CPA

PART III
SECTION 6

ADVANCED FINANCIAL REPORTING

CLASS NOTES

Revised on: July 2019

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SYLLABUS AS CAPTURED IN THE STUDY TEXT
PAPER NO. 18 ADVANCED FINANCIAL REPORTING
GENERAL OBJECTIVE
This paper is intended to equip the candidate with knowledge, skills and attitudes that will enable
him/her account for complex accounting transactions and prepare advanced financial reports.

18.0 LEARNING OUTCOMES

A candidate who passes this paper should be able to:
- Prepare financial statements for subsidiaries, associates and jointly controlled entities in
compliance with International Financial Reporting Standards (IFRSs) and International Public
Sector Accounting Standards (IPSASs) as applicable
- Analyze financial statements for public and private sector entities
- Account for complex accounting transactions
- Apply ethical standards in accountancy work and practice

CONTENT
18.1 Framework for preparation and presentation of financial statement
- Importance of the accounting framework
- Steps in developing international financial reporting interpretations by IFRIC (excluding
detailed IFRICS)
- Ethical and legal issues in financial reporting

18.2 Assets and liabilities of financial statement

- Inventories
- Non-current assets held for sale and discontinued operations
- Impairment of assets
- Exploration for and evaluation of mineral resources
- Income taxes - including group aspects
- Share based payments
- Employee benefits with emphasis on post-employment benefits

18.3 Preparing financial statements and other reports

- Published financial statements (including group statement of cash flows where a subsidiary is
acquired or sold during the year)
- Interim financial statements
- Financial statements of pension schemes/retirement benefit plans
- Operating segment reports
- Earnings per share
- IFRS for small and medium sized entities
- Related parties disclosures
- Effects of inflation and hyper inflationary economies (exclude inflation adjusted financial
statements)
- Business combinations and corporate restructuring
- Management commentary (management discussion and analysis)
- Integrated reporting

18.4 Accounting and reporting of financial instruments

- Nature and scope of financial instruments
- Equity and financial liabilities

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 - Recognition and de-recognition of financial instruments
- Hedge accounting
- Other disclosures

18.5 Consolidated and separate financial statements

- Accounting for subsidiaries including piece-meal acquisitions, several subsidiaries and sub-
subsidiaries
- Investments in associates and jointly controlled arrangements
- Foreign entities (subsidiary, associate and jointly controlled entities)
- Disposal of investment in subsidiary (partial and full disposal)

18.6 Public sector accounting

Provisions of the following IPSASs (emphasis on distinctions with equivalent IASs/IFRSs)
- Effects of changes in foreign exchange rates
- Revenue from exchange and non-exchange transactions
- Hyperinflationary economies (ignore inflation adjusted financial statements)
- Segment reports
- Related party disclosures
- Impairment of cash generating and non–cash generating assets
- Disclosure of information about the general government sector

18.7 Current trends

- Reporting on corporate social responsibility
- Reporting on environmental matters
- Corporate governance reports (Directors reports and Chairman’s statements
- contents only))
- Sustainability reporting

18.8 Emerging issues and trends

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CONTENT Page

Topic 1: Framework for preparation and presentation of financial statement………...……5

Topic 2: Assets and liabilities of financial statement……………………………….…..…21
Topic 3: Preparing financial statements and other reports…………………………...........74
Topic 4: Accounting and reporting of financial instruments……………………….…….168
Topic 5: Consolidated and separate financial statements…………………………………180
Topic 6: Public sector accounting…………………………………………………….…..258
Topic 7: Current trends……………………………………………………………………285
Topic 8: Emerging issues and trends

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 TOPIC 1
REGULATORY FRAMEWORK
TOPIC OBJECTIVES
1. Understand the meaning of conceptual framework.
2. Explain the regulatory framework.
3. Describe the IASBs standard setting process including revisions to and interpretations of standards.
4. Explain the ethical and legal issues in financial reporting.

INTRODUCTION
A regulatory framework for the preparation of financial statements is necessary for a number of
reasons:
 To ensure that the needs of the users of financial statements are met with at least a basic minimum
of information.
 To ensure that all the information provided in the relevant economic arena is both comparable and
consistent. Given the growth in multinational companies and global investment this arena is an
increasing international one.
 To increase users' confidence in the financial reporting process.
 To regulate the behaviour of companies and directors towards their investors.

Financial reporting standards on their own would not be sufficient to achieve these aims. In addition
there must be some legal and market-based regulation.

The (IASB) – International Accounting Standards Board issued its framework for the Preparation
and Presentation of Financial Statements in 1989. This is referred to as its conceptual framework. The
framework sets out the concepts that shape the preparation and presentation of financial statements for
external users. The framework does not have the status of an accounting standard as also is the case
with the ASB’s Statement of Principles. The IASB framework assists the IASB:
 “In the development of future International Accounting Standards and in its review of existing
International Accounting Standards; and
 In promoting the harmonization of regulations, accounting standards and procedures relating
presentation of financial statements by providing a basis for reducing the number of alternative
accounting treatments permitted by International Accounting Standards.

In addition, the framework may assist:

 Preparers of financial statements in applying International Accounting Standards and in dealing
with topics that have yet to form the subject of an International Accounting Standard;
 Auditors in forming an opinion as to whether financial statements conform with International
Accounting Standards;
 Users of financial statements in interpreting the information contained in financial statements
prepared in conformity with International Accounting Standards; and
 Those who are interested in the work of IASB, providing them with information about its
approach to the formulation of accounting standards.”

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To ensure the framework provides useful information it identifies a range of user groups
(stakeholders) which include:
 Investors
 Lenders
 Employees
 Suppliers
 Other trade creditors
 Customers
 Government agencies; and
 The public

The framework comprises seven sections which cover areas as:

1. The objective of financial statements;
2. Underlying assumptions;
3. Qualitative characteristics of financial information;
4. The elements of financial statements;
5. Recognition of the elements of financial statements;
6. Measurement of the elements of financial statements;
7. Concepts of capital maintenance.

THE CONCEPTUAL FRAMEWORK

The IFRS Framework describes the basic concepts that underlie the preparation and presentation of
financial statements for external users. The IFRS Framework serves as a guide to the Board in
developing future IFRSs and as a guide to resolving accounting issues that are not addressed directly
in an International Accounting Standard or International Financial Reporting Standard or Interpret.

The IFRS Framework has four chapters

Scope
The IFRS Framework addresses:
- The objective of financial reporting
- The qualitative characteristics of useful financial information
- The reporting entity
- The definition, recognition and measurement of the elements from which financial statements are
constructed.
- Concepts of capital and capital maintenance

Chapter 1: The Objective of general purpose financial reporting

The primary users of general purpose financial reporting are present and potential investors, lenders
and other creditors, who use that information to make decisions about buying, selling or holding
equity or debt instruments and providing or settling loans or other forms of credit.
The primary users need information about the resources of the entity not only to assess an entity's
prospects for future net cash inflows but also how effectively and efficiently management has
discharged their responsibilities to use the entity's existing resources (i.e., stewardship).

The IFRS Framework notes that general purpose financial reports cannot provide all the information
that users may need to make economic decisions. They will need to consider pertinent information
from other sources as well.
The IFRS Framework notes that other parties, including prudential and market regulators, may find
general purpose financial reports useful. However, the Board considered that the objectives of general

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purpose financial reporting and the objectives of financial regulation may not be consistent. Hence,
regulators are not considered a primary user and general purpose financial reports are not primarily
directed to regulators or other parties.

Information about a reporting entity's economic resources, claims, and changes in resources
and claims

Economic resources and claims

Information about the nature and amounts of a reporting entity's economic resources and claims
assists users to assess that entity's financial strengths and weaknesses; to assess liquidity and
solvency, and its need and ability to obtain financing. Information about the claims and payment
requirements assists users to predict how future cash flows will be distributed among those with a
claim on the reporting entity.
A reporting entity's economic resources and claims are reported in the statement of financial position.

Changes in economic resources and claims

Changes in a reporting entity's economic resources and claims result from that entity's performance
and from other events or transactions such as issuing debt or equity instruments. Users need to be able
to distinguish between both of these changes. Financial performance reflected by accrual accounting

Information about a reporting entity's financial performance during a period, representing changes in
economic resources and claims other than those obtained directly from investors and creditors, is
useful in assessing the entity's past and future ability to generate net cash inflows. Such information
may also indicate the extent to which general economic events have changed the entity's ability to
generate future cash inflows.

The changes in an entity's economic resources and claims are presented in the statement of
comprehensive income.

Financial performance reflected by past cash flows.

Information about a reporting entity's cash flows during the reporting period also assists users to
assess the entity's ability to generate future net cash inflows. This information indicates how the entity
obtains and spends cash, including information about its borrowing and repayment of debt, cash
dividends to shareholders, etc.

The changes in the entity's cash flows are presented in the statement of cash flows. [IAS 7]
Changes in economic resources and claims not resulting from financial performance
Information about changes in an entity's economic resources and claims resulting from events and
transactions other than financial performance, such as the issue of equity instruments or distributions
of cash or other assets to shareholders is necessary to complete the picture of the total change in the
entity's economic resources and claims.
The changes in an entity's economic resources and claims not resulting from financial performance is
presented in the statement of changes in equity. [IAS 1]

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Chapter 2: The Reporting entity
HINT
A reporting entity is defined as an entity in which it is reasonable to expect the existence of users who
depend on general-purpose financial statements for information to enable them to make economic
decisions.

The chapter on the Reporting Entity will be reconsidered as part of the IASB's comprehensive project
on the framework.
NB; The Conceptual framework is under review and is expected to be out in March 2018.

Chapter 3: Qualitative characteristics of useful financial information

The qualitative characteristics of useful financial reporting identify the types of information are likely
to be most useful to users in making decisions about the reporting entity on the basis of information in
its financial report. The qualitative characteristics apply equally to financial information in general
purpose financial reports as well as to financial information provided in other ways.
Financial information is useful when it is relevant and represents faithfully what it purports to
represent. The usefulness of financial information is enhanced if it is comparable, verifiable, timely
and understandable.

Fundamental qualitative characteristics

Relevance and faithful representation are the fundamental qualitative characteristics of useful
financial information.

Relevance
Relevant financial information is capable of making a difference in the decisions made by users.
Financial information is capable of making a difference in decisions if it has predictive value,
confirmatory value, or both. The predictive value and confirmatory value of financial information are
interrelated.

Materiality is an entity-specific aspect of relevance based on the nature or magnitude (or both) of the
items to which the information relates in the context of an individual entity's financial report.

Faithful representation
General purpose financial reports represent economic phenomena in words and numbers, to be useful,
financial information must not only be relevant, it must also represent faithfully the phenomena it
purports to represent. This fundamental characteristic seeks to maximise the underlying characteristics
of completeness, neutrality and freedom from error. Information must be both relevant and faithfully
represented if it is to be useful.

Enhancing qualitative characteristics

Comparability, verifiability, timeliness and understandability are qualitative characteristics that
enhance the usefulness of information that is relevant and faithfully represented.

Comparability
Information about a reporting entity is more useful if it can be compared with similar information
about other entities and with similar information about the same entity for another period or another
date. Comparability enables users to identify and understand similarities in, and differences among,
items.

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Verifiability
Verifiability helps to assure users that information represents faithfully the economic phenomena it
purports to represent. Verifiability means that different knowledgeable and independent observers
could reach consensus, although not necessarily complete agreement, that a particular depiction is a
faithful representation.

Timeliness
Timeliness means that information is available to decision-makers in time to be capable of influencing
their decisions.

Understandability
Classifying, characterizing and presenting information clearly and concisely makes it understandable.
While some phenomena are inherently complex and cannot be made easy to understand, to exclude
such information would make financial reports incomplete and potentially misleading. Financial
reports are prepared for users who have a reasonable knowledge of business and economic activities
and who review and analyze the information with diligence.

Applying the enhancing qualitative characteristics

Enhancing qualitative characteristics should be maximized to the extent necessary. However,
enhancing qualitative characteristics (either individually or collectively) render information useful if
that information is irrelevant or not represented faithfully.

