, with the issue of the loan notes. This will reduce profits available for distribution to shareholders in the future
and if Harbin's cash position does not improve it may be forced to seek further loans. In the light of this, the
increase of 25% in the dividend is hard to justify.
Appendix – ratios adjusted for purchase of Fatima
With Fatima  Without Fatima
20X7 20X7  Return on year-end capital employed  11.2%
24,000* – 22,000/ 114,000 – (22,000 – 5.500**)   2.05%  (profit before interest and tax over total assets less current liabilities)    Net asset (equal to capital employed) turnover  1.17
250,000 – 70,000 / 114,000 – (22,000 – 5,500)   1.85  Net profit (before tax) margin  6.4%
24,000 – 22,000 / 250,000 – 70,000   1.1%
* Without the acquisition of Fatima the finance costs of $8,000 would not be incurred.
** $5,500 = 25% tax
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Mock exam 2: answers  263
3
Top tips.The issues to deal with here were the construction contract, the revaluation and the deferred tax. None of
these were complicated, but make sure you know how to calculate amounts due to/from customers on a
construction contract and how to deal with deferred tax on a revaluation.
Easy marks.There were quite a few marks for items which only had to be lifted from the trial balance, so it was
important to get the proformas down and collect those marks. The lease and the loan note were both simple and
worth several marks.
Marking scheme
Marks
Statement of profit or loss and other comprehensive income
Revenue 1½
Cost of sales  3
Distribution costs  ½
Administrative expenses  1
Finance costs  2
Income tax expense  2
Gain on revaluation  1
Deferred tax on gain   1
12
Statement of changes in equity
Opening balances  1
Share issue  2
Dividend 1
Total comprehensive income  1
Closing balances   1
6
Statement of financial position    Property, plant and equipment  2½
Inventory ½
Amount due on contract  1½
Trade receivables  ½
Revaluation surplus  1
Retained earnings  ½
Non-current lease obligation  1
Deferred tax  1
Loan note  1
Current lease obligation  ½
Bank overdraft  ½
Trade payables  ½
Current tax payable   1
12
30
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264  Mock exam 2: answers
(a)  STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDED 30 SEPTEMBER 20X3
$’000
Revenue (227,800 + 10,000 (W2))  237,800  Cost of sales (164,500 + 8,000 (W2) + 15,400 (W1))  (187,900)
Gross profit  49,900
Distribution costs
(13,500)
Administrative expenses (16,500 – 150)
(16,350)
Finance costs (900 + 4,000 (W4) + 2,930 (W5))  (7,830)
Profit before tax  12,220
Income tax expense (W3) (350)
Profit for the year  11,870
Other comprehensive income:
Gain on revaluation of land and buildings (W1)  4,400
Deferred tax on gain (W3)  (1,100)
Total other comprehensive income 3,300
Total comprehensive income for the year  15,170
(b)  STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 30 SEPTEMBER 20X3
Share Share Retained Revaluation
capital premium earnings  surplus  Total
$’000 $’000 $’000 $’000 $’000
Balance at 1 October 20X2  45,000  –  19,800  –  64,800
Share issue  800  3,200    4,000
Dividend paid    (2,000)   (2,000)
Total comprehensive income   – –  11,870  3,300  15,170
Balance at 30 September 20X3  45,800  3,200  29,670  3,300  81,970
(c)  STATEMENT OF FINANCIAL POSITION AS AT 30 SEPTEMBER 20X3
$’000 $’000
ASSETS
Non-current assets
Property, plant and equipment (W1)   115,000
Current assets
Inventory 26,600
Receivables 38,500  Due from customers on construction contract (W2)   6,000
71,100
186,100
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Mock exam 2: answers  265
EQUITY AND LIABILITIES    $’000
Equity
Share capital   45,800
Share premium    3,200
Revaluation surplus (OCI)    3,300
Retained earnings (19,800 + 11,870)   29,670
81,970
Non-current liabilities
Loan note (W4)  44,000
Deferred tax (W3)  7,100
Amount due under finance lease (W5)  16,133
67,233
Current liabilities
Trade payables  21,300
Income tax payable 3,400
Amount due under finance lease (W5)  6,897
Overdraft    5,300
36,897
186,100
Workings
1  Expenses
Cost of sales  Distribution  Administrative
costs expenses
$’000  $’000  $’000
Per question  164,500  13,500  16,500
Construction contract (W3)  8,000
Depreciation (W2) – building  2,400
– owned plant  6,000
– leased plant  7,000
Insurance provision reversal      (150)
187,900  13,500  16,350
2  Property, plant and equipment
Leased
Land Building Plant  plant  Total
$’000 $’000  $’000 $’000 $’000
Cost 1.10.X2   12,000  48,000  65,700  35,000  160,700
Depreciation b/f   (10,000) (17,700) (7,000) (34,700)
12,000  38,000  48,000  28,000  126,000
Revaluation    4,000 400  4,400
16,000  38,400  48,000  28,000  130,400
Depreciation:   Building
(2,400) (2,400)
P+E (48,000 × 12.5%)  (6,000) (6,000)
Leased (35,000 / 7)       (5,000) (5,000)
Balance 30.9.X3  16,000  36,000  42,000  21,000  115,000
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266  Mock exam 2: answers
3  Construction contract
$’000
Revenue (work certified (10 / 25 = 40%)   10,000  Cost of sales ((14 + 6) × 40%)    (8,000)
Profit to date  2,000
Due from customers:
Costs to date  14,000
Profit to date  2,000
Less billed to date  (10,000)   6,000
4  Income tax
$’000  Deferred tax balance:
On taxable temporary difference (24m × 25%)  6,000  On revaluation (4,400 × 25%)  1,100
Liability at 30 September 20X3  7,100
Balance b/f at 1 October 20X2  8,000
Reduce balance by 900
Income tax charge:
Provision for year  3,400
Prior year over-provision
(1,050)
Reduction in deferred tax balance
(900)
Deferred tax on revaluation debited to revaluation surplus  (1,100)
Charge for year 350
5  Loan note
$’000
Proceeds 40,000  Interest 10%  4,000
Balance  44,000
6  Leased plant
$’000
Cost 1.10.X1  35,000
Interest 10%  3,500  Instalment paid   (9,200)
Balance 30.9.X2  29,300
Interest 10% 2,930
Instalment paid (9,200)
Balance 30.9.X3  23,030
Interest to 30.9.X4 2,303
Instalment payable (9,200)
Balance 30.9.X4  16,133
Non-current balance  16,133
Current balance 6,897
23,030
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267
ACCA
Fundamentals Level
Paper F7
Financial Reporting
Mock Examination 3
Question Paper
Time allowed
Reading and Planning
Writing
15 minutes
3 hours
Answer all FIVE questions
DO NOT OPEN THIS PAPER UNTIL YOU ARE READY TO START UNDER
EXAMINATION CONDITIONS
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268
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Mock exam 3: questions  269
Section A – ALL 20 question are compulsory and MUST be
attempted
1  Which of the following items should be capitalised within the initial carrying amount of an item of plant?
(i)  Cost of transporting the plant to the factory
(ii)  Cost of installing a new power supply required to operate the plant
(iii)  A deduction to reflect the estimated realisable value
(iv)  Cost of a three-year maintenance agreement
(v)  Cost of a three-week training course for staff to operate the plant
A  (i) and (ii) only
B (i), (ii) and (iii)
C  (ii), (iii) and (iv)
D  (i), (iv) and (v)  (2 marks)
2  Quartile is in the jewellery retail business which can be assumed to be highly seasonal. For the year ended
30 September 2014, Quartile assessed its operating performance by comparing selected accounting ratios
with those of its business sector average as provided by an agency. You may assume that the business
sector used by the agency is an accurate representation of Quartile’s business.
