Specific Financial Reporting Questions & Answers: Suggested Solution 1

SPECIFIC FINANCIAL REPORTING
QUESTIONS & ANSWERS

QUESTION 1
a) On 31 December 2018 a retailer paid its employees $1,000,000 (net of $400,000 income
taxes deducted from the employees’ remuneration and paid by the retailer on behalf of the
employees to the tax authorities) for work performed in December 2018. On 1 January 2019
the entity paid to the government the $400,000 deducted from its employees’
remuneration.
On 2 January 2019 the retailer paid a further $20,000 to the tax authority. This tax was
levied by the tax authority directly on the retailer’s December 2018 payroll.
Required;
Write up the appropriate journals that have to be passed in 2018 and 2019 in respect of the
details supplied above. (5 marks)
b) In January 2017 K Limited purchased 10,000 $1 listed equity shares at a price of $2 per
share. Transaction costs were $1,000. At the end of the financial year, these shares were
trading at $2.75. A dividend of 10c per share was received on 30 August 2017.
Required:
Show the financial statement extracts at 31 December 2017 relating to this investment on the
basis that:
(i) The shares were bought for trading. (8 marks)
(ii) Conditions for FVTPL were not met (6 marks)
c) Discuss how IFRS 16 impacts on Lessees and Lessors (6 marks)
Suggested Solution 1
a) Journal entries
Date Details Debit Credit
31 December 2018 Profit or loss 1,400,000
Cash 1,000,000
Liability (accrued expense) 400,000
To recognise the short-term employee benefits
expenses incurred in December 2018.
31 December 2018 Profit or loss 20,000
Liability (accrued expense) 20,000
To recognise the tax levied on the entity’s payroll
incurred in December 2018.
1 January 2019 Liability (accrued expense) 400,000
Cash 400,000
To recognise the payment to the government of
1 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

taxes collected on its behalf from the entity’s
employees accrued in 2018.
2 January 2019 Liability (accrued expense) 20,000
Cash 20,000
To recognise the settlement of the tax levied on
the entity’s payroll accrued in 2018.
b) Financial statements extract

(i) The shares were bought for trading
Shares bought for trading “mirror inventory” so any fair value gain or loss should be
recognised in the profit or loss hence the recognition of “Financial assets at fair value
through profit/loss” as per the requirements of IFRS 9. Transactions costs are not
capitalized but are written off separately in the P&L.
Journal entries have only been included for explanatory purposes.
Date Details Dr Cr
1/01/2017 Financial asset @FV through P&L (SFP) (10 000 x $2) 20 000
Transaction costs (P/L) 1 000
Bank (SFP) 21 000
Recognise investment and expense transaction costs
30/08/2017 Bank (SFP) (10 000 x $0.10) 1 000
Other income-dividend received (P/L) 1 000
Dividend received from investment
31/12/2017 Financial Asset @ FV through P/L (SFP) 7 500
Fair value gain (P/L) [($2.75 -$2) x 10 000] 7 500
Re-measurement gain for the year ended 31
December 2017
Statement of profit or loss (extract) for the year ended 31 December 20x1
Other income/investment income
Dividend received 1,000
Fair value gain on remeasurement of Financial Asset at FV through P & L 7,500
Expenses
Transaction costs (1,000)
Statement of financial position (extract) as at 31 December 20x1

Current assets
Financial asset at fair value through P & L 27,500

(ii) Conditions for FV TPL were not met
When conditions for FVTPL are not met the presumption is that the buyer intends to retain
ownership on a continuing basis. This “mirrors PPE” so any fair value gain or loss should be
recognised in the OCI hence the recognition of “Financial Assets at fair value through OCI” as
per the requirements of IFRS 9. Here transaction costs are capitalized as part of the financial
asset.
Date Details Dr Cr
1/01/2017 Financial Assets @ FV through OCI (SFP) [(10 000 x $2) + 21 000
$1 000]
Bank (SFP) 21 000
Recognize investment and capitalize transaction costs
30/08/2017 Bank (SFP) [10 000 x $0.10] 1 000
31/12/2017 Financial asset @FV through OCI (SFP) 6 500
Fair value gain (OCI) 6 500
Re-measurement gain for the year ended 31 December
2017
Other Comprehensive income

Fair value gain on remeasurement of Financial Asset at FV through OCI 6,500

Non-current assets
Financial asset at fair value through OCI 27,500
Equity
Mark to market reserve 6,500

c) Impact of IFRS 16 on lessees and lessors
Impact of IFRS 16 on lessees
For one to satisfactorily answer this part of the question there is need to have knowledge of
both IAS 17 (the repealed standard) and its predecessor (IFRS 16) in order to assess IFRS 16
impact.
Old accounting treatment (IAS 17) Impact of IFRS 16
Off balance sheet Operating leases off-balance sheet No more classification. All leases to
or on balance as a single expense. Finance leases recognise assets and liabilities on
sheet on balance sheet balance sheet. All leases to report
depreciation and interest separately.
What we used to call operating
leases will be capitalised.
Separation of Focus on whether lessee or lessor Lessees are required to identify and
components carries the risk and reward. Both separate non-lease components (i.e.,
lease and non-lease components services components such as
accounted off balance sheet. maintenance) to ensure only the
necessary ones are accounted for on
balance sheet. However, IFRS 16
does permit an accounting policy
election, whereby lessees can
recognise the lease and non-lease
comment as a ‘single lease
component' on the balance sheet. If
lessees choose to utilise this election,
this would in effect, increase the
lease obligations stated on balance
sheet. (Note, if this expedient is
adopted, lessees are not permitted
to account for the combined lease
and non-lease component as a
‘service’).
Disclosures Disclosures cover the specific Disclosures do away with the
requirement of finance leases separate presentation of finance and
separate from operating leases. operating leases for lessees and
instead requires disclosures of the
right of use assets and liabilities.
There are also additional disclosures
to specifically state whether the
lessee has elected not to apply IFRS
16 to short-term and low-value
leases. Specifically, disclosures are
required for short-term and low-
value lease express if these elections

have been made, so too are variable
lease payments not included in the
measurement of lease liabilities.
Measurement of Finance leased assets and liabilities IFRS 16 – Measures the lease
present value & are measured at the fair value of liabilities at the PV of the lease
rate the leased property or, if lower the payments that are not paid at the
PV of the minimum lease date discounted using the implicit
payments. The discount rate to be rate if known, otherwise, the
used in calculating the PV of the incremental borrowing rate. There is
minimal lease payments is the no reference to the fair value and the
implicit rate if known, otherwise, measurement does not relate to the
the lessee’s borrowing rate. Any minimal lease payments. Instead, the
initial direct costs of the lessee are lease payments that are not paid.
added to the value of the asset.
IFRS 16 Leases replaced IAS 17 Leases (Additional explanation)

The most important difference between the two standards relates to lessee accounting. When
entering into leasing arrangements, IAS 17 required lessees to decide if the lease was a finance
lease or an operating lease. If the lease was a finance lease then the lessee recognised the asset
and a lease liability on its statement of financial position because, in substance, the lessee
controlled the asset. If the lease was an operating lease then no asset or liability was recognised
because, in substance, the lessee did not control the asset. This approach was heavily criticised,
most notably for its treatment of lease liabilities. Signing an operating lease agreement gave
rise to a contractual obligation to make lease payments, yet no liability was recognised in the
statement of financial position. This ‘off balance sheet’ financing was seen to lack transparency
as it caused users of an entity’s financial statements to underestimate its gearing levels.
Although operating lease commitments were disclosed in the notes to the financial statements,
these disclosures lacked prominence. The treatment of operating leases in the financial
statements of lessees also caused comparability issues. Users could not easily compare entities
that leased assets under operating leases with those that purchased them, thus hindering
investment decisions. Moreover, the same leasing arrangement might be accounted for very
differently by two entities depending upon their perception and interpretation of the relevant
risks and rewards criteria. IFRS 16 addressed criticisms of lessee accounting by requiring entities
to recognise an asset and a liability for all leases (unless they are short-term or of minimal
value). IFRS 16 did not change lessor accounting requirements, because the cost involved was
deemed to outweigh the benefits.
Impact of IFRS 16 on lessors

