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HKICPA QP Exam (Module a) May2007 Answer

HKICPA QP Exam (Module a) May2007 Answer

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Module A (May 2007 Session)
Page 1 of 13
SECTION A CASE QUESTIONS (Total: 50 marks)Answer 1(a)
To: Mr. Peter CHAN, Director, PHLFrom: Accounting Manager, PHLc.c.: L.P. LEE, Mary CHEUNG, Paul WONG (Directors)Date: dd/mm/yyyyI refer to your e-mail dated 18 June 2007 regarding your queries about the summaryconsolidated financial statements for PHL for the year ended 31 March 2007.The explanation for the accounting treatment of the sales of materials from SIL to OAL andthe investment property held by PHL is as follows:Elimination of the profit arising from the sales made by SIL to OALThe objective of preparing consolidated financial statements is to give a true and fair viewof the state of affairs and results of the group of companies, i.e. PHL and SIL, as if it were asingle economic entity.In order to achieve this objective, the financial statements of member companies of ourGroup, i.e. PHL and SIL, are combined and certain adjustments are made to the combinedstatements.OAL is an associate of the Group since PHL holds 30% interest in OAL.For the purpose of PHL’s consolidated financial statements, the Group should use theequity method of accounting to account for its investment in OAL.HKAS 28
Investments in Associates 
requires that the profits resulting from the transactionsbetween the Group and OAL are recognised in PHL’s financial statements only to theextent of unrelated investors’ interests in the OAL.The Group should not recognise its share of the profit (i.e. 30%) for the sales made by SILto OAL until OAL resells the goods to an independent party.Therefore, the Group’s (PHL and SIL as a group) 30% share in the unrealised profitsresulting from those transactions between SIL and OAL included in OAL’s inventory at 31March 2007 should be eliminated from PHL’s consolidated financial statements.Since SIL is a member of the Group, the elimination is still required even though PHL didnot take part in the transactions directly.
Module A (May 2007 Session)
Page 2 of 13
Property occupied by SILHKAS 40 defines an investment property as a property held to earn rentals or for capitalappreciation or both, rather than for:
use in the production or supply of goods or services or for administrative purposes; or
sale in the ordinary course of business.From the perspective of PHL alone (i.e. not from the perspective of PHL and SIL as agroup), the property leased by PHL to SIL is investment property since it meets thedefinition of an investment property.Therefore, the property should be classified and accounted for as an investment propertyin the balance sheet of PHL.However, in the consolidated financial statements of PHL, the property does not qualify asinvestment property because, from the perspective of the group as a whole, the property isowner-occupied.The property is an owner-occupied property from the perspective of the group as a wholesince it is held for use by SIL in supply of goods and for administrative purposes.Therefore, the property has been reclassified as property, plant and equipment in PHL’sconsolidated financial statements.Please refer to the annex for detailed calculation of the balance of investment in OAL asshown in the consolidated balance sheet and also the worksheet for the consolidatedbalance sheet as at 31 March 2007.I hope the above explanation has answered your questions. Please feel free to contactme if you have further queries.Best regardsXXX
Module A (May 2007 Session)
Page 3 of 13
Answer 1(b)(i)
 (Figures are in $’000 unless otherwise specified)CJ1Dr Share capital 20,000Dr Reserves 4,000Dr Property, plant and equipment 2,000Dr Goodwill{20,000-[(20,000+4,000+2,000)x60%]} 4,400Cr Investment in subsidiary 20,000Cr Minority interest [(20,000+4,000+2,000)x40%] 10,400Being elimination of investment in subsidiary against the subsidiary’s share capital andpre-acquisition reserves at the date of acquisition and recognition of goodwill and minorityinterest in assets and liabilities.
Answer 1(b)(ii)
 Additional depreciation due to fair value adjustment of equipment at acquisition of SILCJ2Dr Profit or loss depreciation [2,000/8] 250Cr Property, plant and equipment – accumulated depreciation 250Being additional depreciation charge on the equipment for the year ($2,000,000/8) as aresult of revaluation of the assets to fair value on acquisition.Reclassification of investment property to property, plant and equipmentCJ3ADr Property, plant and equipment 54,900Cr Investment property 54,900Being reclassification of investment property to owner-occupied property from theperspective of a group.CJ3BDr Profit or loss depreciation [54,900/50] 1,098Cr Property, plant and equipment – accumulated depreciation 1,098Being depreciation of the owner-occupied property from the perspective of a group.

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