Which of the following circumstances may invalidate the comparison of Quartile’s ratios with those of the
sector average?
(i)  In the current year, Quartile has experienced significant rising costs for its purchases.
(ii)  The sector average figures are complied from companies whose year end is between 1 July 2014 and
30 September 2014.
(iii)  Quartile does not revalue its properties, but is aware that other entities in this sector do.
(iv)  During the year, Quartile discovered an error relating to the inventory count at 30 September 2013.
This error was correctly accounted for in the financial statements for the current year ended
30 September 2014.
A All four
B (i), (ii) and (iii)
C  (ii) and (iii) only
D  (ii), (iii) and (iv)  (2 marks)
3  Which of the following criticisms does notapply to historical cost accounts during a period of rising prices?
A  They contain mixed values; some items are at current values, some at out of date values.
B  They are difficult to verify as transactions could have happened many years ago.
C  They understate assets and overstate profit.
D  They overstate gearing in the statement of financial position.  (2 marks)
4  Dempsey’s year end is 30 September 2014. Dempsey commenced the development stage of a project to
produce a new pharmaceutical drug on 1 January 2014. Expenditure of $40,000 per month was incurred
until the project was completed on 30 June 2014 when the drug went into immediate production. The
directors became confident of the project’s success on 1 March 2014. The drug has an estimated life span of
five years; time apportionment is used by Dempsey where applicable.
What amount will Dempsey charge to profit or loss for development costs, including any amortisation, for
the year ended 30 September 2014?
A $12,000
B $98,667
C $48,000
D $88,000  (2 marks)
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270  Mock exam 3: questions
5  On 1 October 2013, Fresco acquired an item of plant under a five-year finance lease agreement. The plant
had a cash purchase cost of $25 million. The agreement had an implicit finance cost of 10% per annum and
required an immediate deposit of $2 million and annual rentals of $6 million paid on 30 September each year
for five years.
What would be the current liability for the leased plant in Fresco’s statement of financial position as at
30 September 2014?
A $19,300,000
B $4,070,000
C $5,000,000
D $3,850,000  (2 marks)
6  The following information has been taken or calculated from Fowler’s financial statements for the year ended
30 September 2014.
Fowler’s cash cycle at 30 September 2014 is 70 days. Its inventory turnover is six times.
Year-end trade payables are $230,000. Purchases on credit for the year were $2 million. Cost of sales for the
year was $1.8 million.
What is Fowler’s trade receivables collection period as at 30 September 2014?
All calculations should be made to the nearest full day. The trading year is 365 days.
A 106 days
B 89 days
C 56 days
D 51 days  (2 marks)
7  Which of the following would be a change in accounting policy in accordance with
IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors?
A  Adjusting the financial statements of a subsidiary prior to consolidation as its accounting policies
differ from those of its parent
B  A change in reporting depreciation charges as cost of sales rather than as administrative expenses
C  Depreciation charged on reducing balance method rather than straight line
D  Reducing the value of inventory from cost to net realisable value due to a valid adjusting event after
the reporting period
(2 marks)
8  On 1 January 2014, Viagem acquired 80% of the equity share capital of Greca.
Extracts of their statements of profit or loss for the year ended 30 September 2014 are:
Viagem Greca
$’000 $’000
Revenue 64,600  38,000
Cost of sales  (51,200)  (26,000)
Sales from Viagem to Greca throughout the year ended 30 September 2014 had consistently been $800,000
per month. Viagem made a mark-up on cost of 25% on these sales. Greca had $1.5 million of these goods in
inventory as at 30 September 2014.
What would be the cost of sales in Viagem’s consolidated statement of profit or loss for the year ended
30 September 2014?
A $59.9 million
B $61.4 million
C $63.8 million
D $67.9 million  (2 marks)
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Mock exam 3: questions  271
9  The objective of IAS 17 Leases is to prescribe the appropriate accounting treatment and required disclosures
in relation to leases.
Which twoof the following situations would normally lead to a lease being classified as a finance lease?
(i)  The lease transfers ownership of the asset to the lessee by the end of the lease term
(ii)  The lease term is for approximately half of the economic life of the asset
(iii)  The lease assets are of a specialised nature such that only the lessee can use them without major
modifications being made
(iv)  At the inception of the lease, the present value of the minimum lease payments is 60% of what the
leased asset would cost to purchase
A (i) and (ii)
B (i) and (iii)
C (ii) and (iii)
D  (iii) and (iv)  (2 marks)
10  Which of the following is nota purpose of the IASB’s Conceptual Framework?
A  To assist the IASB in the preparation and review of IFRS
B  To assist auditors in forming an opinion on whether financial statements comply with IFRS
C  To assist in determining the treatment of items not covered by an existing IFRS
D  To be authoritative where a specific IFRS conflicts with the Conceptual Framework  (2 marks)
11  An associate is an entity in which an investor has significant influence over the investee.
Which of the following indicate(s) the presence of significant influence?
(i)  The investor owns 330,000 of the 1,500,000 equity voting shares of the investee.
(ii)  The investor has representation on the board of directors of the investee.
(iii)  The investor is able to insist that all of the sales of the investee are made to a subsidiary of the
investor.
(iv)  The investor controls the votes of a majority of the board members.
A  (i) and (ii) only
B (i), (ii) and (iii)
C  (ii) and (iii) only
D All four  (2 marks)
12  Consolidated financial statements are presented on the basis that the companies within the group are treated
as if they are a single (economic) entity.
Which of the following are requirements of preparing group accounts?
(i)  All subsidiaries must adopt the accounting policies of the parent.
(ii)  Subsidiaries with activities which are substantially different to the activities of other members of the
group should not be consolidated.
(iii)  All entity financial statements within a group should (normally) be prepared to the same accounting
year end prior to consolidation.
(iv)  Unrealised profits within the group must be eliminated from the consolidated financial statements.
A All four
B  (i) and (ii) only
C  (i), (iii) and (iv)
D  (iii) and (iv)  (2 marks)
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272  Mock exam 3: questions
13  The Caddy group acquired 240,000 of August’s 800,000 equity shares for $6 per share on 1 April 2014.
August’s profit after tax for the year ended 30 September 2014 was $400,000 and it paid an equity dividend
on 20 September 2014 of $150,000.
On the assumption that August is an associate of Caddy, what would be the carrying amount of the
investment in August in the consolidated statement of financial position of Caddy as at 30 September 2014?
A $1,455,000
B $1,500,000
C $1,515,000
D $1,395,000  (2 marks)
14  On 1 October 2013, Hoy had $2·5 million of equity shares of 50 cents each in issue.
No new shares were issued during the year ended 30 September 2014, but on that date there were
outstanding share options to purchase 2 million equityshares at $1.20 each. The average market value of
Hoy’s equity shares during the year ended 30 September 2014 was $3 per share.
Hoy’s profit after tax for the year ended 30 September 2014 was $1,550,000.
In accordance with IAS 33 Earnings per Share, what is Hoy’s diluted earnings per share for the year ended
30 September 2014?
A 25.0 cents
B 22.1 cents
C  31.0 cents
D 41.9 cents  (2 marks)
15  Although the objectives and purposes of not-for-profit entities are different from those of commercial
entities, the accounting requirements of not-for-profit entities are moving closer to those entities to which
IFRSs apply.
Which of the following IFRS requirements would notbe relevant to a not-for-profit entity?
