Paper 2.

5(INT)
Financial
Reporting
(International Stream)

PART 2

THURSDAY 9 JUNE 2005

QUESTION PAPER

Time allowed 3 hours

This paper is divided into two sections

Section A This ONE question is compulsory and MUST be

answered

Section B THREE questions ONLY to be answered

Do not open this paper until instructed by the supervisor

This question paper must not be removed from the examination

hall

The Association of Chartered Certified Accountants

Section A – This ONE question is compulsory and MUST be attempted

1 Highveldt, a public listed company, acquired 75% of Samson’s ordinary shares on 1 April 2004. Highveldt paid an
immediate $3·50 per share in cash and agreed to pay a further amount of $108 million on 1 April 2005. Highveldt’s
cost of capital is 8% per annum. Highveldt has only recorded the cash consideration of $3·50 per share.

The summarised balance sheets of the two companies at 31 March 2005 are shown below:

Highveldt Samson
$million $million $million $million
Tangible non-current assets (note (i)) 420 320
Development costs (note (iv)) nil 40
Investments (note (ii)) 300 20
–––– ––––
720 380
Current assets 133 91
–––– ––––
Total assets 853 471
–––– ––––

Equity and liabilities:

Ordinary shares of $1 each 270 80
Reserves:
Share premium 80 40
Revaluation reserve 45 nil
Retained earnings – 1 April 2004 160 134
– year to 31 March 2005 190 350 76 210
–––– –––– –––– ––––
745 330
Non-current liabilities
10% inter company loan (note (ii)) nil 60

Current liabilities 108 81

–––– ––––
Total equity and liabilities 853 471
–––– ––––

The following information is relevant:

(i) Highveldt has a policy of revaluing land and buildings to fair value. At the date of acquisition Samson’s land and
buildings had a fair value $20 million higher than their book value and at 31 March 2005 this had increased
by a further $4 million (ignore any additional depreciation).

(ii) Included in Highveldt’s investments is a loan of $60 million made to Samson at the date of acquisition. Interest
is payable annually in arrears. Samson paid the interest due for the year on 31 March 2005, but Highveldt did
not receive this until after the year end. Highveldt has not accounted for the accrued interest from Samson.

(iii) Samson had established a line of products under the brand name of Titanware. Acting on behalf of Highveldt, a
firm of specialists, had valued the brand name at a value of $40 million with an estimated life of 10 years as at
1 April 2004. The brand is not included in Samson’s balance sheet.

(iv) Samson’s development project was completed on 30 September 2004 at a cost of $50 million. $10 million of
this had been amortised by 31 March 2005. Development costs capitalised by Samson at the date of acquisition
were $18 million. Highveldt’s directors are of the opinion that Samson’s development costs do not meet the
criteria in IAS 38 ‘Intangible Assets’ for recognition as an asset.

(v) Samson sold goods to Highveldt during the year at a profit of $6 million, one-third of these goods were still in
the inventory of Highveldt at 31 March 2005.

(vi) An impairment test at 31 March 2005 on the consolidated goodwill concluded that it should be written down by
$22 million. No other assets were impaired.

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Required:

(a) Calculate the following figures as they would appear in the consolidated balance sheet of Highveldt at
31 March 2005:
(i) goodwill; (8 marks)
(ii) minority interest; (4 marks)
(iii) the following consolidated reserves:
share premium, revaluation reserve and retained earnings. (8 marks)
Note: show your workings

(b) Explain why consolidated financial statements are useful to the users of financial statements (as opposed to
just the parent company’s separate (entity) financial statements). (5 marks)

(25 marks)

