Unit 1 – IAS 8

ACCOUNTING POLICIES, CHANGES IN ACCOUNTING

ESTIMATES AND ERRORS

Class presentation – Daniel Kamotho

Background (Pre-requisite knowledge
required)
• Conceptual Framework for Financial Reporting
2010

• IAS 1 Presentation of Financial Statements

Overview of IAS 8

Objective:
• To prescribe the criteria for selecting and changing accounting
policies, together with the accounting treatment and disclosure of
changes in accounting policies, changes in accounting estimates and
correction of errors

Scope:
• All financial statements prepared in accordance with IASs/IFRSs
Accounting recognition and disclosure of
• Change in accounting policy
• Change in accounting estimate
• Correction of errors
Reason:
• Reassure consistent preparation and presentation of FS
• Enhance comparability of FS
Definitions
• Accounting Polices
The specific principles, bases, conventions, rules and practices applied by
an entity in preparing and presenting FS

• Prior Period Errors

Omissions from, and misstatements in, the entity’s FS for one or more prior
periods arising from a failure to use, or misuse of, reliable information that:
was available when FS for those periods were authorised for issue; and
could reasonably be expected to have been obtained and taken into
account in the preparation and presentation of those FS.

Such errors include the effects of mathematical mistakes, mistakes in applying

accounting policies, oversights or misinterpretations of facts, and fraud.
Accounting policies
• Select in accordance with IAS/IFRS or interpretation, or judgement if
none available
• APs normally kept the same to ensure comparability of FS over time.
• Change when
Required by an IFRS – therefore follow transitional arrangements
if provided, otherwise apply change retrospectively
Voluntarily, i.e. results in better quality financial statements –
therefore apply change retrospectively
CHOICE OF ACCOUNTING POLICY

Accounting policy = specific rules and principles

are used in the preparation and presentation of
FS
•Rules and principles are usually prescribed by IFRS
•If no specific standard are available for a
transaction, accounting policy are developed by
management
Developing your own accounting policy

Ensure the following

•Relevance
•Reliability
•Judgement
•Consistency
CONSISTENCY OF ACCOUNTING POLICY

• To apply consistency to similar items in accounting

policy:
* each period; and
* from one period to the next period
• This ascertain comparability of FS
• Thus change in accounting policy are very scarce.
What is NOT a change in accounting policy?

• Acceptance of new accounting policy

• *transactions that did not take place in past events
• *transactions that differs essentially from past events
• Change in accounting policy
• revaluation of assets in accordance with IAS 16 and IAS 28
and not IAS 8.
• Change of depreciation method = Change in estimate
Retrospective changes in accounting
policies
 Adjust the opening balance of each effected component and any other
relevant comparative amounts as if the new accounting policy had
always been applied. This means that there will be a PPA to the
balance of retained earnings b/f in the statement of changes in equity
 Comparative information should be restated unless impracticable to
do so
 When a change in AP has a material effect on the current period or
any prior period presented, or may have a material effect in
subsequent periods, the following disclosures should be made:
o Reasons for change;
o Amount of adjustment recognised in the current period;
o Amount of adjustment included in each period prior to those included in the
FS.
RETROSPECTIVE APPLICATION OF CHANGE IN
ACCOUNTING POLICY

• To apply a new accounting policy, you should pretend as if it was always in use:

Current year
• Based on new accounting policy

Comparative amounts (previous period presented in FS)

• -Revalued and prepared to reflect new accounting policy

Previous periods not presented

• -Adjust only the opening balances of comparative years
 Activity 1 : Retrospective change in accounting policy

ABC Limited has traditionally valued its inventory using the weighted average method
of valuation. During the year ended 31 December 2016, the directors of ABC Limited
decided to change the method of inventory valuation to the FIFO method in order to
give a fairer presentation of the company’s results and financial position.
The reported retained earnings of Raven Limited at 31 December 2014 were N$
2,500,000 and extracts from the company’s financial statements for each of the last
three year, on the basis of inventory being valued on a weighted average basis, are
provided below are:
 Activity 1 : Retrospective change in accounting policy

Year End 2014 (N$) 2015 (N$) 2016 (N$)

Cost of sales 830,000 904,000 968,000

Profit after tax 50,000 80,000 105,000

Inventory valuation:
Weighted Average 275,000 257,000 304,000

FIFO 296,000 294,000 365,000

Activity 1
Requirement:
Based on the information provided, show how the change in inventory
valuation method will be reflected in the financial statements of Raven
Limited for the year ended 31 December 2016.
 Retrospective change in accounting policy

Solution:
Statement of Profit or Loss and Other Comprehensive Income

2016 (N$) 2015 (N$)

Cost of Sales 944,000 888,000
Profit after Tax 129,000 96,000

Statement of Financial Position

2016 (N$) 2015 (N$)
Current Assets
Inventory 365,000 294,000
 Example 21.1: Retrospective change in accounting policy

Solution (Cont’d):
Statement of Changes in Equity (Extract)
Retained Earnings
N$
At start of period 2,580,000
Change in accounting policy 37,000
Restated 2,617,000
Profit for year 129,000
At end of period 2,746,000
Voluntary change in Policy
The directors of Katutush have decided to include the depreciation
charge for the year ended 31 December 2016 in cost of sales rather
than administrative expenses, as was previously the policy.