A  Preparation of a statement of cash flows
B  Requirement to capitalise a finance lease
C  Disclosure of earnings per share
D  Disclosure of non-adjusting events after the reporting date  (2 marks)
16  Riley acquired a non-current asset on 1 October 2009 at a cost of $100,000 which had a useful economic
life of ten years and a nil residual value. The asset had been correctly depreciated up to 30 September 2014.
At that date the asset was damaged and an impairment review was performed. On 30 September 2014, the
fair value of the asset less costs to sell was $30,000 and the expected future cash flows were $8,500 per
annum for the next five years. The current cost of capital is 10% and a five-year annuity of $1 per annum at
10% would have a present value of $3.79.
What amount would be charged to profit or loss for the impairment of this asset for the year ended
30 September 2014?
A $17,785
B $20,000
C $30,000
D $32,215  (2 marks)
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Mock exam 3: questions  273
17  Trent uses the formula:
(trade receivables at year end/revenue for the year) × 365 to calculate how long on average (in days) its
customers take to pay.
Which of the following would notaffect the correctness of the above calculation of the average number of
days a customer takes to pay?
A  Trent experiences considerable seasonal trading
B  Trent makes a number of cash sales through retail outlets
C  Reported revenue does not include a 15% sales tax whereas the receivables do include the tax
D  Trent factors with recourse the receivable of its largest customer  (2 marks)
18 Which twoof the following events which occur after the reporting date of a company but before the financial
 statements are authorised for issue are classified as adjustingevents in accordance with
IAS 10Events After the Reporting Period?
(i)  A change in tax rate announced after the reporting date, but affecting the current tax liability
(ii)  The discovery of a fraud which had occurred during the year
(iii)  The determination of the sale proceeds of an item of plant sold before the year end
(iv)  The destruction of a factory by fire
A (i) and (ii)
B (i) and (iii)
C (ii) and (iii)
D  (iii) and (iv)  (2 marks)
19  Financial statements represent transactions in words and numbers. To be useful, financial information must
represent faithfully these transactions in terms of how they are reported.
Which of the following accounting treatments would be an example of faithful representation?
A  Charging the rental payments for an item of plant to the statement of profit or loss where the rental
agreement meets the criteria for a finance lease
B  Including a convertible loan note in equity on the basis that the holders are likely to choose the equity
option on conversion
C  Derecognising factored trade receivables sold without recourse
D  Treating redeemable preference shares as part of equity in the statement of financial position
(2 marks)
20  Isaac is a company which buys agricultural produce from wholesale suppliers for retail to the general public.
It is preparing its financial statements for the year ending 30 September 2014 and is considering its closing
inventory.
In addition to IAS 2 Inventories, which of the following IFRSs may be relevant to determining the figure to be
included in its financial statements for closing inventories?
A IAS 10 Events After the Reporting Period
B IAS 11 Construction Contracts
C IAS 16 Property, Plant and Equipment
D IAS 41 Agriculture  (2 marks)
(40 marks)
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274  Mock exam 3: questions
Section B – ALL 3 questions are compulsory and MUST be
attempted
1  Tangier’s summarised financial statements for the years ended 30 September 2014 and the comparative
figures are shown below.
STATEMENTS OF PROFIT OR LOSS FOR THE  YEAR ENDED 30 SEPTEMBER
2014  2013
$m  $m
Revenue 2,700  1,820
Cost of sales   (1,890) (1,092)
Gross profit   810  728
Administrative expense
(345) (200)
Distribution costs
(230) (130)
Finance costs    (40) (5)
Profit before taxation   195  393
Income tax expense  (60) (113)
Profit for the year    135 280
STATEMENTS OF FINANCIAL POSITION AS AT 30 SEPTEMBER
2014 2013
$m $m $m $m  Non-current assets  
Property, plant and equipment  680  410
Intangible asset: manufacturing licence 300  200
Investment at cost – Raremetal  230
nil
1,210  610
Current assets
Inventory 200  110
Trade receivables  195  75
Total assets nil 395  120  305
1,605  915
Equity and liabilities
Equity shares of $1 each  430  250
Retained earnings  375  295
805  545
Non-current liabilities
5% secured loan notes  100  100
10% secured loan notes  300  400 nil  100
Current liabilities
Bank overdraft  110
nil
Trade payables  210  160
Current tax payable 80 400  110  270
Total equity and liabilities  1,605  915
The following additional information has been obtained in relation to the operations of Tangier for the year
ended 30 September 2014.
(i)  On 1 January 2014, Tangier won a tender for a new contract to supply Jetside with aircraft engines
which Tangier manufactures under a recently acquired licence. The bidding process had been very
competitive and Tangier had to increase its manufacturing capacity to fulfil the contract.
(ii)  The company also decided to invest in Raremetal by buying 8% of its equity shares to secure
supplies of specialised materials used in the manufacture of the engines. No dividends were received
from Raremetal nor had the value of its shares increased.
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Mock exam 3: questions  275
On seeing the results for the first time, one of the company’s non-executive directors is disappointed by the
current year’s performance.
Required
Explain how the new contract and its related costs may have affected Tangier’s operating performance
during the year ended 30 September 2014, identifying any further information regarding the contract which
may be useful to your answer.
Note: Your answer should be supported by appropriate ratios (up to five marks); however, ratios and
analysis of working capital are not required.  (15 marks)
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276  Mock exam 3: questions
2  On 1 October 2013, Pyramid acquired 80% of Square’s equity shares by means of a share exchange of two
shares in Pyramid for every three acquired shares in Square. In addition, Pyramid would make a deferred
cash payment of 88 cents per acquired share on 1 October 2014. Pyramid has not recorded any of the
consideration. Pyramid’s cost of capital is 10% per annum. The market value of Pyramid’s shares at
1 October 2013 was $6.
The following information is available for the two companies as at 30 September 2014.
Pyramid Square
$'000 $’000
Assets
Non-current assets
Property, plant, and equipment  38,100 28,500
Equity and liabilities
Equity
Equity and shares of $1 each  50,000 9,000
Other components of equity  8,000 nil
Retained earnings – at 1 October 2013  16,200 19,000
– for the year ended 30 September 2014  14,000 8,000
The following information is relevant:
(i)  At the date of acquisition, Square’s net assets were equal to their carrying amounts with the following
exceptions.
An item of plant which had a fair value of $3 million above its carrying amount. At the date of
acquisition it had a remaining life of five years (straight-line depreciation).
Square had an unrecorded deferred tax liability of $1million, which was unchanged as at
30 September 2014.
(ii)  Pyramid’s policy is to value the non-controlling interest at fair value at the date of acquisition. For this
purpose a share price of $3.50 each is representative of the fair value of the shares in Square held by
the non-controlling interest at the acquisition date.
(iii)  Consolidated goodwill has not been impaired.
Required
Prepare extracts from Pyramid’s consolidated statement of financial position as at 30 September 2014 for:
(a) Consolidated goodwill  (5 marks)
(b)  Property, plant and equipment  (2 marks)
(c)  Equity (share capital and reserves)  (6 marks)
(d) Non-controlling interests  (2 marks)
(15 marks)
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Mock exam 3: questions  277
3  The following trial balance relates to Quincy as at 30 September 2014.
$’000  $’000
Revenue (Note 2)
213,500
Cost of sales  136,800
Distribution costs  17,500
Administrative expenses (Note 2)  19,000
Loan note interest paid (Note 2)
1,500
Investment income 400
Equity shares of 25 cents each  60,000
6% loan note (Note 2)  25,000
Retained earnings at 1 October 2013  4,300
Land and buildings at cost (land element $10 million) (Note 3)  50,000
Plant and equipment at cost (Note 3)  83,700
Accumulated depreciation at 1 October 2013: buildings  8,000
 plant and equipment  33,700
Equity financial asset investments (Note 4)  17,000
Inventory at 30 September 2014 24,800
Trade receivables  28,500
Bank  2,900
Current tax (Note 5)  1,100
Deferred tax note (Note 5)  1,200
Trade payables   36,700
382,800  382,800
Notes
The following notes are relevant.