3 [P.T.O.
Section B – THREE questions ONLY to be attempted

2 Reproduced below are the draft financial statements of Harrington, a public company, for the year to 31 March 2005:

Income statement – Year to 31 March 2005 $000

Sales revenue (note (i)) 13,700
Cost of sales (note (ii)) (9,200)
_______
Gross profit 4,500
Operating expenses (2,400)
Loan note interest paid (refer to balance sheet) (25)
–––––––
Profit before tax 2,075
Income tax expense (note (vi)) (55)
–––––––
Profit for the period 2,020
–––––––
Balance Sheet as at 31 March 2005
$000 $000
Property, plant and equipment (note (iii)) 6,270
Investments (note (iv)) 1,200
–––––––
7,470
Current assets
Inventory 1,750
Trade receivables 2,450
Bank 350 4,550
–––––– –––––––
Total assets 12,020
–––––––
Equity and liabilities:
Ordinary shares of 25c each (note (v)) 2,000
Reserves:
Share premium 600
Retained earnings – 1 April 2004 2,990
– Year to 31 March 2005 2,020
– dividends paid (500) 4,510
–––––– –––––––
7,110
Non-current liabilities
10% loan note (issued 2002) 500
Deferred tax (note (vi)) 280 780
––––––

Current liabilities
Trade payables 4,130
–––––––
12,020
–––––––

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The company policy for ALL depreciation is that it is charged to cost of sales and a full year’s charge is made in the
year of acquisition or completion and none in the year of disposal.
The following matters are relevant:
(i) Included in sales revenue is $300,000 being the sale proceeds of an item of plant that was sold in January
2005. The plant had originally cost $900,000 and had been depreciated by $630,000 at the date of its sale.
Other than recording the proceeds in sales and cash, no other accounting entries for the disposal of the plant
have been made. All plant is depreciated at 25% per annum on the reducing balance basis.
(ii) On 31 December 2004 the company completed the construction of a new warehouse. The construction was
achieved using the company’s own resources as follows:
$000
purchased materials 150
direct labour 800
supervision 65
design and planning costs 20
Included in the above figures are $10,000 for materials and $25,000 for labour costs that were effectively lost
due to the foundations being too close to a neighbouring property. All the above costs are included in cost of
sales. The building was brought into immediate use on completion and has an estimated life of 20 years (straight-
line depreciation).
(iii) Details of the other property, plant and equipment at 31 March 2005 are:
$000 $000
Land at cost 1,000
Buildings at cost 4,000
Less accumulated depreciation at 31 March 2004 (800) 3,200
––––––
Plant at cost 5,200
Less accumulated depreciation at 31 March 2004 (3,130) 2,070
–––––– ––––––
6,270
––––––
At the beginning of the current year (1 April 2004), Harrington had an open market basis valuation of its
properties (excluding the warehouse in note (ii) above). Land was valued at $1·2 million and the property at
$4·8 million. The directors wish these values to be incorporated into the financial statements. The properties had
an estimated remaining life of 20 years at the date of the valuation (straight-line depreciation is used). Harrington
makes a transfer to realised profits in respect of the excess depreciation on revalued assets.
Note: depreciation for the year to 31 March 2005 has not yet been accounted for in the draft financial
statements.
(iv) The investments are in quoted companies that are carried at their stock market values with any gains and losses
recorded in the income statement. The value shown in the balance sheet is that at 31 March 2004 and during
the year to 31 March 2005 the investments have risen in value by an average of 10%. Harrington has not
reflected this increase in its financial statements.
(v) On 1 October 2004 there had been a fully subscribed rights issue of 1 for 4 at 60c. This has been recorded in
the above balance sheet.
(vi) Income tax on the profits for the year to 31 March 2005 is estimated at $260,000. The figure in the income
statement is the underprovision for income tax for the year to 31 March 2004. The carrying value of Harrington’s
net assets is $1·4 million more than their tax base at 31 March 2005. The income tax rate is 25%.
Required:
(a) Prepare a restated income statement for the year to 31 March 2005 reflecting the information in notes (i)
to (vi) above. (9 marks)
(b) Prepare a statement of changes in equity for the year to 31 March 2005. (6 marks)
(c) Prepare a restated balance sheet at 31 March 2005 reflecting the information in notes (i) to (vi) above.
(10 marks)
(25 marks)
5 [P.T.O.
3 (a) IFRS 1 ‘First-time Adoption of International Financial Reporting Standards’ was issued in June 2003. Its main
objectives are to ensure high quality information that is transparent and comparable over all periods presented
and to provide a starting point for subsequent accounting under International Financial Reporting Standards
(IFRS) within the framework of a cost benefit exercise.