Requirement
Outline the impact of this change, if any on the presentation of the
financial statements for the year ended 31 December 2016.
Voluntary change in Policy
Solution:
In the 2016 FS, while no changes are required to the figures, additional
disclosures are required. For example, comparative information (2015)
should be re-stated (unless it is impractical to do so), together with an
explanation as to why the new policy will provide reliable and more
relevant information
Changes in Accounting Policy
• New acc policy usually applied as if always in use
• Applied RETROSPECTIVE
• Current period figures = based on new acc policy
• Comparative figures = restated to reflect new acc policy
• Periods not presented = adjust opening balances
• Disclose: “Change in accounting policy” note
Accounting estimates
• Estimates may be required for:
 bad debts;
 warranty obligations;
 inventory obsolescence; and
 useful lives of depreciable assets etc.
• Changes in estimates result from new information or new developments relating to assets and
liabilities. Accordingly, they are not corrections of errors.
i.e. if changes occur in the circumstances on which the estimate was based or as a result of new
information. This does not relate to prior periods and is not the correction of an error.
The effect of a change in estimate should be recognised prospectively in the SPLOCI in the period
of the change and/or future periods (e.g. bad debts, RUEL of PPE).
If the effect of the change is material, its nature and amount must be disclosed.
CHANGING IN ACCOUNTING ESTIMATE - Accounting treatment

Cumulative catch-up method

• Adjustment made in current year includes effect of the change in
prior years

Reallocation method
• No adjustment is made in current year.
• Opening balances is simply reallocated over remaining revised period
to have effect on current and future years
Change in estimate effects:
•Current periods’ profit/losses Example: Provision for credit
losses
•Current and future periods’ profit/losses Example: Change in
the useful life of PPE >>>> Depreciation expense to change

If it is difficult to underestimate between change in accounting

policy and change in estimate >>>>>
•Change in accounting estimate
Changes in Accounting Estimates
• Estimates sometimes necessary when preparing FS
• May change later – new info/ circumstances
• Change in estimate affects current/ current & future periods
• Applied PROSPECTIVELY
• From beginning of current year
• Disclose: “Profit before tax” note
 Change in accounting estimate
Previously, Blackbird Limited depreciated plant and equipment using the reducing
balance method at 20% per annum.
The company is proposing to depreciate plant and equipment using the straight line
method over five years.
Requirement
Explain the appropriate accounting treatment in accordance with IAS 8 and IAS 16.
 Change in accounting estimate

Solution:
This decision involves a change in estimate (not
accounting policy) as the policy is still to write off the
cost of the plant and equipment over its EUEL. The
change is made prospectively.
Change in accounting estimate – Example 2

Apple Limited reviews its depreciation policy annually. At the most

recent review for the year ended 31 December 2016, the directors
decided that the remaining useful life of the machine at 1 January
2016 was three years. Additional information in relation to
machinery is as follows:
Machinery - cost at the date of acquisition 1-1-13
N$3,600,000
Estimated useful life at 1-1-13 10 years
Estimated residual value as at 1-1-13 Nil

Requirement
Explain how to account for this change in the useful economic life of
machinery in the financial statements of Apple Limited for the year
ended 31 December 2016.
Change in accounting estimate (2)
Solution: - re-alocation method
N$
Cost at 1 January 2013 3,600,000
Depreciation year ended 31 December 2013 ( 360,000)
Depreciation year ended 31 December 2014 ( 360,000)
Depreciation year ended 31 December 2015 ( 360,000)
Carrying Amount as at 31 December 2015 2,520,000

Revised remaining useful life 3 years

Depreciation for year ended 31 December 2016 840,000

The change in the useful economic life of machinery is a change in

accounting estimate and should be applied prospectively.
 Change in accounting estimate (2)
Solution B: - cumulative catch up method
N$
Cost at 1 January 2013 3,600,000 3,600,000
Depreciation year ended 31 December 2013 ( 360,000) (600,000)
Depreciation year ended 31 December 2014 ( 360,000) (600,000)
Depreciation year ended 31 December 2015 ( 360,000) (600,000)
Carrying Amount as at 31 December 2015 2,520,000 1,800,000

Revised remaining useful life 3 years

Depreciation for year ended 31 December 2016 840,000 600,000

Carrying amount 1,200,000
The change in the useful economic life of machinery is a change in accounting
estimate and should be applied prospectively.