Lessor accounting remains largely unchanged under IFRS 16. Although lease accounting is
removing the operating lease and finance lease classification for lessees, lessor accounting

remains largely unchanged and the operational differences between operating leases and
finance leases remain.
QUESTION 2
Bafana Ltd paid the following in respect of staff cost for the year ended December 2019
Basic salaries 5 500 000
Overtime 200 000
Night duty allowance 100 000
Gross salaries 5 800 000
Pension 110 000
Tax (Pay as you earn) PAYE 1 000 000
Other deductions 1 190 000
Total deductions 2 300 000
Net salaries 3 500 000
The company is a member to A to Z Pension fund. The rules of the Defined contribution plan
determine the following in respect of the contributions.
Contributions by the employer- 3% of the basic salaries paid to employees.
Contribution by employees - 2% of total basic salaries paid to employees.
Required
a) Write the necessary journal entries that have to be passed during the year considering that
salaries are processed on the 20th of the month, net salaries and pensions on the 25th. You
are also told that 10% of each of pension due, PAYE and other deductions remittances were
still outstanding by end of year. (11 marks)
b) A statement of profit or loss and other comprehensive income extract of Bafana Ltd for the
year ended December 2019 and its respective statement of financial position extract as at
31 December 2019. (4 marks)
c) Detail how leases are accounted for in the hands of the lessee. (10 marks)
a) Journal entries
Details Dr Cr
Salaries (P/L) 5,800,000
Pension payable (2% x 5,500,000) 110,000
PAYE payable 1,000,000
Other deductions payable 1,190,000
Net salaries payable 3,500,000
Recognition of employees’ salaries costs and payroll deductions
Defined contribution plan expense (P/L) (employer) (3% x 165,000
5,500,000)

Accrued expenses - contributions to plan (SFP) 165,000
Recognition of employers’ contribution into a defined
contribution plan
Pension payable (90% x 110 000) 99,000
Net salaries payable 3,500,000
Accrued expenses-contributions to plan (90% x 165,000) 148,500
Bank 3,747,000
Payment of net salaries and 90% of pensions
b) Financial statements extracts
Statement of profit or loss extract for the year ended 31 December

Expenses
Short-term employee benefit costs: salaries & wages 5,800,000
Defined benefit plan expense 165,000
Take note that the employee contribution forms part of the gross salary expense, as it is paid
over by the employer on behalf of the employee

Liabilities
Accrued expenses - contributions to plan (165,000 – 148,500) 16,500
PAYE payable 1,000,000
Other deductions payable 1,190,000
Pension payable (110,000 – 99,000) 11,000
c) Accounting treatment of leases in the hands of the lessees

At the commencement or inception of the lease:
At the commencement of the lease, IFRS 16 requires that the lessee recognises a lease liability
and a right-of-use asset.
Debit Right-of-use asset
Credit Lease Liability
Initial measurement
The liability
The lease liability is initially measured at the present value of the lease payments that have not
yet been paid. IFRS 16 states that lease payments include the following:
 Fixed payments

 Variable payments that depend on an index or rate, initially valued using the index or rate
at the lease commencement date
 Amounts expected to be payable under residual value guarantees
 Options to purchase the asset that are reasonably certain to be exercised
 Termination penalties, if the lease term reflects the expectation that these will be incurred.
N.B. The discount rate should be the rate implicit in the lease. If this cannot be determined,
then the entity should use its incremental borrowing rate (the rate at which it could borrow
funds to purchase a similar asset).
The right-of-use asset

The right-of-use asset is initially recognised at cost. IFRS 16 states that the initial cost of the
right-of-use asset comprises:
 The amount of the initial measurement of the lease liability
 Lease payments made at or before the commencement date
 Initial direct costs
 The estimated costs of removing or dismantling the underlying asset as per the conditions
of the lease.
Subsequent treatment
The lease liability
The carrying amount of the lease liability is increased by the interest charge. This interest is also
recorded in the statement of profit or loss:
Dr Finance costs (P/L)
Cr Lease liability
The carrying amount of the lease liability is reduced by cash repayments:

Dr Lease liability
Cr Cash / Bank
The right-of-use asset

The right-of-use asset is measured using the cost model (unless another measurement model is
chosen). This means that it is measured at its initial cost less accumulated depreciation and
impairment losses as per guidance in IAS 16 PPE.
Depreciation is calculated as follows:
 If ownership of the asset transfers to the lessee at the end of the lease term then
depreciation should be charged over the asset's remaining useful economic life,
 Otherwise, depreciation is charged over the shorter of the useful life and the lease term.

Short-life and low value assets (IFRS 16)
If the lease is short-term (less than 12 months at the inception date) or of a low value then a
simplified treatment is allowed. In these cases, the lessee can choose to recognise the lease
payments in profit or loss on a straight line basis. No lease liability or right-of-use asset would
therefore be recognised.
IFRS 16 does not specify a particular monetary amount below which an asset would be
considered ‘low value’. IFRS 16 gives the following examples of low value assets:
 tablets
 small personal computers
 telephones
 small items of furniture.
The assessment of whether an asset qualifies as having a ‘low value’ must be made based on its
value when new. Therefore, a car would not qualify as a low value asset, even if it was very old
at the commencement of the lease.
Lessees: presentation and disclosure

If right-of-use assets are not presented separately on the face of the statement of financial
position then they should be included within the line item that would have been used if the
assets were owned. The entity must disclose which line item includes right-of-use assets. IFRS
16 requires lessees to disclose the following amounts:
 The depreciation charged on right-of-use assets
 Interest expenses on lease liabilities
 The expense relating to short-term leases and leases of low value assets
 Cash outflows for leased assets
 Right-of-use asset additions
 The carrying amount of right-of-use assets
 A maturity analysis of lease liabilities.
QUESTION 3
a) Below are listed five situations.
(i) M has paid $3 million towards the cost of a new hospital in the nearby town, on
condition that the hospital agrees to give priority treatment to its employees if they are
injured at work.
(ii) N is the freehold legal owner of a waste disposal tip. It has charged customers for the
right to dispose of their waste for many years. The tip is now full, and heavily polluted
with chemicals. If cleaned up, which would cost $8 million, the site of the tip could be
sold for housing purposes for $6 million.
(iii) P has signed a contract to pay its finance director $300,000 per year for the next five
years. He has agreed to work full time for the firm over that period.

(iv) Q has paid $25,000 to buy a patent right, giving it the right to sole use, for 8 years, of a
manufacturing method which saves costs.
(v) Company A has leased an asset from company B which company A has to use for the
asset’s entire useful life. The asset would have a cash value of $100 000 if purchased
outright.
Required
For each situation, state whether an asset or a liability is created. (10 marks)
b) What are the differences between a finance lease and an operational lease? (10 marks)
c) Name and briefly describe the categories into which employee benefits can be classified in
terms of IAS 19 – Employee Benefits. (5 marks)
a) Situations
(i) The Revised Conceptual Framework (2018) now defines an asset as “a present economic
resource controlled by the entity as a result of past events”. An economic resource, which
previously had no definition, is defined as “a right that has the potential to produce
economic benefits”. M cannot control the actions of the hospital, nor is it certain that there
is access to future economic benefits. Therefore M does not have an asset.
(ii) N controls the tip as the result of a past transaction, but there does not appear to be any
potential to produce economic benefits, as the tip cannot be sold in its present state and no
further income can be obtained from it. Therefore the site of the tip is not an asset. It is
possible that N has a liability for the cost of cleaning up the tip. A liability is now defined in
the Revised Conceptual Framework (2018) as “a present obligation of the entity to transfer
an economic resource as a result of past events.” An obligation is “a duty or responsibility
that the entity has no practical ability to avoid”. In practice, N may be legally obliged to
clean up the tip so that it is no longer in a dangerous condition. If this were the case, there
would be a liability of $8 million and a corresponding asset for $6 million.
(iii) At first, the contract between P and its finance Director may appear to give P a liability.
However salary is paid a result of the director’s work during the next 5 years. There is no
past event and therefore P cannot have a liability.
(iv) It is clear that Q has acquired rights to future economic benefits (through cost savings)
through a past transaction (the purchase) and that it controls the benefits (it has sole use of
the method for 8 years). The patent rights are an asset of Q.
(v) The lease agreement between Company A and Company B conveys 'the right to Company A
to control the use of the identified asset for its entire useful life in exchange for
consideration. This contract gives Company A:
1. The right to substantially all of the identified asset's economic benefits, and
2. The right to direct the identified asset's use.