The cost constraint on useful financial reporting

Cost is a pervasive constraint on the information that can be provided by general purpose financial
reporting. Reporting such information imposes costs and those costs should be justified by the
benefits of reporting that information. The IASB assesses costs and benefits in relation to financial
reporting generally, and not solely in relation to individual reporting entities. The IASB will consider
whether different sizes of entities and other factors justify different reporting requirements in certain
situations.

Chapter 4: Remaining text of the framework

This chapter contains the remaining text of the framework approved in 1989. As the project to revise
the remaining progresses, relevant paragraphs in Chapter 4 will be deleted and replaced by new
chapters in the IFRS Framework. Until it is replaced a paragraph in Chapter 4 has the same level of
authority within IFRS as those in Chapter 1-3.

Underlying assumption
The IFRS Framework states that the going concern assumption is an underlying assumption. Thus, the
financial statements presume that an entity will continue in operation indefinitely or, if that
presumption is not valid, disclosure and a different basis of reporting are required.

The elements of financial statements

Financial statements portray the financial effects of transactions and other events by grouping them
into broad classes according to their economic characteristics. These broad classes are termed the
elements of financial statements.
The elements directly related to financial position (balance sheet) are:
 Assets
 Liabilities
 Equity

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The elements directly related to performance (income statement) are:
 Income
 Expenses
The cash flow statement reflects both income statement elements and some changes in balance sheet
elements.

Definitions of the elements relating to financial position

 Asset. An asset is a resource controlled by the entity as a result of past events and from which
future economic benefits are expected to flow to the entity.
 Liability. A liability is a present obligation of the entity arising from past events, the settlement
of which is expected to result in an outflow from the entity of resources embodying economic
benefits.
 Equity. Equity is the residual interest in the assets of the entity after deducting all its liabilities.

Definitions of the elements relating to performance

 Income. Income is increases in economic benefits during the accounting period in the form of
inflows or enhancements of assets or decreases of liabilities that result in increases in equity, other
than those relating to contributions from equity participants.
 Expense. Expenses are decreases in economic benefits during the accounting period in the form
of outflows or depletions of assets or incurrences of liabilities that result in decreases in equity,
other than those relating to distributions to equity participants.

The definition of income encompasses both revenue and gains. Revenue arises in the course of the
ordinary activities of an entity and is referred to by a variety of different names including sales, fees,
interest, dividends, royalties and rent. Gains represent other items that meet the definition of income
and may, or may not, arise in the course of the ordinary activities of an entity. Gains represent
increases in economic benefits and as such are no different in nature from revenue. Hence, they are
not regarded as constituting a separate element in the IFRS Framework.

The definition of expenses encompasses losses as well as those expenses that arise in the course of the
ordinary activities of the entity. Expenses that arise in the course of the ordinary activities of the entity
include, for example, cost of sales, wages and depreciation. They usually take the form of an outflow
or depletion of assets such as cash and cash equivalents, inventory, property, plant and equipment.
Losses represent other items that meet the definition of expenses and may, or may not, arise in the
course of the ordinary activities of the entity. Losses represent decreases in economic benefits and as
such they are no different in nature from other expenses. Hence, they are not regarded as a separate
element in this Framework.

Recognition of the elements of financial statements

Recognition is the process of incorporating in the balance sheet or income statement an item that
meets the definition of an element and satisfies the following criteria for recognition:
 It is probable that any future economic benefit associated with the item will flow to or from the
entity; and
 The item's cost or value can be measured with reliability.

Based on these general criteria:

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 An asset is recognised in the statement of financial position when it is probable that the future
economic benefits will flow to the entity and the asset has a cost or value that can be measured
reliably.
 A liability is recognised in the statement of financial position when it is probable that an outflow
of resources embodying economic benefits will result from the settlement of a present obligation
and the amount at which the settlement will take place can be measured reliably.
 Income is recognised in the income statement when increase in future economic benefits related
to an increase in an asset or a decrease of a liability has arisen that can be measured reliably. This
means, in effect, that recognition of income occurs simultaneously with the recognition of
increases in assets or decreases in liabilities (for example, the net increase in assets arising on a
sale of goods or services or the decrease in liabilities arising from the waiver of a debt payable).
 Expenses are recognised when decrease in future economic benefits related to a decrease in an
asset or an increase of a liability has arisen that can be measured reliably. This means, in effect,
that recognition of expenses occurs simultaneously with the recognition of an increase in
liabilities or a decrease in assets (for example, the accrual of employee entitlements or the
depreciation of equipment).

Measurement of the elements of financial statements

Measurement involves assigning monetary amounts at which the elements of the financial statements
are to be recognised and reported.
The IFRS Framework acknowledges that a variety of measurement bases are used today to different
degrees and in varying combinations in financial statements, including:
 Historical cost
 Current cost
 Net realisable (settlement) value
 Present value (discounted)

Historical cost is the measurement basis most commonly used today, but it is usually combined with
other measurement basis. The IFRS Framework does not include concepts or principles for selecting
which measurement basis should be used for particular elements of financial statements or in
particular circumstances. Individual standards and interpretations do provide this guidance, however.

STEPS IN DEVELOPING INTERNATIONAL FINANCIAL INTERPRETATIONS

BY IFRIC (EXCLUDING DETAILED IFRICS)
IFRS Interpretations Committee
The IFRS Interpretations Committee (Interpretations Committee) is the interpretative body of the
International Accounting Standards Board (Board). The Interpretations Committee works with the
Board in supporting the application of IFRS Standards.
The Interpretations Committee responds to questions about the application of the Standards and does
other work at the request of the Board.
The Interpretations Committee comprises 14 voting members, appointed by the Trustees of the IFRS
Foundation. The members provide the best available technical expertise and diversity of international
business and market experience relating to the application of IFRS Standards.

Responsibilities of the IFRIC and scope of its work

In the context of its requirements for due process, the IFRIC reviews newly identified financial
reporting issues not specifically addressed in IFRSs or issues where unsatisfactory or conflicting
interpretations have developed, or seem likely to develop in the absence of authoritative guidance,
with a view to reaching a consensus on the appropriate treatment.

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In providing interpretative guidance, the IFRIC applies a principle-based approach founded on the
Framework for the Preparation and Presentation of Financial Statements. The IFRIC considers the
principles articulated in relevant IFRSs to develop its interpretative guidance and to determine that the
proposed guidance does not conflict with IFRSs. It follows that the IFRIC is not seeking to create an
extensive rule-oriented environment in providing interpretative guidance. Neither does it act as an
urgent issues group.

The IFRIC does not reach a consensus that changes or conflicts with IFRSs or the Framework. If the
IFRIC concludes that the requirements of an IFRS differ from the Framework, it obtains direction
from the IASB before providing guidance. In reaching its consensus views, the IFRIC also has due
regard for the need for international convergence.

The IFRIC informs the IASB of any existing or emerging issues that it perceives as indicative of
inadequacies in IFRSs or the Framework. If the IFRIC believes that an IFRS or the Framework should
be modified or an additional IFRS should be developed, it refers such conclusions to the IASB for its
consideration.

When the IFRIC reaches a consensus on an issue, that consensus is made publicly available to
interested parties on a timely basis in a document entitled an IFRIC Interpretation (or Amendment to
an Interpretation). The Interpretations issued by the IFRIC are developed in accordance with a due
process of consultation and debate including making draft Interpretations available for public
comment

THE IFRIC DUE PROCESS

The IFRIC due process comprises seven stages. These stages are;-
Stage 1: Identification of issues
Stage 2: Agenda Committee and new agenda items
Stage 3: IFRIC meetings and voting
Stage 4: Development of a draft Interpretation
Stage 5: IASB role in the release of a draft Interpretation
Stage 6: Comment period and deliberation
Stage 7: IASB role in the issue of a final Interpretation

Stage 1: Identification of issues

The primary responsibility for identifying issues to be considered by the IFRIC is that of its members
and observers. Preparers, auditors and others with an interest in financial reporting are encouraged to
refer issues to the IFRIC when they believe that divergent practices have emerged regarding the
accounting for particular transactions or circumstances or when there is doubt about the appropriate
accounting treatment and it is important that a standard treatment be established.

An issue may be put forward by any individual or organisation. A template for submission is available
on the IASB Website. A submission can be made either by email or by post to the IASB address for
the attention of the IFRIC coordinator. A submission should contain both a detailed description of the
issue (including a description of alternative solutions referring to the relevant IASB pronouncements)
and an evaluation of the issue using the criteria for agenda items.

The IASB staff considers whether the item meets the agenda criteria. They subsequently assess the
issue and provide analysis and recommendations to the IFRIC.

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Stage 2: Agenda Committee and new agenda items
The Agenda Committee assists the IASB staff in presenting the issues to the IFRIC so that the IFRIC
can decide whether to add an issue to its agenda. The source of a suggested agenda item is not
revealed to the Agenda Committee or to others.
The Agenda Committee may recommend an issue for addition to the IFRIC agenda. The Agenda
Committee does not decide which issues should be added to the IFRIC agenda. The Committee’s role
is limited to the presentation of analysis and recommendations to the IFRIC.
In determining whether to recommend that an issue be included on the IFRIC agenda, the Agenda
Committee considers a set out criteria, although an issue does not have to satisfy all the criteria as a
precondition for recommendation.
The Agenda Committee will conduct its business in meetings and may use the same means of
attendance that are open to IFRIC meetings. It is not a decision-making body and does not meet in
public. The papers for Agenda Committee meetings are available to any IFRIC member on request.
The Agenda Committee reports to the IFRIC at its regular meetings on the issues the Agenda
Committee considered for addition to the IFRIC’s agenda and the Agenda Committee’s
recommendation on each issue. The IFRIC assesses proposed agenda items against the following
criteria. An issue does not have to satisfy all the criteria to qualify for assessment

Stage 3: IFRIC meetings and voting

The IFRIC meets in public following procedures similar to the IASB’s general policy for its Board
meetings. At such meetings the IFRIC debates both matters that are on its agenda and items proposed
to be added to its agenda. IFRIC members and observers are expected to attend meetings in person.
However, meetings may be held using teleconference or any other communication facilities that
permit simultaneous communication among all members and observers and allow public observers to
hear all participants.
Nine voting members of the IFRIC present in person or by telecommunications constitute a quorum.
[The quorum is reduced to eight voting members for a maximum of three meetings from a vacancy
occurring, if the vacancy remains unfilled. If more than one vacancy exists at a time, the quorum is
not further reduced and the original three meeting limit is not extended.]* Each IFRIC member has
one vote. Members vote in accordance with their own independent views, not as representatives
voting according to the views of any firm, organisation or constituency with which they may be
associated. Proxy voting is not permitted.

The Chairman may invite others to attend meetings of the IFRIC as advisers when specialized input is
required. A member or observer may also, with the prior consent of the Chairman, bring to a meeting
an adviser who has specialized knowledge of a topic to be discussed. Such invited advisers will have
the right to speak.

Stage 4: Development of a draft Interpretation

The IFRIC reaches its conclusions on the basis of information contained in Issue Summaries that are
prepared under the supervision of IASB staff. An Issue Summary describes the issue to be discussed
and provides the information necessary for IFRIC members to gain an understanding of the issue and
make decisions about it. An Issue Summary is developed for the IFRIC’s consideration after a
thorough review of the authoritative accounting literature and possible alternatives, including
consultation where appropriate with national standard-setters. An Issue Summary may include:
(a) A brief description of the transaction or event.
(b) The specific issues or questions to be considered by the IFRIC.
(c) The relevant concepts from the Framework.
(d) A description of potential appropriate alternative treatments based on those concepts, with the
arguments in favour and against each alternative.

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(e) A list of the relevant IASB pronouncements as well as those of national standard-setters,
identifying any inconsistency between the alternative treatments, the relevant concepts, and the
standards.
(f) Recommendations on the appropriate accounting treatment.