1  On 1 October 2013, Quincy sold one of its productsfor $10 million (included in revenue in the trial
balance). As part of the sale agreement, Quincy is committed to the ongoing servicing of this
product until 30 September 2016 (ie three years from the date of sale). The value of this service has
been included in the selling price of $10 million. The estimated cost to Quincy of the servicing is
$600,000 per annum and Quincy’s normal gross profit margin on this type of servicing is 25%.
Ignore discounting.
2  Quincy issued a $25 million 6% loan on 1 October 2013. Issue costs were $1 million and these have
been charged to administrative expenses. Interest is paid annually on 30 September each year. The
loan will be redeemed on 30 September 2016 at a premium which gives an effective interest rate on
the loan of 8%.
3 Non-current assets:
Quincy had been carrying land and buildings at depreciated cost, but due to a recent rise in property
prices, it decided to revalue its property on 1 October 2013 to market value. An independent valuer
confirmed the value of the property at $60 million (land element $12 million) as at that date and the
directors accepted this valuation. The property had a remaining life of 16 years at the date of its
revaluation. Quincy will make a transfer from the revaluation reserve to retained earnings in respect
of the realisation of the revaluation. Ignore deferred tax on the revaluation.
On 1 October 2013, Quincy had a processing plant installed at a cost of $10 million which is included
in the trial balance figure of plant and equipment at cost. The process the plant performs will cause
immediate contamination of the nearby land. Quincy will have to decontaminate (clean up) this land
at the end of the plant’s ten-year life (straight-line depreciation). The present value (discounted at a
cost of capital of 10% per annum) of the decontamination is $6 million. Quincy has not made any
accounting entries in respect of this cost.
All other plant and equipment is depreciated at 12½% per annum using the reducing balance method.
No depreciation has yet been charged on any non-current asset for the year ended
30 September 2014. All depreciation is charged to cost of sales.
Other than referred to above, there were no acquisitions or disposals of non-current assets.
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278  Mock exam 3: questions
4  The investments had a fair value of $15.7 million as at 30 September 2014. There were no
acquisitions or disposals of these investments during the year ended 30 September 2014.
5  The balance on current tax represents the under/over provision of the tax liability for the year ended
30 September 2013. A provision for income tax for the year ended 30 September 2014 of
$7.4 million is required. At 30 September 2014, Quincy had taxable temporary differences of $5
million requiring a provision for deferred tax. Any deferred tax adjustment should be reported in
profit or loss. The income tax rate of Quincy is 20%.
Required
(a)  Prepare the statement of profit or loss and other comprehensive income for Quincy for the
year ended 30 September 2014.  (12 marks)
(b)  Prepare the statement of changes in equity for Quincy for the year ended 30 September 2014.
(3 marks)
(c)  Prepare the statement of financial position of Quincy as at 30 September 2014.  (12 marks)
(d)  Calculate the increase in the carrying amount of property, plant and equipment during the year
ended 30 September 2014 from the perspective of:  (3 marks)
(i)  The change between the opening and closing statements of financial position; and
(ii)  The statement of cash flows.
Comment on which perspective may be more usefulto users of Quincy’s financial statements.
Notes to the financial statements are not required.
(30 marks)
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279
Answers
DO NOT TURN THIS PAGE UNTIL YOU HAVE
COMPLETED THE MOCK EXAM
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280
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Mock exam 3: answers  281
A plan of attack
What's the worst thing you could be doing right now if this was the actual exam paper? Sharpening your pencil?
Wondering how to celebrate the end of the exam in aboutthree-hours’ time? Panicking, flapping and generally
getting in a right old state?
Well, they're all pretty bad, so turn back to the paper and let's sort out a plan of attack!
First things first
You have fifteen minutes of reading time. This paper is the examiners specimen paper, so it is the best indication of
what you will see in your exam. Read it carefully.
The F7 paper has 20 MCQs and three compulsory questions. Therefore, you do not have to spend your 15 minutes
reading time working out which questions to answer. So you can use it to read the paper and get some idea of what
you need to do. At this stage you can make notes on the question paper but not in the answer book. So scribble
down anything you feel you might otherwise forget.
It's a good idea to just start with the MCQs. Once you have them done, you will feel more relaxed. Leave any that
you are unsure of and come back to them later but don’t leave any unanswered.
In Section B:
Question 1 is an interpretation of accounts question. Note that only five marks are available for ratios. The other ten
marks are for your analysis. Remember you do not get marks for simply saying that a ratio went up or down. It is
your job to look at why this happened.
Question 2 is on group financial statements. What is required here is extracts rather than complete financial
statements, but the basic workings will be the same.
Question 3 is a single company accounts preparation question.This question does not have a lot of complications –
a servicing agreement, a property revaluation, an environmental provision and a financial instrument – but it does
require three financial statements. Set the formats out and then tackle the workings. Make it very clear to the
marker which workings belong to which statement and cross-reference them.
The discussion part at the end is easy for three marks. Make sure you do it.
You've got spare time at the end of the exam…..?
If you have allocated your time properly then you shouldn't have time on your handsat the end of the exam and
you should start by checking the MCQs to make sure you have left none unanswered. But if you find yourself with
five or ten minutes to spare, check over your work to make sure that there are no silly arithmetical errors.
Forget about it!
And don't worry if you found the paper difficult. More than likely other candidates will too. If this were the real thing
you would need to forgetthe exam the minute you leave the exam hall and think about the next one. Or, if it's the
last one, celebrate!
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282 Mock exam 3: answers
SECTION A
1  A  Only the transportation and the power supply can be included. The maintenance agreement and the
training course are profit or loss items. Non-current assets are capitalised at cost, not realisable
value.
2  C  A possible three-month difference in year-end date can be significant in a seasonal business and
Quartile could be expected to show a proportionately higher ROCE than entities that revalue their
properties. Rising costs will have been experienced by all companies and the inventory adjustment
will have been corrected to make opening inventory for the current year correct.
3  B  Historical cost accounts can always be verified as asset values are based on transaction costs of
which there should be a record. Many values will be out of date and this understatement of asset
values will lead to an understatement of equity and overstatement of gearing.
4 D   $
Expenses 1 January to 1 March (40,000 × 2)  80,000  4 months capitalised and depreciated   ((40,000 × 4) / 5 years × 3/12)   8,000
88,000
5 B
$’000
Liability 1 October 2013 (25m – 2m)  23,000
Interest 10%  2,300
Rental  (6,000)
Balance 30 September 2014  19,300
Interest 10% 1,930
Rental  (6,000)
Balance 30 September 2015  15,230
So current liability = (19,300,000 – 15,230,000) = $4,070,000
6 D Inventory days (365/6)  61
Payables days (($230,000 / $2m) × 365)  (42)
Receivables days (β)  51
Cash cycle  70
7  B  This is a change in presentation which will affect calculation of gross profit and will be retrospectively
adjusted when presenting comparatives. A and D are simply adjustments made during preparation of
the financial statements, C is a change of accounting estimate.