Company A must therefore recognise a “Right of use (ROU) asset and a lease liability in its
books.
b) Differences between a finance lease and an operational lease

The mnemonic “DON’T REACT” has been coined to help you remember the differences
between a finance lease and an operating lease. Your answer may not necessarily be in
tabular format but this will only help you remember the main points of difference to earn
marks.
Point of difference Finance lease Operating lease
Definition It is a leasing arrangement in It is a leasing arrangement in
which the risks and rewards which the risks and rewards
related to the leased asset are related to the leased asset remain
also transferred to the lessee at with the lessor and the lessee only
the time of transfer of the asset has the right to use the asset
in exchange for periodic lease during the lease term.
payments.
Obsolescence The risk bearing for obsolescence The risk bearing for obsolescence
rests with the lessee rests with the lessor
Nature of contract A finance lease is akin to a loan An operating lease is akin to a
agreement. rental agreement.
Term of the lease The lease term of a finance lease The lease term of an operating
is fairly long and is generally for lease is relatively shorter
the major part of the economic
life of the leased asset.
Responsibility for The responsibility of insuring and The responsibility of insuring and
repairs, maintenance maintaining the asset vests with maintaining the asset vests with
& insurance the lessee. the lessor.
Expected lease In a finance lease, the lease In an operating lease, the lease
payments in relation payments are higher. Generally, payments are lower and need not
to current (or fair) at the inception of the lease the aggregate to the current value of
value of the leased present value of the sum of the the leased asset
asset minimum lease payments
amounts to at least substantially
all of the fair value (current
value) of the asset.
Allowable deductions The lessee can claim tax The lessee can claim the periodic
depreciation (capital allowances) lease payments as a tax deductible
on the asset as well as finance expense.

charges of the lease as tax
deductible expenses.
Cancellation of the The lease period is non- The lessor is free to cancel the
lease cancellable. lease at any time.
Transfer of ownership In most cases the lessee has the The ownership of the leased asset
of the leased asset right to purchase and receive remains with the lessor and no
ownership of the leased asset right of purchase at the end of the
before the end of the lease term. lease term is available.
c) Categories of employee benefits

The best approach in answering this question is to:
1. Name the category
2. Describe and then
3. Give an example
The mnemonic “SPOT” has been coined to help you remember the categories into which
employee benefits can be classified in terms of IAS 19. Your answer may not necessarily be in
tabular format but this will only help you remember the main points of discussion.
Name of Description Examples
category
Short term There are employee benefits other than Wages and salaries, paid annual
employee termination benefits which fall due leave, paid sick leave, paid
benefits wholly within 12 months after the end of maternity/paternity leave and
the period in which the employees profit shares and bonuses.
render the related service.
Post- There are employee benefits other than Pensions, post-employment
employment termination benefits which are payable medical care and post-
benefits after completion of employment. employment insurance such as
health insurance, life insurance
& dental insurance.
Other Long Term There are employee benefits (other than Long-term paid absences such as
Employee post-employment benefits and long-service or sabbatical leave,
Benefits termination benefits) which do not fall jubilee or other long-service
due wholly within 12 months after the benefits, long-term disability
end of the period in which the benefits, long-term profit-
employees render the related service. 2 sharing and bonuses,
basic types of post-employment benefits anniversary payment, death
are: Defined contribution plans & benefits, share schemes based
Defined benefit plans on years served and deferred

remuneration.
Termination They are employee benefits payable as a Severance pay, pay in lieu of
Benefits result of either: notice etc
a) An entity’s decision to terminate an
employee’s employment before the
normal retirement date or
b) Any decision to accept voluntary
redundancy in exchange for those
benefits.
QUESTION 4
Musiyanwa Ltd is a company that farms wheat. Musiyanwa Limited is a relatively new company
in the wheat industry, having previously been in the farm equipment manufacturing industry.
Musiyanwa Limited was awarded a government grant of $500 000.00 on 1 January 2015, the
details of which are as follows:
 $300 000 is to assist with the purchase of a new harvester;
 $200 000 is for immediate financial support and is not associated with any future costs;
 All conditions attaching to the grant have been met.
Later that day, the harvester was acquired for $900 000. The harvester has a useful life of 5
years and at the end of its useful life, Musiyanwa Limited expects to sell it for $50 000 as a
scrap metal.
Required:
a) Show the general journal entries for the years 31 December 2015 to 2019 using the grant
deferred income approach. (13 marks)
b) Show the general journal entries for the years ended 31 December 2015 to 2019 using the
reduction of the related costs approach. (8 marks)
c) Assume that since 2015 to 2017 Musiyanwa has been making losses and on 1 January 2018
the government demands the repayment of the grant in full as a result of the organization
failing to fulfill the grant conditions. Show the accounting treatment of the repayment of
the grant in the books of Musiyanwa Limited given that the grant is repaid on 1 January
2018. (4 marks)
a) Deferred income approach
1 January 2015 Bank (SFP) (Given) 500,000
Deferred grant income (SFP) 500,000
Recognition of government grant
1 January 2015 Deferred grant income (SFP) (Given) 200,000
Grant income (P or L) 200,000
Portion of the grant received for immediate financial support

is recognised as income immediately
1 January 2015 Harvester: cost (asset) (SFP)Given 900,000
Bank (SFP) 900 000
Purchase of harvester
31 December Depreciation (P or L) (900 000 – 50 000) / 5 years 170 000
2015 Harvester: accumulated depreciation (SFP) 170 000
Depreciation for the year
31 December Deferred grant income (SFP) (500 000 - 200 000) / 5 yrs 60 000
2015 Grant income (P or L) 60 000
Grant income recognised on the same basis as
depreciation
depreciation
depreciation
depreciation
depreciation

b) Reduction of cost approach / Netting off approach
1 January 2015 Bank (SFP) (Given) 500,000
Deferred grant income (SFP) 500,000
Recognition of government grant
1 January 2015 Deferred grant income (SFP) (Given) 200,000
Grant income (P or L) 200,000
Portion of the grant received for immediate financial support
is recognised as income immediately
1 January 2015 Harvester: cost (asset) (SFP) Given 900,000
Bank (SFP) 900 000
Purchase of harvester
1 January 2015 Deferred grant income (SFP) (500 000 – 200 000) 300,000
Harvester: cost (asset) (SFP) 300 000
Grant set off against cost of harvester
31 December Depreciation(P or L) (900 000 – 300 000 – 50 000) / 5 yrs 110,000
2015 Harvester: accumulated depreciation (SFP) 110,000
31 December Depreciation (P or L) (900 000 – 300 000 – 50 000)/ 5 yrs 110,000
c) Accounting treatment of the repayment of the grant

Under the two methods of presentation of the grant, the treatment of the repayment is as
follows.
Deferred income approach