Required:
(i) Describe the circumstances where the presentation of an entity’s financial statements is deemed to be
the first-time adoption of IFRSs and explain the main financial reporting implementation issues to be
addressed in the transition to IFRSs. (7 marks)

(ii) Describe IFRS 1’s accounting requirements where an entity’s previous accounting policies for assets and
liabilities do not comply with the recognition and measurement requirements of IFRSs. (8 marks)

(b) Transit, a publicly listed holding company, has a reporting date of 31 December each year. Its financial
statements include one year’s comparatives. Transit currently applies local GAAP accounting rules, but is
intending to apply IFRSs for the first time in its financial statements (including comparatives) for the year ending
31 December 2005. Its summarised consolidated balance sheet (under local GAAP) at 1 January 2004 is:

$000 $000
Property, plant and equipment 1,000
Goodwill 450
Development costs 400
––––––
1,850
Current assets
Inventory 150
Trade receivables 250
Bank 20
––––––
420
Current liabilities (320)
––––––
Net current assets 100
––––––
1,950
Non-current liabilities
Restructuring provision (250)
Deferred tax (300) (550)
–––––– ––––––
1,400
––––––
Issued share capital 500
Retained earnings 900
––––––
1,400
––––––

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Additional information:

(i) Transit’s depreciation policy for its property, plant and equipment has been based on tax rules set by its
government. If depreciation had been based on the most appropriate method under IFRSs, the carrying value of
the property, plant and equipment at 1 January 2004 would have been $800,000.

(ii) The development costs originate from an acquired subsidiary of Transit. They do not qualify for recognition under
IFRSs. They have a tax base of nil and the deferred tax related to these costs is $100,000.

(iii) The inventory has been valued at prime cost. Under IFRSs it would include an additional $30,000 of overheads.

(iv) The restructuring provision does not qualify for recognition under IFRSs.

(v) Based on IFRSs, the deferred tax provision required at 1 January 2004, including the effects of the development
expenditure, is $360,000.

Required:

Prepare a summarised balance sheet for Transit at the date of transition to IFRSs (1 January 2004) applying the
requirements of IFRS 1 to the above items.

Note: a reconciliation to previous GAAP is not required. (10 marks)

(25 marks)

7 [P.T.O.
4 (a) Casino is a publicly listed company. Details of its balance sheets as at 31 March 2005 and 2004 are shown
below together with other relevant information:

Balance Sheet as at 31 March 2005 31 March 2004

Non-current Assets (note (i)) $m $m $m $m
Property, plant and equipment 880 760
Intangible assets 400 510
–––––– ––––––
1,280 1,270
Current assets
Inventory 350 420
Trade receivables 808 372
Interest receivable 5 3
Short term deposits 32 120
Bank 15 1,210 75 990
–––––– –––––– –––––– ––––––
Total assets 2,490 2,260
–––––– ––––––
Share Capital and Reserves
Ordinary Shares of $1 each 300 200
Reserves
Share premium 60 nil
Revaluation reserve 112 45
Retained earnings 1,098 1,270 1,165 1,210
–––––– –––––– –––––– ––––––
1,570 1,410
Non-current liabilities
12% loan note nil 150
8% variable rate loan note 160 nil
Deferred tax 90 250 75 225
–––––– ––––––

Current liabilities
Trade payables 530 515
Bank overdraft 125 nil
Taxation 15 110
–––––– 670 –––––– 625
–––––– ––––––
Total equity and liabilities 2,490 2,260
–––––– ––––––
The following supporting information is available:

(i) Details relating to the non-current assets are:

Property, plant and equipment at:

31 March 2005 31 March 2004
Carrying Carrying
Cost/Valuation Depreciation value Cost/Valuation Depreciation value
$m $m $m $m $m $m
Land and buildings 600 12 588 500 80 420
Plant 440 148 292 445 105 340
–––– ––––
880 760
–––– ––––

Casino revalued the carrying value of its land and buildings by an increase of $70 million on 1 April 2004. On
31 March 2005 Casino transferred $3 million from the revaluation reserve to retained earnings representing the
realisation of the revaluation reserve due to the depreciation of buildings.