8 C  $’000
Viagem 51,200
Greca (26,000 × 9/12)  19,500
Intercompany sales (800 × 9)  (7,200)
PURP (1,500 × 25/125)    300
63,800
9  B  A lease which transfers ownership at the end of the lease term would normally be classified as a
finance lease as would lease of an asset of a specialised nature, such that it can only be used by the
lessee unless modifications are made. The lease term would need to be for ‘the major part’ (not
approximately half) of the economic life of the asset if the criterion in (ii) were being used. Regarding
(iv), the present value of the minimum lease payments would have to amount to ‘substantially all’ of
the fair value of the asset.
10  D  Whenever there is a conflict between an IFRS and the Conceptual Framework, the IFRS takes
precedence.
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Mock exam 3: answers  283
11  A  The present of significant influence is indicated by a shareholding of 20% or more (i) or
representation on the board (ii). Regarding (iii), material transactions would need to be between the
investor itself and the investee. (iv) amounts to control, not significant influence.
12  D  Consolidated financial statements should beprepared using uniform accounting policies, making
whatever adjustments are needed if a group company has applied different policies. This does not
mean that all subsidiaries must adopt the accounting policies of the parent. Subsidiaries with
substantially different activities are still consolidated,
Unrealised profit must be eliminated because consolidated financial statements are only concerned
with profits earned by transactions with parties outside the group.
13 A   $’000
Cost of investment (240 × 6)  1,440
Share of post-acquisition retained earnings
((400 × 6/12) – 150) × 30%    15
1,455
14  A  Dilution: 2m shares @$1.20 is equivalent to 800,000 shares at full market price of $3 and the
remaining 1.2m issued for no consideration.
Diluted EPS = 1550 / (2,500 × 2)+ 1,200) = 1550 / 6,200 = 25c
15  C  Not-for-profit entities do not have share capital so EPS is not relevant. The other requirements could
be relevant to a not-for-profit entity.
16  A   $
Carrying amount (100,000 × 5/10)  50,000
Fair value less costs to sell  30,000
Value in use (8,500 × 3.79)  32,215
Recoverable amount is $32,215 and impairment loss = 50,000 – 32,215 = $17,785
17  D  A receivable factored with recourse will still be included in trade receivables at the year end. Option A
will create particular distortion if the busiest period is just before the year end. Cash sales will need to
be removed from the calculation and an adjustment will have to be made for sales tax.
18  C  (ii) and (iii) both provide evidence of conditions that existed at the end of the reporting period. (i) and
(iv) refer to conditions which arose after the reporting period.
19  C  Trade receivables factored without recourse should be derecognised. The other accounting
treatments are all incorrect.
20  A  IAS 10 may be relevant as agricultural produce is perishable and if prices have to be reduced after the
year end, this will affect the year end valuation.
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284 Mock exam 3: answers
SECTION B
Text reference. Chapter 19.
Top tips. There are 15 marks for this question but only five are for ratios. Most of the marks are for your analysis,
so read the information carefully and make sure you are answering the question.
Easy marks. Only five marks were available for ratios, so it was important to decide which were the important
ratios. The question helped by ruling out working capital ratios.
Examiner’s answer. The examiner’s answer to this question is at the end of this Kit.
Marking scheme
Marks
1 mark per valid point (up to 5 for ratios)    15
It is not difficult to see why the non-executive director ofTangier is disappointed at the results for the year to
31 March 2014. Revenue has increased by $880m but has only generated an additional $82m gross profit and an
increase in expenses has left profit before tax at less than half of the 2013 profit. Profit appears to have been
sacrificed to revenue and, if the executive directors are being paid bonuses on the basis of revenue, this is
something that the non-executive directors will want to investigate.
The first thing we notice is that the gross profit % has fallen from 40% to 30%. This is because the increase in
revenue has been accompanied by an increase of $798m in cost of sales. As the bidding process for the contract
was very competitive, Tangier has probably gone in at a very low price in order to secure the contract and is now
making a loss on it.
In order to fulfil the contract Tangier has had to pay $125m for a manufacturing licence and invest $230m in shares
of Raremetal. This was in order to secure material supplies,but the low profit margin on this contract implies that
the investment did not result in any agreement to deliver materials at a competitive price. Perhaps, as its name
suggests, Raremetal has no competitors. The shareholding in Raremetal has also performed very poorly as an
investment, yielding neither dividend nor capital growth.
ROCE for the year ended 31 March 2014 has fallen from 61.7% to 19.5%. This reflects both the fall in net profit %
from 21.86% to 8.7% and the fall in asset turnover from2.82 to 2.24. Capital employed has increased from $645m
to $1,205m, reflecting the debt and equity issued to fund the increase in non-current assets, but this has not
generated additional profits.
The debt issued has increased finance costs by $35m and, despite the share issue, gearing has more than doubled,
from 15.5% to 33% – an increase from 18.3% to 49.7% if wemeasure it as debt/equity. Tangier’s new loan is at
twice the interest rate of the existing loan and is secured, presumably on its property. This suggests that the
markets are worried about the company’s level of debt. Tangier is now running an overdraft of $110m.
It would be useful to know when production actually commenced on the Jetside contract and what the duration of
the contract is. It could be that productivity and profit on the contract will improve over the next financial year. It
would also be useful to have a breakdown of distribution and administrative expenses, which also seem to have
been adversely affected by this contract. There could be one-off expenses included, perhaps relating to the
negotiation of the contract, which will not recur.
Ratios
2014 2013
Gross profit %  810 / 2,700 % / 738 / 1,820 %  30%  40%
ROCE  235/1,205 % / 398 / 645 %  19.5%  61.7%
Net profit (PBIT)%  235 / 2,700 % / 398 / 1,820 %  8.7%  21.86%
Asset turnover  2,700 / 1,205 / 1,820 / 645  2.24  2.82
Gearing (debt/debt + equity)  400 / 1,205 % / 100 / 645%  33%  15.5%
Debt/equity %  400 / 805 % / 100 / 545 %  49.7%`  18.3%
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Mock exam 3: answers  285
2
Text references. Chapters 9 and 11.
Top tips. This is a consolidated statement of financial position extracts question. Students should be very familiar
with these elements.
Easy marks. The only complex bits in this question were the share exchange and the deferred consideration. Other
than that, there were plenty of easy marks.
Examiner’s answer. The examiner’s answer to this question is at the end of this Kit.
Marking scheme
Marks
(a)  Goodwill    5
(b)  Property, plant and equipment    2
(c)  Equity:
Equity shares  1½
Other equity reserves  1½
Retained earnings  3
6
(d)  Non-controlling interest  2
15
(a)  Goodwill
$’000  $’000
Consideration transferred
Share exchange ($6 × (9,000 × 80%) × 2/3)  28,800
Deferred consideration (((9,000 × 80%) × 0.88) × 1/1.1)    5,760
34,560
Non-controlling interest at fair value ((9,000 × 20%) × 3.5)   6,300
40,860
Fair value of net assets:
Shares  9,000
Retained earnings  19,000
Fair value adjustment on plant  3,000
Deferred tax liability  (1,000)
(30,000)
Goodwill    10,860
(b)  Property, plant and equipment
$’000
Pyramid  38,100
Square  28,500
Fair value adjustment  3,000
Depreciation on fair value adjustment (3,000 / 5)    (600)
69,000
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286 Mock exam 3: answers
(c)  Equity
Attributable to owners of parent:  $’000
Share capital (50,000 + (9,000 × 80%) × 2/3))  54,800
Share premium (4,800 × $5)  24,000
Other components of equity  8,000  Retained earnings (W)   35,544
122,344
Working
Retained earnings
$’000
Pyramid (16,200 + 14,000)  30,200
Square ((8,000 – 600) × 80%)  5,920  Unwinding of discount on deferred consideration (5,760 × 10%)   (576)
35,544
(d)  Non-controlling interests
$’000
FV of NCI at acquisition (a)  6,300
Share of post-acquisition retained earnings ((8,000 – 600) × 20%)  1,480
7,780
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Mock exam 3: answers  287
3
Text references Chapters 3, 4 and 14.