1 January 2018 Deferred grant income (SFP) 120,000A
Reversal of amortised grant income (P or L) 380,000B
Bank (SFP) 500,000C
Repayment of government grant, reversal of grant
income & cancellation of unamortised balance on
failure to comply with grant conditions
A: By the end of the third year (31 December 2017) the asset-based grant of $300,000) has
been amortised 3 times in part a (journal entries 5, 7 & 9) meaning cumulative grant income of
$60,000 x 3 = $180,000 has been amortised leaving an unamortised balance of $300,000 -
$180,000 = $120,000 or $60,000 x 2 remaining years = $120,000. Now that the grant has to be
repaid, the credit balance on the deferred grant income (liability) should be cancelled by
debiting deferred grant income.
B: The $380,000 consists of $180,000 mentioned in (A) above and $200 000 which was for
immediate financial support. These two amounts have already been amortised as grant income
in the P & L. Now that the full grant has to be repaid, these amounts have to be reversed and
recognised as expenses in the same statement they were previously recognised as income.
C: The grant has to be repaid in full so $500,000 should credited to the bank account.
N.B. Take note that under the deferred income approach, the repayment of the grant has no
effect on the carrying amount of the asset or on the depreciation expense recognised.
Reduction of cost approach / Netting off approach

1 January 2018 Harvester (SFP) 300,000A
Reversal of amortised grant income (P or L) 200,000B
Bank (SFP) 500,000C
Repayment of government grant, reversal of grant
income and reversal of the reduction of the asset
on failure to comply with grant conditions.
1 January 2018 Depreciation (P or L) 180,000D
Accumulated depreciation (SFP) 180,000D
Adjustment of depreciation on failure to comply
with grant conditions
A: Remember on initial receipt of the grant, the amount received for the asset-based grant
($300,000) was used to reduce the asset in part b (journal entry 5). Now that the grant has to
be repaid, the asset should be recognised as if not grant was received hence the need to debit
(increase) asset with $300,000.
B: $200 000 which was for immediate financial support was recognised as grant income in the
year of receipt. Now that the full grant has to be repaid, this portion has to be reversed and
recognised as an expense in the same statement it was previously recognised as income.
C: The grant has to be repaid in full so $500,000 should credited to the bank account.
D: As indicated in (A) above that the asset has to be increased as if there was no grant then we
should also adjust depreciation proportionately for the three years (2015 to 2017).
Depreciation should be adjusted by ($300,000/5 years x 3) = $180,000.

QUESTION 5
a) B Limited has 5 supervisors who receive a salary of $75 000 each per annum. It is generally
accepted that salaries will increase by 6% per annum. B Limited received a government
grant of $100 000 on 1 January 2017 in total for the supervisors on condition they are
employed for a minimum of 3 years.
Required
Prepare financial statements extracts for the years ended 31 December 2017, December 2018
and December 2019 (9 marks)
b) Aguma Ltd provides medical services in remote areas in Uzumba-Maramba Pfungwe. They
receive government grant every year in respect of these medical services provided in that
specific year, since the government wishes to provide medical services to all residents of
Zimbabwe.
During the year ended 31 December 2018 Aguma Ltd collected $10 000 from the inhabitants of
the remote area for the services rendered and received a $400 000 grant on 1 January 2018
from the government. Aguma Ltd spent $500 000 in respect of the provision of medical services
in remote areas in Uzumba-Maramba Pfungwe.
Assume a tax rate of 28%. Aguma Ltd has no other income or expenses. Assume also that there
will be sufficient other taxable income in future periods and that deferred tax assets can be
recognised. The grants received from the government are taxable when received.
Required:
a. Prepare the journal entries (cash transactions included) for the year ended 31December
2018 in respect of the above transactions if it is assumed that the government grant is
presented as other income in the statement of profit or loss and Other comprehensive
income. (8 marks)
b. Prepare the journal entries (cash transactions included) for the year ended 31December
2018 in respect of the above transactions if it is assumed that the Government grant is
deducted from the related expense, in the statement of profit or loss and other
comprehensive income. (8 marks)
Your solution must comply with the requirements of International Financial Reporting
standards.
a) Financial statements extracts
2017 2018 2019
Other income
Grant income amortised (w2) 31,411 33,296 35,293
Expenses
Salaries (w1) 375,000 379,500 421,350

Statement of financial position as at 31 December
2017 2018 2019
Non-current liabilities
Deferred grant income 35,293 0 0
Current liabilities
Deferred grant income 33,296 35,293 0
Workings
1. Calculation of salary cost over three-year period $
31 December 2017 (75,000 x 5 supervisors) 375,000
31 December 2018 (375,000 × 106%) 379,500
31 December 2019 (379,500 × 106%) 421,350
1,193,850
2. Calculation of amortisation of grant over three-year period $

31 December 2017 (100,000 × 375,000/1,193,850) 31,411
31 December 2018 (100,000 × 379,500/1,193,850) 33,296
31 December 2019 (100,000 × 421,350/1,193,850) 35,293
Total grant 100,000
Part b – Aguma Limited

a) Grant presented as “other income”
Journal entries for the year ended 31 December 2018
1 Medical costs incurred (P & L) 500,000
January Bank 500,000
2015
1 Bank 10,000
January Income from provision of medical services (P & L) 10,000
2015
Bank 400,000
Government grant in respect of provision of medical services 400,000
(P or L)
Deferred tax (SFP) (1) (2) 25,200

Income tax expense (P & L) 25,200
Workings
(1) 500,000 – 400,000 – 10,000 = 90,000 unused tax loss
(2) 90,000 × 28% = 25,200

b) Grant deducted from the related expense
Journal entries for the year ended 31 December 2018
Medical costs incurred (P & L) 500,000
Bank 500,000
Bank 10,000
Income from provision of medical services (P & L) 10,000
Bank 400,000
Medical costs incurred (P & L) 400,000
Deferred tax (SFP) (1) (2) 25,200
Income tax expense (P & L) 25,200
Workings
(1) 500,000 – 400,000 – 10,000 = 90,000 unused tax loss
(2) 90,000 × 28% = 25,200
QUESTION 6
On 1 January 2017, Vladmire, a Russian business man received $1,000,000 grant from national
government as an incentive to establish and operate a manufacturing plant at Mapinga—a
development zone. Funds are remitted from the government to Vladmire when Vladmire incurs
the expenditure.
$600,000 of the grant is conditional on Vladmire erecting plant costing at least $2,000,000 in
the development zone and the plant commencing commercial production on or before 31
December 2018. Certain conditions are attached to the type of expenditure making up the
$2,000,000. If these conditions are not met, Vladmire will be obliged to refund the $600,000 to
the national government.
$400,000 of the grant is conditional upon Vladmire maintaining commercial production at the
plant for a period of four years from the date when commercial production begins. Vladmire
will become unconditionally entitled to $100,000 at the end of each of the first four years of the
commercial operation of the plant.
During 2017 Vladmire constructed the plant at a cost of $2,100,000, all of which met the type of
expenditure specified under the conditions of the grant.
During the first quarter of 2018 Vladmire tested the plant’s manufacturing process and on 1
April 2018 began commercial production at the plant.

Vladmire assessed the useful life of the plant as 20 years from 1 April 2018 with a nil residual
value. Furthermore, the straight-line method is assessed as the most appropriate basis for
depreciating the plant.
At 31 December 2018 and 31 December 2019 Vladmire’s assessment of the plant remained
unchanged.
Since the start of production, the plant has operated profitably with operating profit before tax
of $600 000 in the first year of operation and a 50% increase for each subsequent year.
Furthermore, Vladmire intends to continue operating the plant on a commercial basis for the
foreseeable future.
Required:
Prepare accounting entries to record the information set out above in the accounting records of
Vladmire for the years ended 31 December 2017, 2018 and 2019 and the respective financial
statements extracts using the deferred income approach treatment as per IAS 20.
Suggested Solution to question 6

1 January 2017 Cash (SFP) 1,000,000
Deferred grant income - Liability (SFP) 1,000,000
To recognise as a liability the government grant
received before the income recognition criteria are
satisfied.
During 2017 Property, plant and equipment—cost (SFP) 2,100,000
Cash (SFP) 2,100,000
To recognise the cost of plant constructed.
1 April 2018 Deferred grant income - Liability (SFP) 600,000
Profit or loss—other income, government grant 600,000
To recognise as income the part of the government
grant for which the performance conditions are
satisfied (i.e. plant costing in excess of 2,000,000 of
qualifying expenditure was constructed and brought
into use in the development zone).
During 2018 Profit or loss—depreciation (operating expenses) 78,750(a)
PPE—accumulated depreciation (SFP) 78,750
To recognise depreciation expense for the nine-month
period ended 31 December 2018
1 April 2019 Deferred grant income - Liability (SFP) 100,000
Profit or loss—other income, government grant 100,000
To recognise as income the part of the government

grant for which the performance conditions are
satisfied (i.e. the plant was operated commercially for
12 months).
During 2019 Profit or loss—depreciation (operating expenses) 105,000
PPE—accumulated depreciation (SFP) 105,000
To recognise depreciation expense for the 12-month
period ended 31 December 2019.
Workings
(a) $105,000 (b) depreciation for a year x 9/12 months (i.e. April to December) = $78,750
depreciation for 9 months.
(b) $2,100,000 depreciable amount ÷ 20-year useful life = $105,000 depreciation per year.