A draft Interpretation is developed on which the IFRIC votes. Voting takes place at a public meeting.
A consensus is achieved when no more than three members have voted against the proposal.

An Interpretation includes:
(a) a summary of the accounting issues identified;
(b) The consensus view reached on the appropriate accounting;
(c)References to relevant IFRSs, parts of the Framework and other pronouncements that have been
drawn upon to support the consensus view; and
(d) The effective date and transitional provisions.

Stage 5: IASB role in the release of a draft Interpretation

IASB members have access to all IFRIC agenda papers. They are expected to comment on technical
matters as the issues are being considered, particularly if they have concerns about alternatives the
IFRIC is considering.
IASB members are informed when the IFRIC reaches a consensus in a draft Interpretation. The draft
Interpretation is released for public comment unless five or more IASB members object within a week
of being informed of its completion.
If a draft Interpretation is not released because of IASB members’ objections, the issue will be
considered at the next IASB meeting. On the basis of discussion at the meeting, the IASB will decide
whether the draft Interpretation should be issued or whether the matter should be referred back to the
IFRIC, added to its own agenda or not be the subject of any further action.

Stage 6: Comment period and deliberation

Draft Interpretations are made available for public comment for 60 days. If the need for an
Interpretation is particularly urgent, the comment period may be as short as 30 days. All comments
received during the comment period are considered by the IFRIC before an Interpretation is finalized.
Unless confidentiality is requested by the commentator, the comment letters will be made publicly
available. A staff summary and analysis of the comment letters will be provided to the IFRIC. If the
proposed Interpretation is changed significantly, the IFRIC will consider whether it should be re-
exposed. Re-exposure is not required automatically and will depend on the significance of the changes
contemplated, whether they were raised in the Basis for Conclusions of the draft Interpretation or in
questions posed by the IFRIC, their significance for practice and what may be learned by the IFRIC
from re-exposure.

Stage 7: IASB role in the issue of a final Interpretation

When the IFRIC has reached a consensus on a final Interpretation, the Interpretation is put to the
IASB for ratification, in a public meeting, before being issued. Approval by the IASB requires at least
nine IASB members to be in favour.
The IASB votes on the Interpretation as submitted by the IFRIC. If an Interpretation is not approved
by the IASB, the IASB provides the IFRIC with an analysis of the objections and concerns of those
voting against the Interpretation. On the basis of this analysis, the IASB will decide whether the
matter should be referred back to the IFRIC, added to its own agenda or not be the subject of any
further action.

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STEPS IN THE STANDARD-SETTING PROCESS
The IASB’s standard-setting process comprises six stages, with the Trustees having the opportunity to
ensure compliance at various points throughout the process.

Stage 1: Setting the agenda

The IASB, by developing high quality accounting standards, seeks to address a demand for better
quality information that is of value to all users of financial statements. Users include present and
potential investors, employees, lenders, suppliers and other trade creditors, customers, governments
and their agencies and the public. Better quality information will also be of value to preparers of
financial statements.
Although not all of the information needs of these users can be met by financial statements, there are
common needs for all users. As investors are providers of risk capital to the entity, the provision of
financial statements that meet their needs will also meet most of the needs of other users. The IASB
therefore evaluates the merits of adding a potential item to its agenda mainly by reference to the needs
of investors.

When deciding whether a proposed agenda item will address users’ needs the IASB considers:
(a) The relevance to users of the information and the reliability of information that could be provided
(b) Existing guidance available
(c)the possibility of increasing convergence
(d) The quality of the standard to be developed
(e) Resource constraints.

To help the IASB in considering its future agenda, its staff are asked to identify, review and raise
issues that might warrant the IASB’s attention. New issues may also arise from a change in the
IASB’s conceptual framework. In addition, the IASB raises and discusses potential agenda items in
the light of comments from other standard-setters and other interested parties, the SAC and the IFRIC,
and staff research and other recommendations.

The IASB receives requests from constituents to interpret, review or amend existing publications. The
staff consider all such requests, summarise major or common issues raised, and present them to the
IASB from time to time as candidates for when the IASB is next considering its agenda
The IASB’s discussion of potential projects and its decisions to adopt new projects take place in
public IASB meetings. Before reaching such decisions the IASB consults the SAC and accounting
standard-setting bodies on proposed agenda items and setting priorities. In making decisions regarding
its agenda priorities, the IASB also considers factors related to its convergence initiatives with
accounting standard-setters. The IASB’s approval to add agenda items, as well as its decisions on
their priority, is by a simple majority vote at an IASB meeting.

When the IASB considers potential agenda items, it may decide that some issues require additional
research before it can take a decision on whether to add the item to its active agenda. Such issues may
be addressed as research projects on the IASB’s research agenda. A research project normally requires
extensive background information that other standard-setters or similar organisations with sufficient
expertise, time and staff resources could provide.

Research projects are normally carried out by other standard-setters under the supervision of, and in
collaboration with, the IASB. In the light of the result of the research project (normally a discussion
paper, see paragraph 32), the IASB may decide, in its public meetings, to move an issue from the
research project to its active agenda.

Page 15
Stage 2: Project planning
When adding an item to its active agenda, the IASB also decides whether to conduct the project alone,
or jointly with another standard-setter. Similar due process is followed under both approaches.
After considering the nature of the issues and the level of interest among constituents, the IASB may
establish a working group at this stage.
The Director of Technical Activities and the Director of Research, the two most senior members of
the technical staff, select a project team for the project, and the project manager draws up a project
plan under the supervision of those Directors. The project team may also include members of staff
from other accounting standard-setters, as deemed appropriate by the IASB.

Stage 3: Development and publication of a discussion paper

Although a discussion paper is not a mandatory step in its due process, the IASB normally publishes a
discussion paper as its first publication on any major new topic as a vehicle to explain the issue and
solicit early comment from constituents. If the IASB decides to omit this step, it will state its reasons.

Typically, a discussion paper includes a comprehensive overview of the issue, possible approaches in
addressing the issue, the preliminary views of its authors or the IASB, and an invitation to comment.
This approach may differ if another accounting standard-setter develops the research paper.

Discussion papers may result either from a research project being conducted by another accounting
standard-setter or as the first stage of an active agenda project carried out by the IASB. In the first
case, the discussion paper is drafted by another accounting standard-setter and published by the IASB.
Issues related to the discussion paper are discussed in IASB meetings, and publication of such a paper
requires a simple majority vote by the IASB. If the discussion paper includes the preliminary views of
other authors, the IASB reviews the draft discussion paper to ensure that its analysis is an appropriate
basis on which to invite public comments.

For discussion papers on agenda items that are under the IASB’s direction, or include the IASB’s
preliminary views, the IASB develops the paper or its views on the basis of analysis drawn from staff
research and recommendations, as well as suggestions made by the SAC, working groups and
accounting standard-setters and presentations from invited parties. All discussions of technical issues
related to the draft paper take place in public sessions.

When the draft is completed and the IASB has approved it for publication the discussion paper is
published to invite public comment.
The IASB normally allows a period of 120 days for comment on a discussion paper, but may allow a
longer period on major projects (which are those projects involving pervasive or difficult conceptual
or practical issues).

After the comment period has ended the project team analyses and summarises the comment letters
for the IASB’s consideration. Comment letters are posted on the Website. In addition, a summary of
the comments is posted on the Website as a part of IASB meeting observer notes.

If the IASB decides to explore the issues further, it may seek additional comment and suggestions by
conducting field visits, or by arranging public hearings and round-table meetings.

Stage 4: Development and publication of an exposure draft

Publication of an exposure draft is a mandatory step in due process. Irrespective of whether the IASB
has published a discussion paper, an exposure draft is the IASB’s main vehicle for consulting the

Page 16
public. Unlike a discussion paper, an exposure draft sets out a specific proposal in the form of a
proposed standard (or amendment to an existing standard).

The development of an exposure draft begins with the IASB considering issues on the basis of staff
research and recommendations, as well as comments received on any discussion paper, and
suggestions made by the SAC, working groups and accounting standard-setters and arising from
public education sessions.
After resolving issues at its meetings, the IASB instructs the staff to draft the exposure draft. When
the draft has been completed, and the IASB has balloted on it the IASB publishes it for public
comment.

An exposure draft contains an invitation to comment on a draft standard, or amendment to a standard,

that proposes requirements on recognition, measurement and disclosures. The draft may also include
mandatory application guidance and implementation guidance, and will be accompanied by a basis for
conclusions on the proposals and the alternative views of dissenting IASB members (if any).

The IASB normally allows a period of 120 days for comment on an exposure draft. If the matter is
exceptionally urgent, the document is short, and the IASB believes that there is likely to be a broad
consensus on the topic, the IASB may consider a comment period of no less than 30 days. For major
projects, the IASB will normally allow a period of more than 120 days for comments.
The project team collects, summarises and analyses the comments received for the IASB’s
deliberation. A summary of the comments is posted on the Website as a part of IASB meeting
observer notes.

After the comment period ends, the IASB reviews the comment letters received and the results of
other consultations. As a means of exploring the issues further, and soliciting further comments and
suggestions, the IASB may conduct field visits, or arrange public hearings and round-table meetings.
The IASB is required to consult the SAC and maintains contact with various groups of constituents.

Stage 5: Development and publication of an IFRS

The development of an IFRS is carried out during IASB meetings, when the IASB considers the
comments received on the exposure draft. Changes from the exposure draft are posted on the Website.
After resolving issues arising from the exposure draft, the IASB considers whether it should expose
its revised proposals for public comment, for example by publishing a second exposure draft.
In considering the need for re-exposure, the IASB
 identifies substantial issues that emerged during the comment period on the exposure draft that it
had not previously considered.
 assesses the evidence that it has considered
 evaluates whether it has sufficiently understood the issues and actively sought the views of
constituents
 considers whether the various viewpoints were aired in the exposure draft and adequately
discussed and reviewed in the basis for conclusions on the exposure draft.

The IASB’s decision on whether to publish its revised proposals for another round of comment is
made in an IASB meeting. If the IASB decides that re-exposure is necessary, the due process to be
followed is the same as for the first exposure draft.

When the IASB is satisfied that it has reached a conclusion on the issues arising from the exposure
draft, it instructs the staff to draft the IFRS. A pre-ballot draft is usually subject to external review,
normally by the IFRIC. Shortly before the IASB ballots the standard, a near-final draft is posted on its

Page 17
limited access Website for paying subscribers. Finally, after the due process is completed, all
outstanding issues are resolved, and the IASB members have balloted in favour of publication, the
IFRS is issued.

Stage 6: Procedures after an IFRS is issued

After an IFRS is issued, the staff and the IASB members hold regular meetings with interested parties,
including other standard-setting bodies, to help understand unanticipated issues related to the practical
implementation and potential impact of its proposals. The IASC Foundation also fosters educational
activities to ensure consistency in the application of IFRSs.

After a suitable time, the IASB may consider initiating studies in the light of
a) Its review of the IFRS’s application,
b) Changes in the financial reporting environment and regulatory requirements, and
c) Comments by the SAC, the IFRIC, standard-setters and constituents about the quality of the IFRS.

Those studies may result in items being added to the IASB’s agenda.

ETHICAL AND LEGAL ISSUES IN FINANCIAL REPORTING

Ethics deals with the ability to distinguish right from wrong.

Ethics is a code or moral system that provides criteria for evaluating right and wrong. It is a term that
refers to a code or moral system that provides criteria for evaluating right and wrong.

Ethics in accounting are concerned with how to make good and moral choices in regard to the
preparation, presentation and disclosure of financial information.

Accountants, like others operating in the business world, are faced with many ethical dilemmas, some
of which are complex and difficult to resolve. For instance, the capital markets’ focus on periodic
profits may tempt a company’s management to bend or even break accounting rules to inflate reported
net income. In these situations, technical competence is not enough to resolve the dilemma.

Fraudulent financial reporting is the misstatement of the financial statements by company

management. Usually, this is carried out with the intent of misleading investors and maintaining the
company's share price. While the effects of misleading financial reporting may boost the company's
stock price in the short-term, there are almost always ill effects in the long run.