Top tips. This is quite a time-pressured question so you need to work fast. Get the proformas down for all three
statements and then go methodically through the workings, filling in the proformas as you go.
Easy marks. There are some marks available for figures that canbe lifted straight from the question and a good,
clear PPE working will enable you to fill in several gaps.
Examiner’s answer.The examiner’s answer to this question is at the end of this kit.
Marking scheme
Marks
(a) Consolidated statement: of profit or loss and other comprehensive income
Revenue  1½
Cost of sales  2½
Distribution costs  ½
Administrative expenses  1
Investment income  ½
Loss on investments  1
Finance costs  2
Income tax  2
Gain on revaluation of land and buildings   1
12
(b) Statement of changes in equity
Balances b/f  1
Total comprehensive income  1
Transfer to retained earnings   1
3
(c) Statement of financial position
Property, plant and equipment  3
Investments in equity instruments  1
Inventory  ½
Trade receivables  ½
Bank  ½
Deferred tax  1
Deferred revenue  1
Environmental provision  1½
6% loan note  1½
Trade payables  ½
Current tax payable   1
12
(d) Increase per statement of financial position  1
Increase per cash flows  1
Appropriate comment   1
3
Total for question  30
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288 Mock exam 3: answers
(a)  QUINCY – STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDED 30 SEPTEMBER 2014
$’000
Revenue (213,500 – 1,600 (W4))  211,900  Cost of sales (W1)  (146,400)
Gross profit  65,500
Distribution costs
(17,500)
Administrative expenses (W1)
(18,000)
Investment income 400
Loss on fair value of investments (17,000 – 15,700)
(1,300)
Finance costs (W2) (2,520)
Profit before tax  26,580
Income tax expense (1,100 – 200 (W6) + 7,400) (8,300)
Profit for the year  18,280
Other comprehensive income
Revaluation gain on property (W3) 18,000
Total comprehensive income for the year 36,280
(b)  QUINCY – STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 30 SEPTEMBER 2014
Share Retained Revaluation
capital earnings surplus  Total
$’000 $’000 $’000 $’000
B/f 1 October 2013  60,000  4,300  –  64,300
Total comprehensive income  –  18,280  18,000  36,280  Transfer to retained earnings (W3)   –  1,000  (1,000)  –
Balance at 30 September 2014  60,000  23,580  17,000  100,580
(c)  QUINCY – STATEMENT OF FINANCIAL POSITION AS AT 30 SEPTEMBER 2014
ASSETS   $’000
Non-current assets
Property, plant and equipment (W3)   106,400  Equity financial asset investment    15,700
122,100
Current assets
Inventory 24,800
Trade receivables  28,500
Cash  2,900
56,200
Total assets    178,300
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Mock exam 3: answers  289
EQUITY AND LIABILITIES    $’000
Equity
Share capital    60,000
Revaluation surplus (Part (b))    17,000
Retained earnings (Part (b))      23,580
100,580
Non-current liabilities
Loan note (W5)   24,420
Deferred tax (W6)   1,000
Environmental provision (6,000 × 1.1)   6,600
Deferred income (W4)      800
32,820
Current liabilities
Trade payables   36,700
Income tax 7,400
Deferred income (W4)      800
44,900
Total equity and liabilities    178,300
(d)  The increase in the carrying amount of property, plant equipment from 1 October 2013 to
30 September 2014 is:
$’000  $’000
1 October 2013  
Buildings (50,000 – 8,000)  42,000
Plant and equipment (83,700 – 33 700)  50,000
Less processing plant   (10,000)
82,000
30 September 2014
Property, plant and equipment   106,400
Increase 24,400
If a statement of cash flows were prepared for Quincy, the only cash flow appearing would be the $10
million paid for the processing plant. The other $14.4 million arises from the revaluation and the
capitalisation of the environmental costs, less the depreciation charge for the year. None of these involve the
movement of cash.
Users of the financial statements who are primarily interested in the liquidity position of Quincy, such as
creditors and lenders, will consider the cash flow perspective to be the most relevant and this is also the
most easily understood by the public. Investors and analysts will look at both perspectives.
Workings
1  Expenses
Cost of sales  Distribution costs  Admin expenses
$’000  $’000  $’000
Per question  136,800  17,500  19,000
Issue costs on loan note (W4)  –  –  (1,000)
Depreciation (W3)    9,600 –    –
146,400  17,500  18,000
2  Finance costs
$’000
Loan note interest (W4)  1,920
Unwinding of discount on environmental provision (6,000 × 10%)   600
2,520
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290 Mock exam 3: answers
3  Property, plant and equipment
Processing Other
Land Buildings plant  plant  Total
$’000 $’000 $’000 $’000 $’000
Cost 10,000 40,000 73,700 123,700
Accumulated depreciation   –  (8,000) (33,700) (41,700)
10,000  32,000  40,000  82,000
Revaluation gain  2,000  16,000    – 18,000
12,000  48,000  40,000  100,000
Addition (10,000 + 6,000)  16,000  16,000
Depreciation:
(48,000 / 16) –  (3,000)* –
(3,000)
(16,000 / 10) (1,600) (1,600)
(40,000 ×12.5%) –  –  –  (5,000) (5,000)
12,000  45,000  14,400  35,000  106,400
Note
* If no revaluation had taken place the depreciation on the building would have been $2m (32 / 16 years).
Therefore the additional depreciation, which represents the realisation of the revaluation surplus, is $1m and
this is transferred back to retained earnings.
4  Deferred income
 $’000  $’000  Two years’ maintenance at ‘selling price’ ((600 ×100/75) ×2)    DEBIT Revenue  1,600
CREDIT Deferred income   1,600
The deferred income will be split between non-current and current liabilities.
5 Loan note
$’000
Proceeds (25,000 – 1,000 (W1))  24,000
Interest at effective interest rate (8%)  1,920  Interest paid at nominal interest rate (6%)   (1,500)
Liability at 30 September 2012   24,420
6 Deferred tax
$’000
Balance at 30 September 2012 (5,000 ×20%)  1,000
Balance at 30 September 2011   1,200
Reduction in provision – credit to profit or loss 200
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291
ACCA examiner’s answers:
Specimen paper
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Examiner’s answers: Specimen paper  293
SECTION A
Fundamentals Level – Skills Module, Paper F7
Financial Reporting  Specimen Exam Answers
1 A
2 C
3 B
4  D
$
Write off to 1 January 2014 to 28 February 2014 (2 × $40,000)  80,000
Amortisation 160,000 (ie 4 × 40,000) / 5 years × 3/12 (March to June)     8,000
88,000
5 B
$4,070,000 (19,300 – 15,230)
Workings (in $’000)
$
Fair value 1 October 2013  25,000
Deposit   (2,000)
23,000
Interest 10%  2,300
Payment 30 September 2014  (6,000)
Lease obligation 30 September 2014  19,300
Interest 10%  1,930
Payment 30 September 2015   (6,000)
Lease obligation 30 September 2015  15,230
6 D
Year end inventory of six times is 61 days (365 / 6).
Trade payables period is 42 days (230,000 × 365 / 2,000,000).
Therefore receivables collection period is 51 days (70 – 61 + 42).