2017 2018 2019
Profit before tax - 600,000 900,000
Adjustments
Other income
Grant income 700,000 100,000
Expenses
Depreciation (100,000 / 5 years) (78,750) (105,000)

2017 2018 2019
Non-current assets
PPE
At cost 2,100,000 2,100,000
Accumulated Depreciation (78,750) (183,750)
Carrying amount 2,021,250 1,916,250
Deferred grant income 300,000 200,000 100,000
Current liabilities
Deferred grant income 700,000 100,000 100,000

QUESTION 7
Consider the following independent cases:
1. Audit fees. (2 marks)
2. Final ordinary dividend received. Dividends are declared on 31 December and are payable
to shareholders registered on that date. Payment is made three weeks after date of
declaration. (2 marks)
3. Interim ordinary received. Dividends are declared on 30 June and are payable to
shareholders registered on that date. Payment is made six weeks after date of declaration.
(2 marks)
4. Interest received on fixed deposit. Interest is payable annually in arrears. (2 marks)
5. Trade discount granted to customers. (2 marks)
6. Revenue consisting of gross sales (including VAT). (2 marks)
7. Royalties amounting to $100 000 are receivable from a foreign country. Payment of the
royalty is expected to be delayed. (2 marks)
8. A vehicle sold in terms of an instalment sales agreement. (2 marks)
9. A subscription fee received in respect of a magazine published monthly. The magazine sells
for $10 a copy. (2 marks)
10. $50 000 is received for the rendering of financial services. (2 marks)
11. A manufacturer sells goods to its customers through an intermediary.
The intermediary holds the goods on consignment from the manufacturer.
The intermediary may return any goods not sold to the manufacturer.
The manufacturer instructs the intermediary to sell the goods at $100 per unit.
The intermediary deducts fixed commission of $10 for each unit sold and transfers the
balance ($90) to the manufacturer. If goods are found to be defective, the customers must
return the goods to the manufacturer for repair or replacement. (5 marks)
Required:
State with reasons, the timing of recognition of revenue in each case so as to comply with the
requirements of International Financial Reporting Standards (IFRSs)
1. Audit fees
The recognition of audit fees as revenue will depend on the manner in which the service was
performed.
If the audit is performed once a year, at the end of the year, the revenue must be recognized
once the audit report has been signed. At this date the amount of the revenue can be
determined reliably, the economic benefits of the transaction will probably flow to the entity
and the costs incurred in respect of the transaction can also be measured reliably.
If the audit is of a continuous nature, the revenue should be recognized over the period of the
service if the outcome of the transaction can be estimated reliably.
2. Final ordinary dividend received

Dividends received should be recognized as revenue when the shareholders’ right to receive
payment has been established. This right is established once the last date for registration of
shareholders has passed (which is the same date that the dividends were declared). On this
date it is possible that the economic benefits associated with transaction will flow to the entity.
3. Interim ordinary dividend received

An interim dividend can legally be withdrawn and therefore revenue should only be recognized
when the dividend is received.
4. Interest received on fixed deposit.

Interest should be recognized in the statement of profit or loss and other comprehensive
income using the effective interest method as set out in IFRS 9. Interest usually accrues on a
daily basis and is determined on the basis of the principal sum outstanding and the applicable
interest rate.
5. Trade discount granted to customers.

The amount of revenue to be recognized is measured at the fair value of the consideration
received or receivable. The fair value of the consideration received is measured after taking into
account the amount of any trade discount received. The net amount of the revenue, after
deducting the trade discount, should be recognized.
6. Revenue and VAT

VAT is collected on behalf of the tax authority. Revenue excludes amounts collected on behalf
of third parties (IFRS 15.47) and hence will exclude VAT. The latter is recognised as a separate
liability as the amount of VAT is payable to the tax authority.
7. Royalties
Royalties are paid for the use of an entity’s assets and are recognized on an accrual basis in
accordance with the substance of the agreement. As the amount of revenue can be measured
reliably (i.e. $100 000), the recognition of revenue can occur when it is probable the economic
benefits will flow to the entity. If the expected delay in payment is contingent on the
occurrence of a future event, the recognition of the revenue must be delayed until it is
probable that the royalty will be received (i.e. on removal of the uncertainty).
8. Instalment sales agreement

Revenue attributable to selling price is recognized at the date of the sale. This amount excludes
interest. The interest element of the transaction is recognized as revenue as the interest is
earned, using the effective interest rate method.
9. Subscription fees received

Revenue will be recognized on a straight-line basis over the period of the subscription. The
reason for this is because the magazine sells for the same amount each month.
10. Rendering of financial services

The recognition of revenue for financial service fees depends on the purposes for which the
fees are assessed and the basis of accounting for any associated financial instrument. The
description of fees for financial services may not be indicative of the nature and substance of
the services provided, as in the information provided. It is therefore necessary to distinguish
between the following types of fees:
 Fees that are an integral part of the effective interest rate of a financial instrument:
- Such fees are generally recognized as an adjustment to the effective interest rate.
However, when the financial instrument is to be measured at fair value with the change
in fair value recognized in profit or loss, the fees are recognized as revenue when the
instrument is initially recognized.
 Fees that are earned as services are provided:
- Such fees are deferred and recognized as revenue as the service is provided.
 Fees that are earned on the execution of a significant act:
- The fees are recognized as revenue when the significant act has been completed.
11. Sales through intermediaries

The manufacturer is acting as a principal for the sale to the customers as it has exposure to the
significant risks and rewards associated with the sale of goods (e.g. inventory obsolescence,
defective goods returned, setting sales price etc). The manufacturer is required to measure
revenue from the sale of goods at $100 for each unit of the goods sold by its agent (the
intermediary). The manufacturer should recognise revenue on the sale on the date the goods
are sold to the customers by the intermediary as this is when the risks and rewards are
transferred. The manufacturer must also recognise a warranty provision (liability) for the
limited right of return.
The intermediary is acting as an agent for the manufacturer. It must therefore measure revenue
from the provision of services (sales commission) at $10 for each unit of goods sold. The
manufacturer must recognise a corresponding expense as commission paid.
QUESTION 8
a) Tagz limited is involved in the importation and sale of agriculture equipment. The following
information relate to two combine harvesters imported in the year 2017.
-FOB cost for both harvesters $200000
-Import duties $10000
-Clearing agent costs $5000
-Wages for staff $4500
-Sales: -Harvester 1 (1.6.17) $150000
-Harvester 2 (1.7.17) pre-invoicing $150000
Additional information:
1. Wages for staff include an amount of $2000 which was specifically for bringing the
harvesters into use.