During the year Casino acquired new plant at a cost of $60 million and sold some old plant for $15 million at
a loss of $12 million.

There were no acquisitions or disposals of intangible assets.

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 (ii) The following extract is from the draft income statement for the year to 31 March 2005:
$m $m
Operating loss (32)
Interest receivable 12
Finance costs (24)
––––
Loss before tax (44)
Income tax repayment claim 14
Deferred tax charge (15) (1)
–––– ––––
Loss for the period (45)
––––

The finance costs are made up of:

Interest expenses (16)
Penalty cost for early redemption of fixed rate loan (6)
Issue costs of variable rate loan (2)
––––
(24)
––––

(iii) The short term deposits meet the definition of cash equivalents.

(iv) Dividends of $25 million were paid during the year.

Required:

As far as the information permits, prepare a cash flow statement for Casino for the year to 31 March 2005
in accordance with IAS 7 ‘Cash Flow Statements’. (20 marks)

(b) In recent years many analysts have commented on a growing disillusionment with the usefulness and reliability
of the information contained in some companies’ income statements.

Required:

Discuss the extent to which a company’s cash flow statement may be more useful and reliable than its
income statement. (5 marks)
(25 marks)

9 [P.T.O.
5 Triangle, a public listed company, is in the process of preparing its draft financial statements for the year to 31 March
2005. The following matters have been brought to your attention:

(i) On 1 April 2004 the company brought into use a new processing plant that had cost $15 million to construct
and had an estimated life of ten years. The plant uses hazardous chemicals which are put in containers and
shipped abroad for safe disposal after processing. The chemicals have also contaminated the plant itself which
occurred as soon as the plant was used. It is a legal requirement that the plant is decontaminated at the end of
its life. The estimated present value of this decontamination, using a discount rate of 8% per annum, is
$5 million. The financial statements have been charged with $1·5 million ($15 million/10 years) for plant
depreciation and a provision of $500,000 ($5 million/10 years) has been made towards the cost of the
decontamination. (8 marks)

(ii) On 15 May 2005 the company’s auditors discovered a fraud in the material requisitions department. A senior
member of staff who took up employment with Triangle in August 2004 had been authorising payments for goods
that had never been received. The payments were made to a fictitious company that cannot be traced. The
member of staff was immediately dismissed. Calculations show that the total amount of the fraud to the date of
its discovery was $240,000 of which $210,000 related to the year to 31 March 2005. (Assume the fraud is
material). (5 marks)

(iii) The company has contacted its insurers in respect of the above fraud. Triangle is insured for theft, but the
insurance company maintains that this is a commercial fraud and is not covered by the theft clause in the
insurance policy. Triangle has not yet had an opinion from its lawyers. (4 marks)

(iv) On 1 April 2004 Triangle sold maturing inventory that had a carrying value of $3 million (at cost) to Factorall, a
finance house, for $5 million. Its estimated market value at this date was in excess of $5 million. The inventory
will not be ready for sale until 31 March 2008 and will remain on Triangle’s premises until this date. The sale
contract includes a clause allowing Triangle to repurchase the inventory at any time up to 31 March 2008 at a
price of $5 million plus interest at 10% per annum compounded from 1 April 2004. The inventory will incur
storage costs until maturity. The cost of storage for the current year of $300,000 has been included in trade
receivables (in the name of Factorall). If Triangle chooses not to repurchase the inventory, Factorall will pay the
accumulated storage costs on 31 March 2008. The proceeds of the sale have been debited to the bank and the
sale has been included in Triangle’s sales revenue. (8 marks)

Required:

Explain how the items in (i) to (iv) above should be treated in Triangle’s financial statements for the year to
31 March 2005 in accordance with current international accounting standards. Your answer should quantify the
amounts where possible.
The mark allocation is shown against each of the four matters above.

(25 marks)

End of Question Paper

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