THE ETHICAL ISSUES

Faking the numbers
The most common ethical concern within reporting and analysis is “faking the numbers“.
If poor documentation is being kept about the financial outlook of an organization, a reporter may feel
pressure to come up with an estimate which is not valid.
The trouble with estimates is that they can be incorrect. Incorrect estimates in reporting are fraudulent
numbers that can create legal concerns.
With fake numbers, investors may look to something that isn’t actually there.
Faking numbers in the accounting segment of an organization is not only fraudulent but wrong.

Asset misappropriation
This term includes using organizational funds for things other than the organization.

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An executive within the company could be taking funds and embezzling for his or her own gain.
Without noticing, this creates an intricate web of missing funds that can mean disaster for the
organization.
From an ethical standpoint, any supplies, money, or other items taken from the industry is stealing
from the patients that need it most. This means creating a downward spiral of events from a monetary
loss to ultimate organizational failure.

Disclosure concerns
Although it is an issue to overly disclose, it is also an issue to disclose too little. If a loss happens,
they may choose to hide this loss from potential investors to create a facade of success.
This type of disclosure is unlawful and dangerous.
An organization that is deceitful in its disclosure may lose more than one investor at a time. This
creates less funding for the organization and an almost stat loss of care to patients.
If an organization is honest and ethical about their loss, they may lose an investor. But, they may be
able to keep the investors they currently have, putting out a rapid fire in the end.
It is important for financial representatives to keep the organization’s information under wraps.
Yet, certain information that could damage the relationship with an investor or lead to an event should
be disclosed.

Executive focusing
Another ethical concern for the healthcare industry lies in the organization becoming too focused on
the executive.
For example, an executive within an organization that is given too much power may use this power to
pressure the financial reporting and analysis team.
From accountants to billing specialist, the team may feel as if they need to fake numbers or not
disclose certain information due to the ideation of the executive.
These executives are then free to spend fake money on purchases outside of the organization and to
gain investors to create a rise in their income and power.
Within the healthcare industry, organizations should remain focused on patient care, instead of
catering to their executives. Although leadership is important, too much power comes with too much
responsibility, especially with something so sensitive.

No direct chain of command

Every industry must have a proper chain of command in order to provide the best financial reporting
and analysis.
Organizations should strive to have command chains that are effective and highly trained. If an
employee notices a problem within the organization’s reporting, it should be reported and follow this
chain to ensure something is done.
Within a chain of command, financial reporting and analysis issues can go unnoticed, creating further
damage to the organization’s assets.
Furthermore, an enterprise without a chain of command creates hardships for the patients who wish to
report. It doesn’t always have to be an employee that reports a potential situation. It could very well
be a patient in your care.

SELF REVIEW QUESTIONS

1. Explain why a regulatory framework is needed, also including the advantages and disadvantages
of IFRS over a national regulatory framework.
2. Explain why accounting standards on their own are not a complete regulatory framework.
3. Distinguish between a principles based and a rules based framework and discuss whether they can
be complementary

Page 19
4. Describe the IASB's standard-setting process including revisions to and interpretations of
Standards
5. Explain the relationship of national standard setters to the IASB in respect of the standard setting
process

Page 20
 TOPIC 2
ASSETS AND LIABILITIES OF FINANCIAL STATEMENTS
TOPIC KEY OBJECTIVES
Understand the concept of non-current assets held for sale (IFRS 5)
Understand the impairment of assets (IAS 36)
Understand the concept assets used in exploring and evaluating mineral resources (IFRS 6)
Be able to explain the concept of financial instruments
Explain how the accounting for income taxes is done.
Explain share based payment transactions (IFRS 2)
Understand the concept of employee benefits with emphasis on post-employment (IAS 19)

INVENTORIES
IAS 2 Inventories contains the requirements on how to account for most types of inventory. The
standard requires inventories to be measured at the lower of cost and net realisable value (NRV) and
outlines acceptable methods of determining cost, including specific identification (in some cases),
first-in first-out (FIFO) and weighted average cost.

Objective of IAS 2
The objective of IAS 2 is to prescribe the accounting treatment for inventories. It provides guidance
for determining the cost of inventories and for subsequently recognizing an expense, including any
write-down to net realisable value. It also provides guidance on the cost formulas that are used to
assign costs to inventories.

Scope
Inventories include assets held for sale in the ordinary course of business (finished goods), assets in
the production process for sale in the ordinary course of business (work in process), and materials and
supplies that are consumed in production (raw materials).

However, IAS 2 excludes certain inventories from its scope:

 work in process arising under construction contracts
 financial instruments
 Biological assets related to agricultural activity and agricultural produce at the point of harvest.

Also, while the following are within the scope of the standard, IAS 2 does not apply to the
measurement of inventories held by:
 producers of agricultural and forest products, agricultural produce after harvest, and minerals and
mineral products, to the extent that they are measured at net realisable value (above or below cost)
in accordance with well-established practices in those industries. When such inventories are
measured at net realisable value, changes in that value are recognised in profit or loss in the
period of the change
 commodity brokers and dealers who measure their inventories at fair value less costs to sell.
When such inventories are measured at fair value less costs to sell, changes in fair value less costs
to sell are recognised in profit or loss in the period of the change.

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Fundamental principle of IAS 2
Inventories are required to be stated at the lower of cost and net realisable value (NRV).

Measurement of inventories
Cost should include all:
 costs of purchase (including taxes, transport, and handling) net of trade discounts received
 costs of conversion (including fixed and variable manufacturing overheads) and
 other costs incurred in bringing the inventories to their present location and condition.

IAS 23 Borrowing Costs identifies some limited circumstances where borrowing costs (interest) can
be included in cost of inventories that meet the definition of a qualifying asset.
Inventory cost should not include:
 abnormal waste
 storage costs
 administrative overheads unrelated to production
 selling costs
 foreign exchange differences arising directly on the recent acquisition of inventories invoiced in a
foreign currency
 interest cost when inventories are purchased with deferred settlement terms.

The standard cost and retail methods may be used for the measurement of cost, provided that the
results approximate actual cost.
For inventory items that are not interchangeable, specific costs are attributed to the specific individual
items of inventory.
For items that are interchangeable, IAS 2 allows the FIFO or weighted average cost formulas. The
LIFO formula, which had been allowed prior to the 2003 revision of IAS 2, is no longer allowed.
The same cost formula should be used for all inventories with similar characteristics as to their nature
and use to the entity. For groups of inventories that have different characteristics, different cost
formulas may be justified.

Write-down to net realisable value

NRV is the estimated selling price in the ordinary course of business, less the estimated cost of
completion and the estimated costs necessary to make the sale. [IAS 2.6] Any write-down to NRV
should be recognised as an expense in the period in which the write-down occurs. Any reversal should
be recognised in the income statement in the period in which the reversal occurs.

Expense recognition
IAS 18 Revenue addresses revenue recognition for the sale of goods. When inventories are sold and
revenue is recognised, the carrying amount of those inventories is recognised as an expense (often

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called cost-of-goods-sold). Any write-down to NRV and any inventory losses are also recognised as
an expense when they occur.

Disclosure
Required disclosures:
 accounting policy for inventories
 Carrying amount, generally classified as merchandise, supplies, materials, work in progress, and
finished goods. The classifications depend on what is appropriate for the entity
 carrying amount of any inventories carried at fair value less costs to sell
 amount of any write-down of inventories recognised as an expense in the period
 amount of any reversal of a write-down to NRV and the circumstances that led to such reversal
 carrying amount of inventories pledged as security for liabilities
 cost of inventories recognised as expense (cost of goods sold).

IAS 2 acknowledges that some enterprises classify income statement expenses by nature (materials,
labour, and so on) rather than by function (cost of goods sold, selling expense, and so on).
Accordingly, as an alternative to disclosing cost of goods sold expense, IAS 2 allows an entity to
disclose operating costs recognised during the period by nature of the cost (raw materials and
consumables, labour costs, other operating costs) and the amount of the net change in inventories for
the period). This is consistent with IAS 1 Presentation of Financial Statements, which allows
presentation of expenses by function or nature.

NON CURRENT ASSETS HELD FOR SALE

IFRS 5 Non-current Assets Held for Sale and Discontinued Operations outlines how to account for
non-current assets held for sale (or for distribution to owners). In general terms, assets (or disposal
groups) held for sale are not depreciated, are measured at the lower of carrying amount and fair value
less costs to sell, and are presented separately in the statement of financial position. Specific
disclosures are also required for discontinued operations and disposals of non-current assets.

Key provisions of IFRS 5 relating to assets held for sale

Held-for-sale classification
In general, the following conditions must be met for an asset (or 'disposal group') to be classified as
held for sale:
- management is committed to a plan to sell
- the asset is available for immediate sale
- an active programme to locate a buyer is initiated
- the sale is highly probable, within 12 months of classification as held for sale (subject to limited
exceptions)
- the asset is being actively marketed for sale at a sales price reasonable in relation to its fair value
actions required to complete the plan indicate that it is unlikely that plan will be significantly
changed or withdrawn

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The assets need to be disposed of through sale. Therefore, operations that are expected to be wound
down or abandoned would not meet the definition (but may be classified as discontinued once
abandoned).

An entity that is committed to a sale involving loss of control of a subsidiary that qualifies for held-
for-sale classification under IFRS 5 classifies all of the assets and liabilities of that subsidiary as held
for sale, even if the entity will retain a non-controlling interest in its former subsidiary after the sale.

Held for distribution to owners classification

The classification, presentation and measurement requirements of IFRS 5 also apply to a non-current
asset (or disposal group) that is classified as held for distribution to owners. The entity must be
committed to the distribution, the assets must be available for immediate distribution and the
distribution must be highly probable.

Disposal group concept

A 'disposal group' is a group of assets, possibly with some associated liabilities, which an entity
intends to dispose of in a single transaction. The measurement basis required for non-current assets
classified as held for sale is applied to the group as a whole, and any resulting impairment loss
reduces the carrying amount of the non-current assets in the disposal group in the order of allocation
required by IAS 36.

Measurement
The following principles apply:
- At the time of classification as held for sale. Immediately before the initial classification of the
asset as held for sale, the carrying amount of the asset will be measured in accordance with
applicable IFRSs. Resulting adjustments are also recognised in accordance with applicable IFRSs.
- After classification as held for sale. Non-current assets or disposal groups that are classified as
held for sale are measured at the lower of carrying amount and fair value less costs to sell (fair
value less costs to distribute in the case of assets classified as held for distribution to owners).
- Impairment;-Impairment must be considered both at the time of classification as held for sale and
subsequently:
 At the time of classification as held for sale. Immediately prior to classifying an asset or
disposal group as held for sale, impairment is measured and recognised in accordance with
the applicable IFRSs (generally IAS 16 Property, Plant and Equipment, IAS 36 Impairment of
Assets, IAS 38 Intangible Assets, and IAS 39 Financial Instruments: Recognition and
Measurement/IFRS 9 Financial Instruments). Any impairment loss is recognised in profit or
loss unless the asset had been measured at revalued amount under IAS 16 or IAS 38, in which
case the impairment is treated as a revaluation decrease.
 After classification as held for sale. Calculate any impairment loss based on the difference
between the adjusted carrying amounts of the asset/disposal group and fair value less costs to
sell. Any impairment loss that arises by using the measurement principles in IFRS 5 must be
recognised in profit or loss, even for assets previously carried at revalued amounts.
- Assets carried at fair value prior to initial classification. For such assets, the requirement to
deduct costs to sell from fair value may result in an immediate change to profit or loss.
- Subsequent increases in fair value. A gain for any subsequent increase in fair value less costs to
sell of an asset can be recognised in the profit or loss to the extent that it is not in excess of the
cumulative impairment loss that has been recognised in accordance with IFRS 5 or previously in
accordance with IAS 36.

Page 24
- No depreciation. Non-current assets or disposal groups that are classified as held for sale are not
depreciated.