2. The price for each combine harvester includes amounts for Value added Tax, of which no
remittance has been made to the tax authorities.
3. Due to economic changes, the market prices at year end have been reduced to $120000
excluding VAT with selling expenses estimated at $30000.
Required:
Determine the following:
1. Revenue to be recognised
2. Expenses to be recognised
3. The cost for the combine harvesters
4. Liabilities
5. Classification and measurement of the combine harvesters at year end. (15 marks)
b) On 30 September 2018 C Ltd started with the construction of a plant which will take a long
time to complete. The expenses on the project were paid as follows;
Period $
30/09/18 50 000
31/10/18 20 000
30/11/18 60 000
31/12/18 80 000
A loan of $300 000 was acquired on 30 September 2018 specifically for purposes of erection of
the plant. The loan carries interest at 16 % per annum, payable annually in arrears. Surplus
funds from the loan are invested temporarily and these produced interest incomes of $10 000.
Required
(i) Calculate the borrowing costs that can be capitalized to 31/12/18 (4 marks)
(ii) Calculate the borrowing costs that can be capitalized to 31/12/18 if the $300 000 was an
overdraft facility (6 marks)
a) Revenue issues
1. Revenue to be recognised
Gross sales value of combined harvester 150,000
Less: VAT (150,000 x 15/115) (19,565)
Revenue recognised (net of VAT) 130,435
2. Expenses to be recognised
Wages for staff (4,500 – 2,000) 2,500
Impairment loss (see 5 below) 18,500
Total expenses recognised 21,000
3. The cost for the two combined harvesters

FOB cost 200,000

Import duties 10,000
Clearing agent 5,000
Wages for staff 2,000
Total cost of combined harvesters 217,000
4. Liabilities
VAT liability (150,000 x 15/115) (see 1 above) 19,565
This is because note 2 in the question has highlighted that VAT remains unremitted.
5. Classification and measurement of the combine harvesters at year end

IAS 2 requires inventory to be valued at the lower of cost and the NRV so we should first
calculate these two and take the lower value.
Take note that the first combine harvester has been sold so we need to measure the second
one which remains in our stocks.
Cost price of combine harvester 2 = $217,000 /2 = $108,500
Calculation of the Net Realisable Value (NRV) of combine harvester 2

Selling price (market price) 120,000
Less: Expected selling costs (30,000)
Net Realisable Value (NRV) 90,000
Calculation of inventory write-down (impairment loss)

Cost 108,500
Net Realisable Value (90,000)
Impairment loss 18,500
Statement of financial position (extract)

Current assets
Inventory of combine harvesters 90,000
b) Borrowing costs
(i) Calculation of borrowing costs to be capitalised on 31 December 2018
Interest cost (300,000 x 16% x 3/12) 12,000
Interest income (10,000)
Interest capitalized 2,000
(ii) Calculation of borrowing costs capitalised if 300,000 was an overdraft facility

Take note that an overdraft is meant for working capital purposes so if it used to fund capital
expenditure, its treatment should resemble that of a general borrowing.
30/09/18 (50 000 x 16% x 3/12) 2,000
31/10/18 (20 000 x 16% x 2/12) 533
30/11/18 (60 000 x 16% x 1/12) 800
31/12/18 0

Interest capitalised 3,333
QUESTION 9
Very Perfect Products (VPP) is a 60% owned subsidiary of CW. The company manufactures and
sells computers and related accessory products and also publishes an information technology
related magazine – CSR Magazine. Financial highlights are as follows:
Year ended 30 September 20X14 (actual) 20X15 (draft)
$m $m
Revenue 160 180
Net profit 18 14.4
Gross profit margin 15% 16%
Net assets 40 54.4
a) Madhovi Patie, is the newly appointed financial controller of CSR. Her assistant, Ronnie
Kupa, has brought the following matters to her attention:
 The 2014 audited financial statements of CSR included the following revenue
recognition policy statement: “Revenue is recognised when the outcome of a
transaction can be measured reliably and when it is probable that the economic benefits
associated with the transaction will flow to the company. Sales revenue is recognised
when the merchandise is shipped and title has passed.”
 On reviewing the detailed accounting records, Madhovi noted that certain revenue was
mistakenly recognised on a cash basis in the year 2015. Revenue and net profit of
approximately $50m and $7.4m relating to year 2014 were mistakenly recorded in year
2015 and these amounts have been included in the draft 2015 figures above. (5 marks)
b) CSR made significant sales to a supplier, Kingman Associates (KA), in the year 2014. As at 30
September 2014, CSR had accounts receivable of approximately $8m due from KA.
Allowance for doubtful debts of approximately $1m was made at 30 September 2014 for
invoices under dispute that were estimated to be doubtful debts. KA filed for bankruptcy in
March 2015 and the whole of the outstanding net receivable amount of approximately $7m
was written off. Madhovi is considering whether the $7m write-off should be recorded
retrospectively in year 2014 as it relates to sales in 2014. (5 marks)
c) The major source of income for the company’s magazine – CSR Magazine – is advertising
income from the advertisements placed and published in the CSR Magazine. Madhovi has
reviewed the income and expenditure arising from the publishing activities of the CSR
Magazine for the year ended 30 September 2015 and has noted that the CSR Magazine has
earned an advertising income of $0.35m from Apple Magazine, an unrelated entity.
Madhovi has also reviewed the advertising contract signed with Apple Magazine and found
that Apple Magazine agreed to place advertisements in the CSR Magazine for $0.35m and
CSR Magazine agreed, in return, to place advertisements in Apple Magazine for the same
amount. (5 marks)

d) The 2015 financial statements of CW will be approved for issue in March 2016. Dividends
declared in February 2016 were recorded as dividends payable in the draft financial
statements as at and for the year ended 30 September 2017. (4 marks)
e) Under a construction contract to which the outcome of the construction contract can be
estimated reliably, a contractor agrees to receive a 40 per cent fixed return on its direct
contract costs from the customer. The contractor’s initial estimate of contract costs at 1
January 2014, the date the contract is agreed, is $2,000 (all of which are considered direct
costs). Therefore, expected revenue under the contract is $2,800. The contract is expected
to last two years. The contractor has a 31 December year-end.
At 31 December 2014 contract costs of $1,045 have been incurred and the contractor
expects total contract costs to be $1,900 (all considered direct costs).
At 31 December 2015 actual costs are $2,000. However, only $1,800 meet the criteria in the
contract to be considered direct costs when determining the 40 per cent fixed return.
(6 marks)
Required:
Discuss, and provide Madhovi Patie with explanations and/or calculations of the proper
accounting treatment of the various matters dealt with above. While drafting your answer take
into account the requirements of the relevant International Financial Reporting Standards.
a) Madhovi adjustments
Revenue and profit for 2014 should be increased by 50 and 7.4 respectively. Conversely, draft
revenue and profit for 2015 should be reduced by 50 and 7.4 respectively.
b) Bankruptcy of a customer
IAS 10 states that the bankruptcy of a debtor that occurs after the reporting date usually
confirms that a loss already existed at the reporting date on a receivable account, and that the
entity needs to adjust the carrying amount of the receivable account. This is an adjusting event
as it provides more up-to-date information about a provision that was recognised at the end of
the reporting period. The provision should be increased to 7m both in the statement of profit or
loss and statement of financial position.
c) Swap of advertising services

If an entity chooses to exchange or swap the goods or services with another entity which are
similar in nature and of similar value, in such circumstances no revenue will be recognize as
such exchange or swap for the similar goods or services does not result in increase in economic
benefits. An exchange of similar advertising services is not a transaction that generates revenue
under IFRS 15. On the facts, it appears that the advertising services swapped for advertising
services in another magazine of a similar nature and value. Therefore, neither the entity nor the

third party should recognise any revenue (or associated cost) for the advertising services
provided (i.e. for the advertising space given up (received)).
d) Dividend declared after the reporting date