7 B
8 C
$
Cost of sales
Viagem   51,200
Greca (26,000 × 9/12)  19,500
Intra-group purchases (800 × 9 months) (7,200)
URP in inventory (1,500 × 25 / 125)    300
63,800
9 B
10 D
11 A
12 D
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294  Examiner’s answers: Specimen paper
13 A
$’000
Cost (240,000 × $6)  1,400
Share of associate's profit (400 × 6/12 × 240 / 800)  60
Lessdividend received (150 × 240 / 800)    (45)
1,455
14 A
(1,550/ (2,500 × 2 + 1,200 see below))
2 million shares at $1.20 = $2·4 million which would buy 800,000 shares at full price of $3.
Therefore, dilution element (free shares) is 1,200,000 (2,000 – 800).
15 C
16 A
$
Cost 1 October 2009  100,000
Depreciation 1 October 2009 to 30 September 2014 (100,000 × 5/10)   (50,000)
Carrying amount   50,000
fair value less costs to sell  value in use
 30,000  32,215 (8,500 × 3.79) (is higher)
the recoverable amount is therefore $32,215.
$
Carrying value
50,000
Recoverable amount   (32,215)
Impairment to income statement  17,785
17 D
Factoring with recourse means Trent still has the risk of an irrecoverable receivable and therefore would not
derecognise the receivable.
18 C
19 C
20 A
IAS 10 defines adjusting events as those providing evidence of conditions existing at the end of the reporting
period. In the case of inventories, it may be sales of inventory in this period indicate that the net realisable
value of some items of inventory have fallen below their cost and require writing down to their net realisable
value as at 30 September 2014.
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Examiner’s answers: Specimen paper  295
SECTION B
1  Tangier
Marking scheme
Marks
1 mark per valid point (upto 5 marks fpr ratios)     15
Total for question   15
Note. References to ‘2014’ are in respect of the yearended 30 September 2014 and ‘2013’ refers to the year
ended 30 September 2013.
Despite an increase in revenues of 48.4% (880 / 1,820 × 100) in 2013, the company has suffered a dramatic fall in
its profitability. This has been caused by a combination ofa falling gross profit margin (from 40% in 2013 to only
30% in 2014) and markedly higher operating overheads. An eight-fold increase in finance cost caused by the
increased borrowing at double the interest rate of existing borrowing and (presumably) some overdraft interest has
led to the profit before tax more than halving. This is also borne out by the dramatic fall in the company’s interest
cover (from 79.6 in 2013 to only 5.9 in 2014).
This is all reflected in the ROCE falling from an impressive 61.7% in 2013 to only 19.5% in 2014 (though even this
figure is respectable). The fall in the ROCE is attributable to a dramatic fall in profit margin at operating level (from
21.9% in 2013 to only 8.7% in 2014) which has beencompounded by a reduction in the non-current asset
turnover, with only $2.23 being generated from every $1 invested in non-current assets in 2014 (from $2.98 in
2013).
The information in the question points strongly to the possibility (even probability) that the new contract may be
responsible for much of the deterioration in Tangier’s performance. It is likely that the new contract may account for
the increased revenue; however, the bidding process was ‘competitive’ which implies that Tangier had to cut its
price (and therefore its profit margin) in order to win the contract.
The costs of fulfilling the contract have also been heavy:
Investment in property, plant and equipment has increased by $270 million (at carrying amount), representing an
increase of 66%.
The increase in licence costs to manufacture the new engines has cost $100 million plus any amortisation (which is
not identified in the question).
The investment in Raremetal to secure materials supplies has cost $230 million. There has been no benefit in 2014
from this investment in terms of dividends or capital growth. It is impossible to quantify the benefit of securing
material supplies which was the main reason for the investment, but it has come at a high cost. It is also
questionable how the investment has ‘secured’ the provision of materials as an 8% equity investment does not
normally give any meaningful influence over the investee. An alternative (less expensive) strategy might have been
to enter into a long-term supply contract with Raremetal.
The finance cost of the new $300 million 10% loan notes topartly fund the investment in non-current assets has
also reduced reported profit and increased debt/equity (one form of gearing measure) from 18.3% in 2013 to
49.7% in 2014 despite issuing $180 million in new equity shares.At this level, particularly in view of its large
increase from 2013, it may give debt holders (and others) cause for concern. If it could be demonstrated that the
overdraft was not able to be cleared for some time, this would be an argument for including it in the calculation of
debt/equity, making the gearing level even worse. It is also apparent from the movement in the retained earnings
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296  Examiner’s answers: Specimen paper
that Tangier paid a dividend during the year of $55 million (295,000 + 135,000 – 375,000) which may be a
questionable policy when the company is raising additional finance through borrowings.
It could be speculated that the 73% increase of administrative expenses may be due to one-off costs associated
with the tendering process (consultancy fees, etc) and the 77% higher distribution costs could be due to additional
freight/packing/insurance cost of the engines, delivery distances may also be longer (even abroad).
All of this seems to indicate that the new contract has been very detrimental to Tangier’s performance, but more
information is needed to be certain. The contract was not signed until January 2014 and there is no information of
when production/sales started, but clearly there has not been a full year’s revenue from the contract. Also there is
no information on the length or total value of the contract. Unless the contract is for a considerable time, the
increased investment in operating assets represents a considerable risk. There are no figures for the separate
revenues and costs of the contract, but from 2014’s declining performance it does not seem profitable, thus even if
the contract does secure work for several years, it is of doubtful benefit if the work is loss-making. An alternative
scenario could be that the early costs associated with the contract are part of a ‘learning curve’ and that future
production will be more efficient and therefore the contract may become profitable as a result.
Relevant ratios
2014  2013
Gross profit % (810 / 2,700 × 100)  30.0%  40.0%
Profit margin before interest % (235 / 2,700 × 100)  8.7%  21.9%
ROCE (235 / (805 + 400))  19.5%  61.7%
Non-current asset turnover (2,700 /1210)  2.23 times  2.98 times
Debt/equity (400 / 805)  49.7%  18.3%
Interest cover (235 / 40)  5.9 times  79.6 times
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Examiner’s answers: Specimen paper  297
2  Pyramid – as at 30 September 2014
Marking scheme
Marks
(a) Goodwill   5
(b)  Property, plant and equipment 2
(c) Equity: 1½
Equity shares  1½
 Other equity reserves  3
Retained earnings   6
(d) Non-controlling interest 2
Total for question   15
Figures in brackets are in $’000
(a)  Consolidated goodwill
Controlling interest
$'000   $'000
Share exchange (4.8 million (W 1) × $6
28,000
Deferred consideration (9,000 × 80% × 0.88 / 1.1)
5,760
Non-controlling interest (9,000 × 20% × $3·50)   6,300
40,860
Equity shares
9000
Pre-acquisition reserves
19,000
Fair value plant
3,000
Unrecorded deferred tax  (1,000)  (30,000)
Goodwill arising on acquisition  10,860
(b)  Property, plant and equipment
$'000
Pyramid  38,100
Square  28,500
Gross fair adjustment to plant  3,000
Additional depreciation to 30 September 2014 (3,000/5 years)    (600)
69,000
(c)
$'000
Equity shares of $1 each (50,000 + 4,800)  54,800
Reserves
Other components of equity (8,000 + 24,000)  32,000
Consolidated retained earnings (W 2)  35,544
(d) Non-controlling interest
$'000
Fair value on acquisition (from answer (a) above)  6,300
Post-acquisition profit (7,400 × 20% (W 3)  1,480
7,780
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298  Examiner’s answers: Specimen paper
Workings
(i)  Pyramid acquired 7.2 million (9 million x 80%) shares in Square. On the basis of a share exchange
of two for three, Pyramid would issue 4.8 million (7.2 million / 3 x 2) shares. At a value of $6 each,
this would amount to $28.8 million and be recorded as $4.8 million share capital and $24 million
(4.8 million x $5) other components of equity.