NOTE
The measurement provisions of IFRS 5 do not apply to deferred tax assets, assets arising from
employee benefits, financial assets within the scope of IFRS 9 Financial Instruments, non-current
assets measured at fair value in accordance with IAS 41 Agriculture, and contractual rights under
insurance contracts.

Presentation
Assets classified as held for sale, and the assets and liabilities included within a disposal group
classified as held for sale, must be presented separately on the face of the statement of financial
position.

Disclosures
IFRS 5 requires the following disclosures about assets (or disposal groups) that are held for sale:
- description of the non-current asset or disposal group
- description of facts and circumstances of the sale (disposal) and the expected timing
- impairment losses and reversals, if any, and where in the statement of comprehensive income they
are recognised
- if applicable, the reportable segment in which the non-current asset (or disposal group) is
presented in accordance with IFRS 8 Operating Segments

NOTE
Disclosures in other IFRSs do not apply to assets held for sale (or discontinued operations, discussed
below) unless those other IFRSs require specific disclosures in respect of such assets, or in respect of
certain measurement disclosures where assets and liabilities are outside the scope of the measurement
requirements of IFRS 5.

Key provisions of IFRS 5 relating to discontinued operations

Classification as discontinuing
A discontinued operation is a component of an entity that either has been disposed of or is classified
as held for sale, and:
- represents either a separate major line of business or a geographical area of operations
- is part of a single co-ordinated plan to dispose of a separate major line of business or geographical
area of operations, or
- is a subsidiary acquired exclusively with a view to resale and the disposal involves loss of control.
IFRS 5 prohibits the retroactive classification as a discontinued operation, when the discontinued
criteria are met after the end of the reporting period.

Disclosure in the statement of comprehensive income

The sum of the post-tax profit or loss of the discontinued operation and the post-tax gain or loss
recognised on the measurement to fair value less cost to sell or fair value adjustments on the disposal
of the assets (or disposal group) is presented as a single amount on the face of the statement of
comprehensive income. If the entity presents profit or loss in a separate statement, a section identified
as relating to discontinued operations is presented in that separate statement.

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 Detailed disclosure of revenue, expenses, pre-tax profit or loss and related income taxes is required
either in the notes or in the statement of comprehensive income in a section distinct from continuing
operations. [IFRS 5.33] Such detailed disclosures must cover both the current and all prior periods
presented in the financial statements.

Cash flow information

The net cash flows attributable to the operating, investing, and financing activities of a discontinued
operation is separately presented on the face of the cash flow statement or disclosed in the notes.

Disclosures
The following additional disclosures are required:
- adjustments made in the current period to amounts disclosed as a discontinued operation in prior
periods must be separately disclosed
- if an entity ceases to classify a component as held for sale, the results of that component previously
presented in discontinued operations must be reclassified and included in income from continuing
operations for all periods presented.

IMPAIRMENT OF ASSETS (IAS36)

The aim of IAS 36, Impairment of Assets, is to ensure that assets are carried at no more than their
recoverable amount.

If an asset's carrying value exceeds the amount that could be received through use or selling the asset,
then the asset is impaired and the standard requires a company to make provision for the impairment
loss. An impairment loss is the amount by which the carrying amount of an asset or cash-generating
unit (CGU) exceeds its recoverable amount. The recoverable amount of an asset or a CGU is the
higher of its fair value less costs to sell and its value in use.

IAS 36 also outlines the situations in which a company can reverse an impairment loss. Certain assets
are not covered by the standard and these are generally those assets dealt with by other standards, for
example, financial assets dealt with under IAS 39. A company must assess at each balance sheet date
whether an asset is impaired. Even if there is no indication of any impairment, certain assets should be
tested for impairment, for example, an intangible asset that has an indefinite useful life. Additionally,
the standard specifies the situations that might indicate that an asset is impaired. These are external
events, such as a decline in market value, or internal causes, such as physical damage to an asset.

If it is not possible to determine the fair value less costs to sell because there is no active market for
the asset, the company can use the asset's value in use as its recoverable amount. Similarly, if there is
no reason for the asset's value in use to exceed its fair value less costs to sell, then the latter amount
may be used as its recoverable amount. For example, where an asset is being held for disposal, the
value of this asset is likely to be the net disposal proceeds. The future cash flows from this asset from
its continuing use are likely to be negligible.

IAS 36 also explains how a company should determine fair value less costs to sell. The best guide is
the price in a binding sale agreement, in an arm's length transaction adjusted for costs of disposal.
When calculating the value in use, typically a company should estimate the future cash inflows and
outflows from the asset and from its eventual sale, and then discount the future cash flows
accordingly.

It is important that any cash flow projections are based upon reasonable and supportable assumptions
over a maximum period of five years unless it can be proven that longer estimates are reliable. They

Page 26
should be based upon the most recent financial budgets and forecasts. The discount rate to be used in
measuring value in use should be a pre-tax rate that reflects current market assessments of the time
value of money, and the risks that relate to the asset for which the future cash flows have not yet been
adjusted.

Where the recoverable amount of an asset is less than its carrying amount, the carrying amount will be
reduced to its recoverable amount. This reduction is the impairment loss, which should be recognized
immediately in profit or loss, unless the asset is carried at a re-valued amount. In this case, the
impairment loss is treated as a revaluation decrease in accordance with the respective standard. If it is
not possible to calculate the recoverable amount of an individual asset, then the recoverable amount of
the CGU to which the asset belongs should be calculated. A CGU is the smallest identifiable group of
assets that can generate cash flows from continuing use, and that are mainly independent of the cash
flows from other assets or groups of assets.

Any impairment loss calculated for a CGU should be allocated to reduce the carrying amount of the
asset in the following order:
 the carrying amount of goodwill should be first reduced then the carrying amount of other assets
of the unit should be reduced on a pro rata basis, which is determined by the relative carrying
value of each asset; then
 Any reductions in the carrying amount of the individual assets should be treated as impairment
losses. The carrying amount of any individual asset should not be reduced below the highest of its
fair value less cost to sell and its value in use.
 If this rule is applied then the impairment loss not allocated to the individual asset will be
allocated on a pro rata basis to the other assets of the group.

Key terms and illustrations

Impairment is the loss in value of intangibles and non-current assets.
IAS36 defines impairment loss as the difference between carrying amount of an asset and its
receivable amount i.e.

Impairment loss = Carrying amount – Recoverable Amount

Where:
Carrying amount = cost – Accumulated depreciation

NRV = Fair value – cost to sell

or Higher of the two = Recoverable amount
Value in use

Fair value less cost sell refers to amount obtainable from the sale of an asset less disposal cost e.g.
legal fees and transportation.
Value in use – These are the expected future cash inflows from the asset discounted to their present
values.

Carrying amount
Refers to amount at which an asset is recognized in the statement of financial position after deducting
accumulated depreciation from the cost of the asset.

Cash generating Unit (CGU)

This is the smallest identifiable group of assets that generates cash inflows independently from other
assets or group of assets.

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Illustration
XYZ Ltd has 3 cash generating units AB and C. they have provided the following information
“CGUA” “CGUB” “CGUC”
Sh.’000’ Sh.’000’ Sh.’000’
Carrying amounts 300 200 600
Net realizable value 250 220 450
Value in use 260 190 400

Required:
(i)The recoverable amount of each CGU
(ii)The impairment loss (if any) of each CGU

Answer
NRV = Fair value – cost to sell
Or Higher of the two= Recoverable amount
Value in use

Recoverable amount
CGU’A’ CGU’B’ CGU’C’
Sh.’000’ Sh. ‘000’ Sh. ‘000’
Net realisable value 250 220 450
Value in use 260 190 400 Higher of the two
Recoverable amount 260 220 450

Impairment loss
CGU’A’ CGU’A’ CGU’A’
Sh. ‘000’ Sh. ‘000’ Sh. ‘000’
Carrying amount 300 200 600
Recoverable amount (260) (220) (450)
40 NIL 150

Factors to Consider When Determining Impairment

External factors
1. Unexpected decrease in the market value due to passage of time
2. Increase in market interest rates regarding or in relation to the assets.
3. Adverse changes e.g. technological advancement or legal environment
4. The carrying amount of the net assets of an entity

Internal factors
1. Evidence of obsoleteness or physical damage
2. Reduction in the usage of the asset by the entity
3. Reduction in the level of output expected from the asset.

Further Illustration
ABC Ltd owns a manufacturing plant with the carrying value with sh.7490000. The government has
just imposed export quotas on products manufactured by the plant. Following this development ABC
Ltd has prepared following estimate of cash flows from the usage of the plant over the next 5 years.

Page 28
 Year Cash flows
1 2,300
2 2,110
3 1,570
4 1,040
5 2,330

Additional information;-
1. The plant would be sold currently for sh.5.6m selling cost could amount to sh.100,000
2. Cost of capital is 15%.
3. Present value factors
Year 15% 10.5%
1 0.8696 0.9050
2 0.7561 0.8189
3 0.6572 0.7412
4 0.5717 0.6707
5 0.4972 0.6069

Required:
(i)Recoverable amount of the plant
(ii)Impairment loss (if any) on the plant

Answer
Single asset
NRV=Fair value – cost to sell
Or Higher of the two = recoverable amount
Value in use

NRV (Net realisable value) = 5,600 – 100 = 5,500

HINT
Value in use will be equal to the present value of future cash flows.

Value in use
(15%) Discounted
Year Cash flows Disc factor CF
1 2,300 0.8696 2,000
2 2,110 0.7561 1,595
3 1,570 0 .6572 1,032
4 1,040 0.5717 595
5 2,330 0.4972 1,158
6,380

NRV=Fair value – cost to sell = 5,500

Or Higher of the two=recoverable amount
Value in use =6,380

Page 29
Recoverable amount = sh.6, 380

Impairment loss
Impairment = carrying amount (Book value) – Recoverable amount
= 7,490 – 6,380 = 1,110

Impairment loss for multiple assets

The main concern is on how:
- To allocate impairment loss to each Asset in the cash generating unit (CGU)
- On how to allocate impairment loss on an asset with goodwill.

Impairment loss in a cash generating unit (CGU)

If impairment loss arises in the CGU with multiple assets then the impairment loss will be allocated as
follows:
- Goodwill to be impaired in full
- To the remaining asset on pro-rata basis based on their carrying amounts.

Illustration
The following information is provided relating to the carrying amounts of the assets comprising the
cash generating unit of alexo Ltd as at 31st December 2017.

Cash generating unit Cash generating unit No.2

No.1 Sh.
Sh.
Goodwill - 25,000,000
Tangible fixed Assets 26,000,000 107,000,000
Inventories 22,000,000 23,000,000
48,000,000 155,000,000

The accountant of Alexo Ltd has prepared the following cash forecast relating to business operation of
the 2 cash generating unit.
Year CGU 1 CGU 2
Cash flows Cash flows
Sh. Sh.
1 8,000,000 20,000,000
2 6,000,000 22,000,000
3 9,000,000 27,000,000
4 10,000,000 24,000,000
5 11,000,000 15,000,000
6 12,000,000 30,000,000

The net realizable value of assets of CGU 1 is Sh.50m and that of the assets of CGU 2 is 70,000,000
The discount rate appropriate to the activity of CGU 1 is 10% and that of CGU 2 is 12%.