IAS 10.12 stipulates that a dividend declared after the reporting date but before the financial
statements were authorised for issue will not be recognised as a liability at the reporting date.
IAS 1 requires such a declaration after the reporting date to be disclosed in the notes to the
financial statements.
Here the board of directors proposed a dividend in February 2016 and the financial statements
were authorised for issue on in March 2016. As no obligating event had taken place by 31
December 2015, there is no current obligation and recognition of a liability at the end of the
reporting period – the obligating event is the approval by shareholders at the annual general
meeting. The disclosure is as follows:
CW LTD
EXTRACT FROM THE NOTES FOR THE YEAR ENDED 31 DECEMBER 2015
1. Dividends declared after the reporting date
An ordinary dividend of $XXX related to 2015 was proposed and declared in February 2016.
e) Construction contract
The contractor determines the stage of completion of the contract by calculating the
proportion that contract costs incurred for work performed to date bear to the latest estimated
total contract costs.
Stage of completion at 31 December 2014 = 55% (i.e. $1,045 ÷ $1,900 = 55%).
In the year ended 31 December 2014 the contractor should recognise revenue of $1,463 (i.e.
$1,900 × (100% + 40%) × 55%) and costs of $1,045 for this contract. A short cut to measuring
revenue in a cost plus contract—add the agreed margin to the specified costs, (i.e. in this
example, $1,045 + 40% × $1,045 = $1,463).
In the year ended 31 December 2015 the contractor should recognise revenue of $1,057 (i.e.
$1,800 × (100% + 40%) less $1,463) and costs of $955 (i.e. $2,000 less $1,045) for this contract.
Shortcut—$1,800 + 40% × $1,800 less $1,463 recognised in 2014 = $1,057.
QUESTION 10
a) You have recently been appointed as the accountant of XYZ Ltd. The company is in the
process of constructing a new plant for the production of a product known as Jos. The board
of directors became aware of IAS 23 and approached you for advice.
You obtained the following information:
1. The board of directors appointed a committee to research the project. The committee
estimated that it would take 20 months to complete the plant.
2. Construction on the plant commenced on 12 June 20.1

3. Expenditure associated with the project has already been capitalized to the cost of the
plant.
4. No borrowing costs have been capitalized to date.
5. The project has been, or will be financed as follows:
 Use of a general overdraft facility at an interest cost of 24% per annum until 31 October
20.1
 The issue of debentures on 1 November 20.1 at an interest cost of 12% per annum,
redeemable at a premium of 5%. These debentures will be issued specifically to finance
the project.
6. The company’s year-end is 31 October 20.1
Required
Advise the board of directors of XYZ Ltd on the following:
(i) Whether the interest paid on the overdraft facility for the period 12 June 20.1 to 31 October
20.1 may be capitalized to the plant. (3 marks)
(ii) Whether the company will be able to capitalize the interest paid on debentures, as well as
the premium on future redemption, to the plant. (2 marks)
b) On 1st May 20X1, DEF took a loan of $ 1 000 000 from a bank at the annual interest rate of
5%. The purpose of this loan was to finance a construction of a production hall.
The construction started on 1 June 20X1. DEF temporarily invested $ 800 000 borrowed
money during the months of June and July 20X1 at the rate of 2% p.a.
Required.
(i) What borrowing costs can be capitalized in 20X1? (4 marks)
(ii) How much borrowing costs should be expensed? (3 marks)
(iii) Show the financial statements extracts for DEF. (8 marks)
c) Discuss the reasons for a conceptual framework of financial reporting (5 marks)
a) Advice to the Directors
(i) Comments – Overdraft facility
Borrowing costs that are directly attributable to the acquisition, construction or production of a
qualifying asset, must be capitalised to the cost of that qualifying asset
(IAS 23.8).
The manufacturing plant qualifies for capitalisation of borrowing costs since it is an asset that
takes a substantial period of time to get ready for its intended use (IAS 23.5 and .7).
The borrowing costs that are directly attributable to the construction of the plant should be
capitalised as part of the cost of the plant (IAS 23.8). This refers to those borrowing costs that
would have been avoided if the expenditure on the qualifying asset had not been incurred (IAS
23.10).

Where funds are borrowed generally, as is the case with the overdraft facility, the borrowing
costs capitalised are calculated by applying the capitalisation rate (24% in this case) to the
expenditures on that asset (IAS 23.14).
The amount of borrowing costs capitalised during a period must not exceed the amount of
borrowing costs actually incurred during that period (IAS 23.14).
(ii) Comment – Debentures

Where funds are borrowed specifically for the purpose of obtaining a qualifying asset, the
actual borrowing costs incurred during the period less any benefit (interest income) on the
temporary investment of those borrowings, should be capitalised (IAS 23.12).
In terms of IAS 23.06(a), any interest calculated in accordance with the effective interest
method of IFRS 9 can be capitalised as borrowing costs. Effective interest in terms of IFRS 9
includes all fees, transaction costs, premiums and discounts. Therefore the effective interest
calculated on the debentures (taking into account the payment based on the coupon rate as
well as the redemption of the debentures at a premium of 5%), qualifies for capitalisation.
b) Borrowing costs
(i) Borrowing costs to be capitalized
This is a case of specific borrowings because it has been stated that the loan was taken to
finance construction of a production hall.
Borrowing costs capitalized in 20x1
Interest cost (1,000,000A x 5% x 7/12) 29 167
Interest income B (800,000 x 2% x 2/12) (2 667)
Net interest capitalized 26 500
A. As per the requirements of IAS 23 interest on specific loans to be capitalized is calculated on

the whole loan proceeds regardless of whether they have been fully utilized or not hence the
use of $1,000,000.
B. As soon as capitalization commences an interest income from temporary investments in the

same period can be used to offset the interest cost.
(ii) Calculation of borrowing costs to be expensed

Interest expense (1,000,000 x 5% x 1/12) 4 167
The question does not indicate the exact date when capitalization should cease so an intelligent
guess will be that by the reporting date (31 December) construction was still in progress but our
calculation should stop on that date since it is the reporting date as implied by the wording in
requirement b(i) which states that in 20x1
(iii) Financial statements extract

Statement of profit or loss extract for the year ended 31 December 20x1
Expenses
Interest expense 4,167
Statement of financial position as at 31 December 20x1

Non-current assets
PPE (see calculation below) 1,026,500
Loan 1,000,000
Calculation of the cost of PPE at 31 December 20x1

Expenditure incurred 1,000,000
Borrowing costs capitalized 26,500
Initial cost of PPE 1,026,500
c) Reasons for conceptual framework

The Framework is described as a coherent system of interrelated objectives and fundamentals
that can lead to consistent standards and that prescribes the nature, function and limits of
financial accounting and financial reporting.
The stated reasons of the Conceptual Framework are as follows.

1. To assist the Board in the development of future IFRSs and in its review of existing IFRSs.
2. To assist the Board in promoting harmonisation of regulations, accounting standards and
procedures by reducing the number of alternative accounting treatment permitted by IFRSs.
3. To assist national standard-setting bodies in developing national standards.
4. To assist preparers of financial statements in applying IFRSs and in dealing with topics that
have yet to form the subject of an IFRS.
5. To assist auditors in forming an opinion on whether financial statements comply with IFRSs.
6. To assist users of financial statements in interpreting the information contained in financial
statements prepared in compliance with IFRSs.
7. To provide those who are interested in the work of the IASB with information about its
approach to the formulation of IFRSs.
So without a framework, accounting standards will contradict one another and accounting
standards will be issued without a sound theoretical base. The Framework can also be applied
in circumstances where no standard is issued on a specific topic. It forms the underlying
accounting concept for all topics. This enhances harmonisation at international level.
QUESTION 11

a) In January 2017 K Limited purchased 10,000 $1 listed equity shares at a price of $2 per
share. Transaction costs were $1,000. At the end of the financial year, these shares were
trading at $2.75. A dividend of 10c per share was received on 30 August 2017.
Required:
Show the financial statement extracts at 31 December 2017 relating to this investment on the
basis that:
(i) The shares were bought for trading. (8 marks)
(ii) Conditions for FVTPL was not met (6 marks)
b) From the following independent events consider and determine costs to be capitalised or
treated as borrowing costs to be charged to profit or loss were appropriate:
(i) An entity borrows $5 million to fund the construction of a new building. Interest is payable
on the loan at 8%. Stage payments were due throughout the construction period and
therefore excess funds were reinvested during that period. By the end of the project,
investment income of $150,000 had been earned and the construction took twelve months
to complete. (5 marks)
(ii) An entity already has a number of general loan arrangements:
Loan 1 of $800 000, interest paid at 9%
Loan 2 of $2,000 000, interest paid at 8%
Loan 3 of $400 000, interest paid at 7.5%
The entity has commissioned a new printing press to be constructed on its behalf. The total
cost will be $800,000 and the entity will be able to fund the purchase from its existing
borrowings since it has arranged for stage payments to be made. The construction takes six
months. (6 marks)
(a) Financial statements extract
(i) The shares were bought for trading
Shares bought for trading “mirror inventory” so any fair value gain or loss should be
recognised in the profit or loss hence the recognition of “Financial assets at fair value
through profit/loss” as per the requirements of IFRS 9. Transactions costs are not
capitalized but are written off separately in the P&L.
Date Details Dr Cr
1/01/2017 Financial asset @FV through P&L (SFP) (10 000 x $2) 20 000
Transaction costs (P/L) 1 000
Bank (SFP) 21 000