Note. It would be acceptable to classify the $24 million addition to other components of equity as
share premium.
(ii)
$
Pyramid's retained earnings  30,200
Square’s post-acquisition profit (7,400 × 80% see below)  59,20
Interest on deferred consideration (5,760 × 10%) (576)
35,544
(iii)  The adjusted post-acquisition profits of Square are:
$    As reported  8,000  Additional depreciation on plant (3,000 / 5 years)   (600)
7,400
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Examiner’s answers: Specimen paper  299
3  Quincy
Marking scheme
Marks
(a)  Statement of profit or loss and other comprehensive income
Revenue  1½
Cost of sales distribution  2½
Costs administrative  ½
Expenses  1
Loss on investments  1
Investment income ½
Finance costs  2
Income tax expense 2
Gain on revaluation of land and buildings  1
12
(b)  Statement of changes in equity
Balances b/f  1
Total comprehensive income  1
Transfer of revaluation surplus to retained earnings  1
3
(c)  Statement of financial position
Property, plant and equipment  3
Equity investments  1
Inventory ½
Trade receivables  ½
Bank  ½
Deferred tax  1
Deferred revenue  1
Environmental provision  1½
6% loan note trade  1½
Payables current  ½
Tax payable  1
12
(d)  Increase per statement of financial position 1
Increase per cash flows 1
Appropriate comment  1
3
Total     30
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300  Examiner’s answers: Specimen paper
(a)  QUINCY – STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDED 30 SEPTEMBER 2014
$’000
Revenue (213,500 – 1,600 (W 1))  211,900
Cost of sales (W 2)  (146,400)
Gross profit  65,500
Distribution costs
(17,500)
Administrative expenses (19,000 – 1,000 loan issue costs (W 4))
(18,000)
Loss on fair value of equity investments (17,000 – 15,700)
(1,300)
Investment income 400
Finance costs (1,920 + 600) (W 4))  (2,520)
Profit before tax  26,580
Income tax expense (7,400 + 1,100 – 200 (W 5)) (8,300)
Profit for the year  18,280
Other comprehensive income
Gain on revaluation of land and buildings (W 3)  18,000
Total comprehensive income  36,280
(b)  QUINCY – STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 30 SEPTEMBER 2014
Share
capital
Revaluation
reserve
Retained
earnings
Total
equity
$'000  $'000  $'000  $'000
Balance at 1 October 2013  60,000
nil  4,300  64,300
Total comprehensive income  18,000  18,280  36,280
Transfer to retained earnings (W 3)  (1,000) 1,000 nil
Balance at 30 September 2014  60,000  17,000  23,580  100,580
(c)  QUINCY – STATEMENT OF FINANCIAL POSITION AS AT 30 SEPTEMBER 2014
$'000   $'000
Assets
Non-current assets
Property, plant and equipment (57,000 + 14,400 + 35,000 (W 3))  106,400
Equity financial asset investments   15,700
122,100
Current assets
Inventory 24,800
Trade receivables  28,500
Bank  2,900 56,200
Total assets  178,300
Equity and liabilities
Equity
Equity shares of 25 cents each  60,000
Revaluation reserve  17,000
Retained earnings  23,580 40,580
100,580
Non-current liabilities
Deferred tax (W 5)  1,000
Environmental provision (6,000 + 600 (W 4))   800
6% loan note (2016) (W 4)  6,600
24,420  32,820
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Examiner’s answers: Specimen paper  301
$'000   $'000
Current liabilities
Trade payables  36,700
Deferred revenue (W 1)  800
Current tax payable    7,400  44,900
Total equity and liabilities   178,300
(d)  (i)  The carrying amount of property, plant and equipment at 30 September 2014 (from (b)) is
$106.4 million.
The carrying amount of property, plant and equipment at 1 October 2013 based on the trial
balance figures less the acquisition of the new plant during the year is $82 million (see
below). Thus the increase in property, plant and equipment from the perspective of the
statement of financial position is $24.4 million.
$’000
Land and buildings (50,000 – 8,000)  42,000
Plant and equipment (83,700 – 10,000 – 33,700)  40,000
82,000
(ii)  The increase in the carrying amount of property, plant and equipment from a cash flow
perspective would be only $10,000, being the cash cost of the processing plant; the
revaluation, capitalisation the clean up costs and depreciation are not cash flows.
Thus the statement of financial position shows an increase investment in property, plant and
equipment of $24.4 million whereas the cash investment is much at $10 million. Although
both figures are meaningful (but do have different meanings), in this case, users are likely to
find the cash investment figure a more intuitive measure of investment as the effects of the
revaluation and, particularly, the capitalisation of environmental costs are more difficult to
understand. They are also (subjective) estimates, whereas the cash payment is an objective
test.
Workings(figures in brackets in $’000)
(i)  Sales made which include revenue for ongoing servicing work must have part of the revenue
deferred. The deferred revenue must include the normal profit margin (25%) for the deferred work. At
30 September 2014, there are two more years of servicing work, thus $1.6 million
((600 × 2) × 100 / 75) must be treated as deferred revenue, split equally between current and noncurrent liabilities.
(ii)  Cost of sales
$
Per trial balance  136,800
Depreciation of building (W 3)  3,000
Depreciation of plant (1,600 + 5,000 (W 3))    6,600
146,400
(iii)  Non-current assets
Land and buildings:
The gain on revaluation and carrying amount of the land and buildings is:
Land    Building
Carrying amount as at 1 October 2013  10,000  (40,000 – 8,000)  32,000
Revalued amount as at this date  (12,000)  (60,000 – 12,000)  (48,000)
Gain on revaluation  2,000   16,000
Building depreciation year to 30 September 2014 (48,000 / 16 years)  3,000
The transfer from the revaluation reserve to retained earnings in respect of ‘excess’ depreciation (as
the revaluation is realised) is $1 million (16,000 / 16 years).
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302  Examiner’s answers: Specimen paper
The carrying amount at 30 September 2014 is $57 million (60,000 – 3,000).
Plant and equipment:
$
Processing plant
Cash cost  10,000
Capitalise clean up costs (environmental provision)   6,000
Initial carrying amount 16,000
Depreciation 10-year life  (1,600)
Carrying amount as at 30 September 2014  14,400
Carrying amount as at 1 October 2013 (83,700 – 10,000 – 33,700)  40,000
Depreciation at 12½% per annum (5,000)
Carrying amount as at 30 September 2014  (35,000)
(iv)  Loan note and environmental provision
The finance cost of the loan note is charged at the effective rate of 8% applied to the carrying amount
of the loan. The issue costs of the loan ($1 million) should be deducted from the proceeds of the loan
($25 million) and not treated as an administrative expense. This gives an initial carrying amount of
$24 million and a finance cost of $1,920,000 (24,000 × 8%). The interest actually paid is $1.5 million
(25,000 × 6%) and the difference between these amounts, of $420,000 (1,920 – 1,500), is accrued
and added to the carrying amount of the loan note. This gives $24.42 million (24,000 + 420) for
inclusion as a non-current liability in the statement of financial position.
The unwinding of the environmental provision of $6 million at 10% will cause a finance cost of
$600,000.
(v)  Deferred tax
$
Provision required as at 30 September 2014 (5,000 × 20%)  1,000
Lessprovision b/f  (1,200)
Credit to statement of profit or loss 200
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