Required;-
i.The recoverable amount of CGU 1 and CGU 2

Page 30
 ii.The impairment loss if any for CGU 1 and CGU 2
iii.Allocate the impairment loss if any between the assets of CGU 1 and CGU 2

Answer
NRV=Fair value – cost to sell
Or higher of the two= Recoverable amount
Value in use

Value in use CGU

Year Cash flows Discounting factor Present value
Sh. at 10%
1 8,000,000 0.9091 7,272,800
2 6,000,000 0.8264 4,958,400
3 9,000,000 0.7513 6,761,700
4 10,000,000 0.6830 6,830,000
5 11,000,000 0.6209 6,829,900
6 12,000,000 0.5645 6,774,000
39,426,800

FV – cost to sell =50,000,000

Higher of the two=recoverable amount
Value in use =39,426,800

Recoverable amount = 50,000,000

HINT
Net realisable value= fair value- cost to sell

Impairment = Carrying Amount – Recoverable Amount

48,000,000 – 50,000,000 = NIL

Value in use (CGU 2)

Year Cash flows Discount factor Discounted cash flows
12% Sh.
Sh.
1 20,000,000 0.8929 17,858,000
2 22,000,000 0.7972 17,538,400
3 27,000,000 0.7118 19,218,600
4 24,000,000 0.6355 15,252,000
5 15,000,000 0.5674 8,511,000
6 30,000,000 0.5066 15,198,000
93,576,000

Fair value – cost to sell = 70,000,000

Higher of the two=recoverable amount

Page 31
Value in use =93,576,000

Recoverable amount = 93,576,000

Impairment = carrying amount – recoverable amount

155,000,000 – 93,576,000 = 61,424,000

Statement of impairment allocation of CGU 2

Asset Carrying amount Impairment loss

Sh. 000 Sh.000
Goodwill 25,000 25,000
Total fixed assets 107,000 29,980(w1)
Inventories 23,000 6,444(w2)
155,000 61,424

HINT
Unallocated impairment loss=61,424-25000=36,424
This is to be apportioned between fixed assets and inventories using the proportions of carrying
amount units.

Workings
W1
107,000
Total fixed asset = × 36,424 = 29,980
130,000

W2
Inventory =23,000/130,000 ×36424= 6,444

ASSETS USED IN EXPLORING AND EVALUATING MINERAL RESOURCES

IFRS 6 Exploration for and Evaluation of Mineral Resources has the effect of allowing entities
adopting the standard for the first time to use accounting policies for exploration and evaluation assets
that were applied before adopting IFRSs. It also modifies impairment testing of exploration and
evaluation assets by introducing different impairment indicators and allowing the carrying amount to
be tested at an aggregate level.

Definitions
Exploration for and evaluation of mineral resources means the search for mineral resources,
including minerals, oil, natural gas and similar non-regenerative resources after the entity has obtained
legal rights to explore in a specific area, as well as the determination of the technical feasibility and
commercial viability of extracting the mineral resource.

Exploration and evaluation expenditures are expenditures incurred in connection with the
exploration and evaluation of mineral resources before the technical feasibility and commercial
viability of extracting a mineral resource is demonstrable.

Accounting policies for exploration and evaluation

Page 32
IFRS 6 permits an entity to develop an accounting policy for recognition of exploration and
evaluation expenditures as assets without specifically considering the requirements of paragraphs 11
and 12 of IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors. Thus, an entity
adopting IFRS 6 may continue to use the accounting policies applied immediately before adopting the
IFRS. This includes continuing to use recognition and measurement practices that are part of those
accounting policies.

Impairment
IFRS 6 effectively modifies the application of IAS 36 Impairment of Assets to exploration and
evaluation assets recognised by an entity under its accounting policy.

Specifically:
- Entities recognizing exploration and evaluation assets are required to perform an impairment test
on those assets when specific facts and circumstances outlined in the standard indicate an
impairment test is required. The facts and circumstances outlined in IFRS 6 are non-exhaustive,
and are applied instead of the 'indicators of impairment' in IAS 36
- Entities are permitted to determine an accounting policy for allocating exploration and evaluation
assets to cash-generating units or groups of CGUs. This accounting policy may result in a
different allocation than might otherwise arise on applying the requirements of IAS 36
- If an impairment test is required, any impairment loss is measured, presented and disclosed in
accordance with IAS 36.

Presentation and disclosure

An entity treats exploration and evaluation assets as a separate class of assets and make the
disclosures required by either IAS 16 Property, Plant and Equipment or IAS 38 Intangible Assets
consistent with how the assets are classified.

IFRS 6 requires disclosure of information that identifies and explains the amounts recognised in its
financial statements arising from the exploration for and evaluation of mineral resources, including:
- its accounting policies for exploration and evaluation expenditures including the recognition of
exploration and evaluation assets
- the amounts of assets, liabilities, income and expense and operating and investing cash flows
arising from the exploration for and evaluation of mineral resources.

ACCOUNTING FOR INCOME TAXES

In accounting for income taxes there normally arises a difference between the taxable income and the
accounting profit.
The reason responsible for these differences are classified into 2
• Temporary differences
• Permanent differences

Temporary differences
These differences arise when an item has been considered in one profit computation but ignored in the
other profit computation.

Example of temporary differences

(1)Certain types of expenses recognized in accounting profit computation but ignored in the taxable
profit computation e.g. depreciation, donations, director’s entertainment etc.

Page 33
(2)Certain types of income recognized in accounting profit computation but ignored for tax purposes
e.g. government grants and subsidies, windfall gains.

IAS12 defines temporary differences as the difference between the carrying amount of an asset or
liability and their tax bases i.e.
Temporary differences = Carrying amount of asset or liability – Tax base

Where, Carrying amount = cost – Accumulated Depreciation

Tax base (WDV) = cost – Accumulated Capital allowances

Permanent differences
It arises when an item has been considered in both profit computations but in different time periods.
E.g. expenses are recognized in the accounting profit on accruals basis while for tax purposes
expenses are recognized on cash basis (when paid)

Types of income taxes

1. Current taxes
2. Deferred taxes

Current taxes
These are tax obligation attributable to an organization for the financial year under consideration.

Current tax = taxable profit x Tax rate

Taxable profit = reported Accounting profit before tax + Disallowable expenses – Allowable expenses

Illustration
Sophistic Ltd a newly listed company has provided the following information with regards to
computation of its tax expense for the year ended 31 May 2014:
Sh. “000”
Accounting profit 42,900
Depreciation 6,000
Donations 1,000
Amortization of software 2,400
52,300
Capital allowances (7,500)
44,800
Tax expense at 25% 11,200

The company has not yet determined tax expense for the year ended 31 May 2015.

Additional information:
1. Accounting profit for the year ended 31 May 2015 was Sh.55,200,000 while donations amounted
to sh.600,000
2. An extract of non-current assets movement schedule for the year ended 31 May 2015 was as
follows:
Plant Software
Cost 1 June 2014 32,000 9,000
Additions during the year - -

Page 34
 Accumulated depreciation 1 June 2014 19,200 5,400
Tax written down value 1 June 2014 18,500 ?

3. Plant is depreciated at 20% per annum using the straight line method while wear and tear
allowance on plant is provided at 25% on a reducing balance basis.
4. Software development commenced in the year ended 31 May 2011 and was completed in the
immediate subsequent year. The company capitalized development costs which amounted to Sh.9,
000,000 and amortization commenced on 1 June 2012 using the sum of digits method over the
estimated useful life of 5 years. Software development costs are allowed in full for tax purposes in
the year in which they are incurred.
5. Donations made by the company were not tax allowable.
6. Corporate tax rate applicable on the company’s earnings for the year ended 31 March 2015 is
30% and the company is expected to continue generating taxable profits in the foreseeable future.
Required:
Current tax to be charged in the income statement for the year ended 31 May 2015.

Answer

Sophistic Ltd
Taxable profit computation
For the year ended 31.5.2015
Sh.’000’
Reported accounting profit before tax 55,000
Add: Disallowable expenses
Depreciation(20%×32,000) 6,400
Donations 600
Amortization of software(3/10×9,000) 1,800
64,000
Less: Capital allowance
(25%×18,500) (4,625)
Taxable profit 59,375

Current Tax = 59,375×30% = Sh.17, 812.3

Workings
Sum of digits = 1 + 2 + 3 + 4 + 5 = 15

Illustration
A company reported a/c profit after tax of sh.1.2m on 31/12/2018. The company had purchased an
item of plant at sh.800, 000 on 1st Jan 2016. Depreciation is on straight line at rate of 25% per annum
while wear and tear at 20% on the cost per annum.
Tax is at 30%
Required:
What is the current tax.

Page 35
Answer

Current tax for the year

Sh.’000’
1,200,000 1,714,286
Reported accounting profit before tax ( 0.7 )
Add: Disallowable 200,000
Depreciation (800,000×25%)
1,914,286
(160,000)
Less capital allowance (WTA)(20%×800,000) 1,754,286
Taxable profit

Current tax = 1,754,286×30% = 526,286

Deferred Tax (IAS12)

Deferred taxes are future tax consequences to an entity
IAS12 requires that an entity must provide for deferred taxes at the end of each financial period.

Methods determining deferred

1. Income statement liability method
2. Balance sheet liability method

INCOME STATEMENT LIABILITY METHOD

It is divided into three;-
i. Nill provision
ii. Full provision
iii. Partial provision

Nill provision
Under this approach no provision is made for deferred taxes i.e provision is only made for current
taxes

Full provision (recommended)

Under this approach provision is made for both current and deferred taxes
It is the method recommended by IAS12 whenever income statement liability method is used.

Partial provision
Similar to full provision with an exemption that deferred taxes are only provided for if there is clear
evidence that they will reverse in the near future based on the past experience.

Illustration
B Ltd was incorporated 1/4/2011. In the year ended 3/3/2012 the company made a profit before tax of
sh.10m (Depreciation charged being sh.1m).
The company had made the following capital additions.
- Plant sh.4.8m
- Motor vehicle sh.1.2m
- Corporation tax is at 30%

Page 36
Capital deductions are computed at rate of 25% p.a on written down value. The company has prepared
the capital expenditure budget as 31/3/2012 which revealed the following pattern.

Year to Capital Depreciation

allowances
31 March 2013 1700 1600
31 March 2014 2300 1900
31 March 2015 2100 1900
31 March 2016 1500 2100
31 March 2017 2400 2900
31 March 2018 2500 2000

From 1/4/2007 capital allowances are expected to exceed depreciation charge each year.
Required:
(i)Compute the corporation tax payable for the year ended 31/3/2012
(ii)Compute the deferred tax charged for the year ended 31/3/2012 using
- NIL provision method
- Full provision method
- Partial provision method

(Show the income statement and statement of financial position extract with respect with provisions
under each method)
Answer
(i)Compute the corporation tax payable
Recall, Tax payable = Taxable profit × tax rate

Taxable profit computation

Sh. ‘000’
Reported accounting profit before tax 10,000
Add disallowable expenses
Depreciation 1,000
Taxable profit 11,000
Less capital allowance;
Plant (4,800×25%) (1,200)
Motor vehicle (1,200 ×25%) (300)
9,500

Tax payable = 9,500×30% = sh.2, 850

(ii)The deferred tax charged

Using NIL provision
No provision is to be made for deferred tax, this method only allows provision for current taxes

Using full provision

Year to Capital Depreciation Timing Deferred tax
allowances Sh.’000’ differences Sh.’000’

Page 37
 Sh.’000’ Sh.’000’
e.g. (1,700-1,600) e.g.(30%×100)
2013 1,700 1,600 100 30
2014 2,300 1,900 400 120 DL
2015 2,100 1,900 200 60 DL
2016 1,500 2,100 (600) (180) DA
2017 2,400 2,900 (500) (150) DA
2018 2,500 2,000 500 150 DL
Deferred Tax Account
Sh.’000’ Sh.’000’
2013 2013
Balance b/d (2012) -
Balance c/d 30 Income statement 30
30 30
2014 2014
Balance b/d 30
Balance c/d 120 Income statement 90
120 120
2015 2015
Income statement 60 Balance b/d 120
Balance c/d 60 -
120 120
2016 2016
Income statement 240 Balance b/d 60
- Balance c/d 180
240 240
2017 2017
Balance b/d 180 Income statement 30
- Balance c/d 150
180 180
2018 2018
Balance b/d 150 Income statement 150
- Balance c/d -
150 150

B Ltd
Income statement (extract)
For the year ended 31.3……
2013 2014 2015 2016 2017 2018
Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’
Income
Deferred tax
Income - - 60 240 - -