Depreciation charge for year = 600,000+720,000= 1,320,000

Tutorial Week 2
• Gripping GAAP
• E-LEARNING
• Question 26.4 and 26.5
Correction of prior period errors
• Errors are material omissions from or misstatements in FS
e.g. mathematical mistakes, mistakes in applying accounting policies, oversights
or misinterpretation of facts and fraud
• Current period errors are corrected before the FS are issued
• Sometimes material errors are not discovered until a later period. These should
be corrected retrospectively in the first set of FS issued after their discovery by:
restating the opening balance of assets, liabilities and equity as if the error
had never occurred, and presenting the necessary adjustment, to the opening
balance of accumulated profits in the statement of changes in equity; and
restating the comparative figures, as if the error had never occurred.
• Disclosure:
nature of the PPE;
amount of correction to each FS line item presented for the prior periods; and
amount of correction at the beginning of the earliest prior period presented.
Correction of Errors

• Discover material error in respect of previous years when

preparing current year’s FS
• Applied RETROSPECTIVE
• Error in current year = correct current year figures
• Error in previous year = correct comparative figures
• Error in year not presented = adjust opening balances
• Disclose: “Prior period error” note
ABC Limited made a provision for corporation tax of N$500,000
for the year ended 31 December 2015. In March 2016 this
provision was agreed by the Revenue Authority and paid at
N$540,000.

Requirement
Explain how this should be accounted for in ABC Limited’s
financial statements.

Is it an error or change in accounting estimate?

Solution
This is the correction of an accounting estimate and not
an error. The correction will be made by increasing the
tax charge for the year ended 31 December 2016 by
N$40,000. The effect of the correction on the 2015
profits needs to be disclosed.
 Example : Prior period error
Angula Limited has a retained profit of N$32,781 for the year ended 31 December 2016 and
its balance on retained earnings stood at N$709,311 on 1 January 2016. It has been
discovered, while producing the 2016 financial statements, that the closing inventory figure as
at 31 December 2015 was overstated by N$48,099, thus overstating the profit for the year
ended 31 December 2015 by N$48,099 (the retained profit figure for the year ended 31
December 2016 has been determined by using the correct inventory figure as at 1 January
2016). The retained profit for the year ended 31 December 2015 was originally stated at
N$90,342, using the incorrect closing inventory figure.
 
Explain the accounting treatment and an extract of the statement of changes in
equity
 Example : Prior period error
In the statement of changes in equity, under movements on reserves, this adjustment would
be shown as follows:
 Angula Limited – SCE (Extract)
Balance at 31 December 2015 N$
As previously reported 709,311
Prior period adjustment (note x) (48,099)
Restated 661,212
Retained profit for year 32,781
Balance at 31 December 2016 693,993
 
Examples of Scenarios
• Previously, ABC LTD accounted for its non-current assets using the historical cost basis.

In the current period, however, ABC LTD has adopted the revaluation model of IAS 16 to account
for its non-current assets.

• ABC LTD has a past practice of recognizing sales revenue at the time of dispatch of goods to the
retailers.

In the current period, however, sales revenue has not been recognized by ABC LTD until the goods
sold to retailers have been re-sold to the end-consumers.

Management believes the new recognition rule more accurately reflects the economic substance
of the sales and returns arrangement with retailers.

• ABC LTD has a policy of valuing inventory using the FIFO method.

Liza noticed the value of inventory brought forward in the current period (i.e. last year's closing
inventory balance) has been changed because it had erroneously been valued using the LIFO
method last year
Examples of Scenarios
• In estimating the employee benefits obligations of ABC LTD at the
previous year end, the actuary failed to take into account ABC LTD's
plan to discontinue operations in one of its geographic segments.
Management had announced its plan three years ago.

Recently, the actuary furnished revised estimates of ABC PLC's liability

with respect to employee benefits of the current and prior periods
taking into account the plans for discontinuation.

Financial statements of this year have been amended accordingly.

DISCLOSURES
1. Changes in Accounting Policies
(a) reason for change;
(b) amount of the adjustment on the current period and for each period
presented; and
(c)the fact that comparative figures have been restated or that it was not
practicable to do so.
 
2. Correction of Errors
(a) the nature of the prior period error;
(b) the amount of the correction for each period presented;
(c)the amount of the correction at the start of the earlier prior period
presented; and
(d) if retrospective correction is not practicable, a description of how and
when the error was corrected.
 
3. Changes in Accounting Estimates
(a) the nature of the change;
(b) the effect on the current periods financial statements; and
(c)the effect in future periods if this is practicable.
SUMMARY Current Period Prior Period
Adjustment Adjustment

Change in accounting policy

√
Correction of material errors
√
Change in accounting
estimate √
 Final Chapter Activity
In 2014, XYZ limited recognized a $100 loss due to a lawsuit that it appeared the company would
lose. In 2016 when the judge ruled in favor of XYZ’s position, XYZ’s accountant made the following
entry:
Estimated Lawsuit Liability 100
Retained Earnings 100
To correct 2014’s profit due to the outcome of the lawsuit.
 
Instruction
Briefly discuss the accountant’s treatment of the lawsuit
In answering please determine if it a change in accounting policy, change in accounting estimate or
an error?

41