Recognise investment and expense transaction costs
30/08/2017 Bank (SFP) (10 000 x $0.10) 1 000
31/12/2017 Financial Asset @ FV through P/L (SFP) 7 500
Fair value gain (P/L) [($2.75 -$2) x 10 000] 7 500
Re-measurement gain for the year ended 31
December 2017
Fair value gain on remeasurement of Financial Asset at FV through P & L 7,500
Expenses
Transaction costs (1,000)

Current assets
Financial asset at fair value through P & L 27,500
ii) Conditions for FV TPL were not met

When conditions for FVTPL are not met the presumption is that the buyer intends to retain
ownership on a continuing basis. This “mirrors PPE” so any fair value gain or loss should be
recognised in the OCI hence the recognition of “Financial Assets at fair value through OCI” as
per the requirements of IFRS 9. Here transaction costs are capitalized as part of the financial
asset.

Date Details Dr Cr
1/01/2017 Financial Assets @ FV through OCI (SFP) [(10 000 x $2) + 21 000
$1 000]
Bank (SFP) 21 000
Recognize investment and capitalize transaction costs
30/08/2017 Bank (SFP) [10 000 x $0.10] 1 000

31/12/2017 Financial asset @FV through OCI (SFP) 6 500
Fair value gain (OCI) 6 500
Re-measurement gain for the year ended 31 December
2017
Other Comprehensive income

Fair value gain on remeasurement of Financial Asset at FV through OCI 6,500

Non-current assets
Financial asset at fair value through OCI 27,500
Equity
Mark to market reserve 6,500
b Borrowing costs
i. Specific borrowings
This is a specific borrowing thus a capitalisation rate is readily available at 8%. For specific
borrowings, interest is calculated on the whole loan proceeds.
Calculation of the borrowing costs to be capitalised

Interest cost (5,000,000 x 8% x 12⁄12) 400,000
Less: investment income (given) (150,000)
Borrowing costs to be capitalised 250,000
Take note that for specific borrowings you are allowed to use investment income to reduce the
interest to be capitalised something not possible with general borrowings.
Calculation of the total cost of the building

Expenditure incurred 5,000,000
Borrowing costs capitalised 250,000
Cost of the building 5,250,000
ii. General borrowings

The construction of a qualifying asset, new printing press, was financed out of the general
borrowings so a weighted average rate (basically WACC because of several sources) should be
used to calculate borrowing costs. For general borrowings, interest is calculated on the actual
proceeds utilised using the WACC.
Capitalisation rate = Weighted Average Rate =
0.8m 2m 0.4m
[9% x ] + [8% x ] + [7.5% x ]
0.8m+2m+0.4m 0.8m+2m+0.4m 0.8m+2m+0.4m
= 8%
Calculation of the borrowing costs to be capitalised

800 000 x 8% x 6⁄12 = 32,000
Calculation of the total cost of the printing press
Cost of printing press 800,000
Borrowing costs capitalised 32,000
832,000
QUESTION 12
On 1 January 20X1 an entity entered, as lessee, into a five-year non-cancellable lease of a
machine that has an economic life of five years and nil residual value.
On 1 January 20X1 (the inception of the lease) the fair value (cash cost) of the machine is
RTGS$100,000.
On 31 December for each of the first four years of the lease term the lessee is required to pay
the lessor RTGS$23,000. At the end of the lease term, ownership of the machine passes to the
lessee upon payment of the final lease payment of RTGS$23,539.
The interest rate implicit in the lease is 5 per cent per year. This rate approximates the lessee’s
incremental borrowing rate.
Required:
The financial statement extracts of the entity for 5 years the lease was in operation.
Lease amortisation table
Year 1 January Finance cost @5% Payment 31 December
20X1 100,000 5,000 (23,000) 82,000
20X2 82,000 4,100 (23,000) 63,100
20X3 63,100 3,155 (23,000) 43,255
20X4 43,255 2,163 (23,000) 22,418
20X5 22,418 1,121 (23,539) nil

20X1 20X2 20X3 20X4 20X5
Expenses
Depreciation (100,000 / 5 years) 20,000 20,000 20,000 20,000 20,000
Finance charges 5,000 4,100 3,155 2,163 1,121

20X1 20X2 20X3 20X4 20X5
Non-current assets
PPE
Right of use asset at cost 100,000 100,000 100,000 100,000 100,000
Accumulated Depreciation (20,000) (40,000) (60,000) (80,000) (100,000)
Carrying amount 80,000 60,000 40,000 20,000 0
Lease obligation 63,100 43,255 22,418 0 0
Current liabilities
Lease obligation 18,900 19,845 20,837 22,418 0
ABOUT THE COMPILER OF SUGGESTED SOLUTIONS
Tawanda. T. Herbert is the Co-Founder and Managing Partner of Herbert and Co. Chartered
Accountants. Among other qualifications, he is a holder of the following qualifications:
ACCA, CIMA, CIS, M.Com in Applied Accounting and B.Sc. in Applied Accounting. He is also a
PHD in Accounting candidate.

Specific Financial Reporting Questions & Answers: Suggested Solution 1

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SPECIFIC FINANCIAL REPORTING

QUESTIONS & ANSWERS

c) Discuss how IFRS 16 impacts on Lessees and Lessors (6 marks)

1 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

b) Financial statements extract

Statement of financial position (extract) as at 31 December 20x1

2 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

Other Comprehensive income

Statement of financial position (extract) as at 31 December 20x1

3 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

4 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

IFRS 16 Leases replaced IAS 17 Leases (Additional explanation)

Impact of IFRS 16 on lessors

5 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

6 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

b) Financial statements extracts

Statement of profit or loss extract for the year ended 31 December

Statement of financial position (extract) as at 31 December 20x1

c) Accounting treatment of leases in the hands of the lessees

7 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

The right-of-use asset

The carrying amount of the lease liability is reduced by cash repayments:

The right-of-use asset

8 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

Lessees: presentation and disclosure

9 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

10 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

b) Differences between a finance lease and an operational lease

11 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

c) Categories of employee benefits

12 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

13 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

14 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

c) Accounting treatment of the repayment of the grant

Deferred income approach

Reduction of cost approach / Netting off approach

16 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

17 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

2. Calculation of amortisation of grant over three-year period $

Part b – Aguma Limited

Deferred tax (SFP) (1) (2) 25,200

18 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

19 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

Suggested Solution to question 6

20 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

Statement of profit or loss extract for the year ended 31 December

Statement of financial position as at 31 December

21 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

2. Final ordinary dividend received

22 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

3. Interim ordinary dividend received

4. Interest received on fixed deposit.

5. Trade discount granted to customers.

6. Revenue and VAT

8. Instalment sales agreement

9. Subscription fees received

10. Rendering of financial services

23 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

11. Sales through intermediaries

24 Compiled by T T Herbert (0773 038 651 / 0712 560 772)

3. The cost for the two combined harvesters

25 Compiled by T T Herbert (0773 038 651 / 0712 560 772)