Expenses
Deferred tax 30 90 - - 30 -
expense

B Ltd

Page 38
 Statement of financial position (Extract)
For the year ended 31.3……
2013 2014 2015 2016 2017 2018
Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’
Non-current asset
Deferred tax Asset - - 60 240 - -
Non-current
liabilities
Deferred tax liability 30 120 60 - - 150

(iii) Using partial provision

Using partial provision
Year to Capital Depreciation Timing Deferred tax Deferred Tax
allowances difference (30%×timing to provide
e.g.(1,700- diff
1,600)
2013 1,700 1,600 100 30 180 D.L
2014 2,300 1,900 400 120 150 D.L
2015 2,100 1,900 200 60 -
2016 1,500 2,100 (600) (180) -
2017 2,400 2,900 (500) (150) -
2018 2,500 2,000 500 150 -

Deferred tax account

2013 Sh.’000’ 2013 Sh.’000’
Income statement 180 Balance b/d -
- Income statement 180
180 180
2014 2014
Income statement 30 Balance b/d 180
Balance c/d 150 -
180 180
2015 2015
Income statement 150 Balance b/d 150
Balance c/d 0 -
150 150
2016 2016
Balance c/d NIL Balance b/d NIL

B Ltd
Income statement (extract)
For the year ended 31.3……
2013 2014 2015 2016 2017 2018
Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’
Income
Deferred tax
income - 30 150 - - -

Page 39
Expenses
Deferred tax expense 180 - - - - -

2002 2003 2004 2005 2006 2007

Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’ Sh.’000’
Non-current asset
Deferred tax Asset - - - - - -

Non-Current Liability
Deferred tax liability
180 150 - - - -

Balance Sheet Liability Method

This method views deferred taxes to arise from temporary differences. It is the method recommended
by IAS12 for computing deferred taxes. The justification for recommendation is the temporary
differences is based on the financial position of an entity i.e. temporary differences liability method
only focuses on income and expenses which may fluctuate during the financial period.

When using the balance sheet liability method deferred taxes will be computed as follows;-

Deferred taxes = Temporary differences ×Tax Rate

Where;
Temporary differences = carrying amount (NBV) – Tax Base (WDV)
NBV = cost – Accumulated depreciation (if any)
WDV = cost – Accumulated capital allowance (if any)

Types of temporary differences

Taxable temporary differences

This arises when the carrying amount is greater than the tax base. They are also known as positive
temporary differences and they lead to deferred tax liability.

Deductible Temporary difference

It arises when the carrying amount is less than the tax base
It is also known as the negative temporary differences and leads to deferred tax asset.

Illustration
Lami Limited had a deferred tax liability as at I May 2011 of Sh.100 million. For the purposes of
preparing financial statements for the year ended 30 April 2012, the following additional information
is available:
1. Property, plant and equipment has a carrying amount of Sh.1,200 million and a tax base of
Sh.1,000 million. Some land and buildings were revalued upwards by Sh.50 million during the
year ended 30 April 2012.
2. Intangible assets consisting of trade licences being amortised over five years had a carrying
amount of Sh. 60 million. This was allowed for tax purposes in full two years ago.
3. The company has available for sale financial assets with a carrying amount of Sh.20 million and
financial assets at fair value through profit and loss of Sh. 10 million. Both financial assets
reported losses in fair value of Sh.2 million each as at 30 April 2012.

Page 40
 4. Inventory is shown at the lower of cost and net realisable value. The cost is Sh.800 million while
the net realisable value is Sh.780 million.
5. Receivables had a carrying amount of Sh.500,million after making an allowance for doubtful debt
of Sh.20 million and an exchange gain of Sh.40 million (unrealised). Both the allowance and
exchange gain arc not allowed for tax purposes.
6. Trade and other payable are stated at Sh. 900 million after making provision for discount of Sh.
10 million.
7. Assume a tax rate of 30%.
Required;-
(i)Compute the relevant temporary differences.
(ii)Show the journal entry to record changes in the deferred tax liability

Answer
(i)Compute the relevant temporary differences.
Temporary differences = Carrying amount – Tax Base
Lami Ltd
Temporary differences computation
As at 1.5.2011
Carrying Tax Base Temporary differences
Assets/liabilities amount Sh.‘m’
Sh.‘m’ Sh.‘m’
Property plant and equipment 1,200 1,000 200
Intangible asset 60 0 60
Available for sale FA 20 22 (2)
Financial asset at FV 10 12 (2)
Inventory 780 800 (20)
Receivables 500 480 20
Trade and other payable (900) 910 10
266

Therefore deferred tax = 266×30% = 79.8m

Deferred tax account
Sh. m Sh. m
Income statement 34 Balance b/d 100
(Balance figure) Deferred tax due to revaluation (w1)
Balance c/d 79.8 13.8
113.8 113.8
Working
W1
Deferred tax due to revaluation
Sh. m
Revaluation loss 2+2=4

Page 41
 Gain 50
46
Difference (30%×46) 13.8

(ii)Show the journal entry to record changes in the deferred tax liability
Journal Entries
DR CR
Sh. m Sh. m
1. Revaluation reserve A/C 13.8
Deferred Tax A/C 13.8
To record deferred tax/liability due to revaluation

2. Deferred Tax A/C 34

Income statement 34
To record deferred tax income or the year

Illustration
Jahazi Group is estimating the deferred tax liability as at 31 May 2010 and has provided the following
information:
1. Property, plant and equipment has a cost and revalued amount of sh.100 million and accumulated
depreciation of Sh.18 million. Total capital allowances on property, plant and equipment amount
to Sh.30 million.
2. The group has available for sale (AFS) financial assets that were purchased during the year at a
cost of sh. 10 million. There was a revaluation gain of sh.2 million reported in the AFS reserve.
3. The group spent Sh.50 million to develop a new product and out of which Sh.10 million has been
charged in the income statement as amortization for the year. The balance of Sh.40 million is
shown as intangible assets in the statement of financial position. The full amount of Sh.50 million
was allowed for tax purposes in the year.
4. Total inventory was carried at Sh. 20 million which was the net realizable value. The cost of the
inventory was Sh.22 million. There was an unrealized profit of Sh.1 million that had not been
deducted from the inventory on consolidation.
5. The receivables amounted to sh.30 million after making a provision of Sh.2 million for a doubtful
debt. The amount also included a foreign exchange gain of Sh.1 million. Exchange gains or losses
and doubtful debts are only allowed for tax purposes when they are realized.
6. The trade and other payables of Sh.40 million include an accrual of Sh. 5 million which relates to
pension and other employee benefits to be paid in the year 2011. These are only allowed for tax
purposes when paid.
7. The deferred tax liability as at 1 June 2009 was Sh.8.5 million.
8. Assume that the temporary differences due to the revaluation of property, plant and equipment
amount to Sh.2 million and the corporation tax rate is 30%.
Required:
Compute the deferred tax balance as at 31 May 2010 and the charge to the income statement for the
year ended 31 May 2010.

Answer
Deferred tax computation
As at 31/5/2010
Assets/Liabilities Carrying Tax base Temporary
Amount difference

Page 42
Property plant and equipment 82 70 12
AFS Financial asset 12 10 2
Intangible asset 40 0 40
Inventory 20 23 (3)
Receivables 30 31 (1)
Trade and payables (40) (35) (5)
45

Deferred tax liability = 45 ×30%= 13.5

Deferred Tax account

Sh.m Sh. m
Balance b/d 805
Deferred tax due to
revaluation(30%×4)(w1) 1.2

Balance c/d 13.5 Income statement (Balance figure) 3.8

13.5 13.5

Working 1
Note 2 and 8
2m+2m=4
4×30%=1.2

HINT
If balance b/d is a deferred tax asset then commence by debiting but if it’s a deferred tax liability
commence by crediting.

NOTE:
Intangible assets are not assessed for tax purposes based on their tax base rather on their carrying
amount only i.e. their cost are always allowed in full for tax purposes.
However goodwill is tax exempt i.e. Goodwill should not be assessed for tax purposes even if the
carrying amount exceed the tax base

Illustration
Munro Ltd.., a manufacturing company, provides for deferred income tax in accordance with IAS
12(Income Taxes)

Sh.000
Assets
Non-current assets
Property plant and equipment 14,000
Intangible assets 4,000
Good will 6,000
Financial assets-available for sale 12,000
Current assets

Page 43
 Inventories 7,500
Trade receivables 6,650
Prepayments 3,200
Cash and cash equivalents 1,250
54,600
Equity and liabilities
Equity
Share capital 12,000
Revaluation reserves 3,000
Retained profit 12,260
Non-current liabilities
Interest bearing loans 16,000
Deferred income tax(1 May 2016) 1,200
Current liabilities
Trade and other payables 8,000
Employee benefits 2,000
Current income tax 140
54,600

Additional information;-
1. The tax bases of the assets are as follows;-
Sh.000
Property plant and equipment 2,800
Prepayments 1,500
Interest bearing loans 17,000
Financial assets 14,000

2. Inventories are stated at fair valueless cost to sell which is lower than the original cost due to a
general provision for price decline of sh. 3.5 million.
3. The intangible assets comprise development cost which is tax deductible when the amount is paid
out. The cost of intangible assets was paid in the year 2014 and is presented net of the
amortization cost.
4. Goodwill and employee benefits are tax exempt
5. Trade and other payables include provision for leave allowance of sh.1.4 million which is tax
deductible on cash basis.
6. Trade receivables are stated net of general allowances for bad debts at the rate of 5% of the gross
receivables. The general allowance is not tax deductible until it becomes specicific.
7. The building which included property, plant and equipment was revalued during the year. The
increase in value of sh. 3 million does not affect the tax base.
8. The tax base of other items is equal to their carrying amount.
9. The tax rate applicable is 30 %.
Required;
(i)Deferred tax balance as at 30 April 2017
(ii)Deferred income tax account as at 30 April 2017.

Answer
Munro Group
Deferred Tax computation
As at 31.5.2010

Page 44
Assets/Liabilities Carrying Tax base Temporary
Amount difference
Property plant and equipment 14,000 2,800 11,200
Intangible asset 4,000 0 4,000
Goodwill 6,000 0 0
Financial assets 12,000 14,000 (2,000)
Inventory 7,500 11,000 (3,500)
Receivables 6,650 7,000 (350)
Prepayments 3,200 1,500 1,700
Cash and cash equivalent 1,250 1,250 0
Interest-bearing loans 16,000 17,000 (1000)
Trade and other payables (8,000) (6,600) (1,400)
Employee benefits 2,000 0 0
8,650

Deferred income Tax liability = 8,650 ×30% = 2,595

Workings
W1
Goodwill- exempt for tax base and temporary differences

W2
Receivables=6,650=95%
? =100%
W3
Trade and other payable
8,000-1,400=6,600

Deferred Income tax account

Sh. Sh.
Balance b/d 1,200
Deferred tax due to revaluation
(300×30%) 900
Balance c/d 2,595 Income statement(balance f/g) 495
2,595 2,595

Illustration
Maji Limited had a deferred tax liability of Sh. 105 million as at 1 June 2010. During the year ended
31 May 2011, the company had the following items with regard to estimating deferred tax:
1. The carrying amount of property, plant and equipment as at 31 May 2011 was Sh.980 million.
This included some buildings which were revalued upwards by Sh. 50 million at 31 May 2010
which had a remaining useful life of 10 years at that date. The company's accounting policy is to
treat revaluation surpluses as realised on disposal of the revalued assets. The tax base of property,
plant and equipment as at 31 May 2011 was Sh 640 million.

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2. Deferred development expenditure amounted to Sh.45 million at year end (Sh.40 million as at 31
May 2010). Sh.10 million of additional development expenditure was incurred during the year
and the remaining difference between 2010 and 2011 figures relates to development expenditure
amortised for products that have started being commercially produced. All development
expenditure is allowed for tax purposes.
3. Included in current assets is an amount of Sh.40 million due in respect of some patent royalties on
one of the company's older products which is now being produced by other companies. Patent
royalties are taxed only when received.
4. The company’s tax rate proposals.
Required:
The deferred tax balance as at 31 May 2011 and the relevant journal entry.

Answer

Asset Carrying Tax Base Temporary Difference

amount Sh. “m” Sh. “m”
Sh. “m”
Property, plant and equipment 980 640 340 TTD
Deferred 45 - 45 TTD
Development expenditure 40 - 40 TTD
Patents 425

Sh. “m”
Balance c/d on deferred tax (30%×425) 127.5
Less: Deferred tax balance b/f (1 June 2010) (105)
Increase in deferred tax 22.5

Journal entry:
Sh. “m” Sh. “m”
Dr. Income statement 22.5M
CR deferred tax account 21
CR Revaluation reserve (5 x 30%) 1.5

50
NB: Annual depreciation charge on revalued amount = 10 = 5

Illustration
The following incomplete balance sheet relate to Concorde Ltd for the years ended 31 December
2007:
Balance sheet as at 31 December:
2006 2007
Shs ‘m’ Shs ‘m’
Assets
Non-current assets
Plant and equipment 100 250
Accumulated depreciation (40) (90)
Net book value 60 160
Current assets
Accounts receivable 40 37

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 Deferred tax asset 0 ?
Other assets 70 80
Total current assets 110 ?
Total assets 170 ?
Equity and liabilities
Share capital and reserves
Ordinary share capital 90 90
Retained earnings 30 ?
Equity 120 ?
Liabilities
Deferred tax liability 4 ?
Pension provision 0 2.5
Current tax payable 16 ?
Other liabilities 30 99.5
Total liabilities 50 ?
Total equity and liabilities 170 ?

Additional information:
1. The company reported an accounting profit before tax of sh.60 million for the year ended 31
December 2007. This profit was arrived at as shown below:

Shs ‘million’
Sales 300
Cost of sales(including depreciation shs.50 million) (160)
Gross profit 140
Selling and distribution expenses (80)
Profit before tax 60

2. The company declared a dividend of sh.10 million for the year ended 31 December 2007.
3. Depreciation on plant and equipment is provided at the rate of 20% on straight-line basis. Plant
and equipment qualify for capital allowances at the rate of 25% of cost on straight –line basis.
4. Accumulated tax depreciation as at 31 December 2006 was sh.50 million. On 1 February 2007,
the company purchased additional costing sh.150 million. The company’s policy is to charge a
full year’s depreciation in the year of purchase and none in the year of disposal.
5. Included in selling and distribution expenses is sh.5 million representing an expense which was
disallowed by the tax authorities.
6. The company charged the income statement with sh.14 million representing pension costs for the
year ended 31 December 2007. Sh.11.5 million of this amount was allowed for tax purposes.
7. The company made a general provision for bad debts of sh.3 million for the year ended 31
December 2007. There were no bad debts written off during the year.
8. On 31 July 2007, the company made a tax payment of sh.15 million.
9. Corporation rate of tax is 30%.
10. The company separately accounts for deductible and taxable temporary differences.
Required:
(i)Determine the charge in the income statement for current tax and deferred tax expenses.
(ii)Prepare the income statement showing the retained profit balance.
(iii)Prepare the complete balance sheet.

Answer

Page 47
 (i)Determination of current tax
Details Shs millions’
Accounting profit 60
Add. Depreciation charge 50
Add. Provision for bad debts 3
Add. Provision for pensions 2.5
Add. Selling and distribution 5
120.5
Less. Capital allowance (62.5)
Taxable profit 58.0
Current tax rate 30%×58 17.4

Determination of wear and tear Allowance on plant and equipment for year ended 31/12/2007
= 25%×250 million= 62.50m

Determination of the tax base for plant and equipment

250-(50+25%×250) =137.5m

Determination of the temporary difference

Details Carrying amount Tax base Temporary
Sh.m difference
Sh.m Sh.m
Plant and equipment 160 137.5 22.5 Taxable
Account receivable 37 40 (3) Deductible
Pension provision (2.5) 0 (2.5) Deductible

Deferred tax liability account

Details Amount Details Amount
Sh.m Sh.m
Balance b/d 4
Balance c/d 6.75 Income statement 2.75
6.75 6.75

Deferred tax asset account

Details Sh. ‘m’ Details Sh. ‘m’
Balance b/d 0
Income statement (balancing figure) 1.65 Balance c/d (30%× 5.5) 1.65
1.65 1.65

(ii) The income statement

Profit and loss account
Details Shs ‘m’
Profit before tax 60
Less current tax (17.4)
Deferred tax(2.75-1.65) (1.1)

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 41.5
Less dividends (10)
Retained profit for the year 31.5
Add retained profit b/d 30
Retained profit c/d 61.5

Current tax account

Details Sh.‘m’ Details Sh.‘m’
Bank 15 Balance 16
Balance c/d 18.4 Income account 17.4
33.4 33.4

(iii) The complete balance sheet.

Statement of Financial position
Details Amount
sh.m
Non-current assets
Plant and equipment 250
Less. Depreciation (90)
160
Current assets
Accounts receivable 37
Deferred tax asset 1.65
Other assets 80
278.65
Equity and liabilities
Ordinary share capital 90
Retained profit 61.5
Non-current liabilities
Deferred tax liability 6.75
Current liabilities
Pension 2.5
Current tax 18.4
Other liabilities 99.5
278.65

SHARE BASED PAYMENT TRANSACTIONS (IFRS 2)

A shared based payment transaction refers to a transaction in which an entity receives goods and
services and pays for those goods and services by issuing its equity instrument or pays the cash but
the amount to be paid is based on the entity’s share prices.

Terminologies
1) Grant date – refers to the date when the entity and the counter party entered into a shared based
payment arrangement.

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2) Vesting conditions – refers to the conditions that must be satisfied for the counter party to
become entitled to receive cash or other equity instruments.

There are 2 types of vesting conditions

1. Performance conditions – Are conditions which requires the counter party to achieve a certain
performance level in order to become entitled to the equity instruments of the company e.g. an
employee may be required to achieve a certain profitability level in order to receive the shares of
the company.
2. Service condition – Is where an employee is required to provide services to the company for a
specified period of time in order to receive equity instruments.
3) Vesting date – Is the date when the counter party becomes entitled to the equity instruments.
4) Vesting period – refers to the period between the grant date and the vesting date.
5) Fair value – refers to the amount at which an asset would be exchanged or a liability settled
between knowledgeable willing parties in an aims length transaction.

IFRS 2
IFRS 2 Share-based Payment requires an entity to recognise share-based payment transactions (such
as granted shares, share options, or share appreciation rights) in its financial statements, including
transactions with employees or other parties to be settled in cash, other assets, or equity instruments of
the entity. Specific requirements are included for equity-settled and cash-settled share-based payment
transactions, as well as those where the entity or supplier has a choice of cash or equity instruments.
Definition of share-based payment
A share-based payment is a transaction in which the entity receives goods or services either as
consideration for its equity instruments or by incurring liabilities for amounts based on the price of the
entity's shares or other equity instruments of the entity. The accounting requirements for the share-
based payment depend on how the transaction will be settled, that is, by the issuance of (a) equity, (b)
cash, or (c) equity or cash.

Scope
The concept of share-based payments is broader than employee share options. IFRS 2 encompasses
the issuance of shares, or rights to shares, in return for services and goods. Examples of items
included in the scope of IFRS 2 are share appreciation rights, employee share purchase plans,
employee share ownership plans, share option plans and plans where the issuance of shares (or rights
to shares) may depend on market or non-market related conditions.

Recognition and measurement

The issuance of shares or rights to shares requires an increase in a component of equity. IFRS 2
requires the offsetting debit entry to be expensed when the payment for goods or services does not
represent an asset. The expense should be recognised as the goods or services are consumed. For
example, the issuance of shares or rights to shares to purchase inventory would be presented as an
increase in inventory and would be expensed only once the inventory is sold or impaired.

The issuance of fully vested shares, or rights to shares, is presumed to relate to past service, requiring
the full amount of the grant-date fair value to be expensed immediately. The issuance of shares to
employees with, say, a three-year vesting period is considered to relate to services over the vesting
period. Therefore, the fair value of the share-based payment, determined at the grant date, should be
expensed over the vesting period.

As a general principle, the total expense related to equity-settled share-based payments will equal the
multiple of the total instruments that vest and the grant-date fair value of those instruments. In short,

Page 50
 there is truing up to reflect what happens during the vesting period. However, if the equity-settled
share-based payment has a market related performance condition, the expense would still be
recognised if all other vesting conditions are met. The following example provides an illustration of a
typical equity-settled share-based payment.

Illustration
Recognition of employee share option grant
Company grants a total of 100 share options to 10 members of its executive management team (10
options each) on 1 January 2015. These options vest at the end of a three-year period. The company
has determined that each option has a fair value at the date of grant equal to 15. The company expects
that all 100 options will vest and therefore records the following entry at 30 June 2015 - the end of its
first six-month interim reporting period.

Dr. Share option expense 250

Cr. Equity 250

[(100 × 15) ÷ 6 periods] = 250 per period

If all 100 shares vest, the above entry would be made at the end of each 6-month reporting period.
However, if one member of the executive management team leaves during the second half of 2016,
therefore forfeiting the entire amount of 10 options, the following entry at 31 December 2016 would
be made:

Dr. Share option expense 150

Cr. Equity 150
[(90 × 15) ÷ 6 periods = 225 per period. [225 × 4] – [250+250+250] = 150

Measurement guidance
Depending on the type of share-based payment, fair value may be determined by the value of the
shares or rights to shares given up, or by the value of the goods or services received:
- General fair value measurement principle. In principle, transactions in which goods or services
are received as consideration for equity instruments of the entity should be measured at the fair
value of the goods or services received. Only if the fair value of the goods or services cannot be
measured reliably would the fair value of the equity instruments granted be used.
- Measuring employee share options. For transactions with employees and others providing
similar services, the entity is required to measure the fair value of the equity instruments granted,
because it is typically not possible to estimate reliably the fair value of employee services
received.
- When to measure fair value - options. For transactions measured at the fair value of the equity
instruments granted (such as transactions with employees), fair value should be estimated at grant
date.
- When to measure fair value - goods and services. For transactions measured at the fair value of
the goods or services received, fair value should be estimated at the date of receipt of those goods
or services.

Disclosure
Required disclosures include:
- the nature and extent of share-based payment arrangements that existed during the period
- how the fair value of the goods or services received, or the fair value of the equity instruments
granted, during the period was determined

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- The effect of share-based payment transactions on the entity's profit or loss for the period and on its
financial position.

Accounting treatment for equity settled share based payments

As per IFRS2 shared based payment transaction should be recognized immediately as an expense
from the grant date throughout the vesting period.
The basic rule for shared based payment transaction is that an entity should measure the cost of
services/goods received at their fair value. The equity should be valued at their fair value throughout
the vesting period irrespective of the changes in the share prices.

Illustration
A Ltd awards 1000 share options to its sales team at the end of the year. The shares have a nominal
value of sh.10 each and a market value of sh.50 each.
Required;-
Show the relevant journal entries to record the above transactions:

Answer
Journal entries
Dr. Cr
Sh. Sh.
Wages and salaries account (1,000 × 50) 50,000
Ordinary share capital account (1,000 ×10) 10,000
Share premium account (1,000 ×40) 40,000
To record issue of shares to the sales team

Illustration
On 1st January 2015 an entity grants 100 share options to each of its 400 employees. Cash grant is
conditional upon the employee working for the entity until 31/12/2017. During the 3 year period 20%
of the employees leave and entity estimates that no further employees will leave in the 3 year period.
The fair value of the shares as at 1 January 2015 was sh.20.
Required;-
Show how the entity should account for the above transaction during the 3 year period.

Answer
HINT
Equity method fair value during the grant period will prevail i.e. sh. 20

Accumulated Expenses for the year

Year expense(liability)(SOFP) (Income statement)
2015
(400×100×20×80%×1/3) 213,333 213,333
2016
(400×100×20×80%×2/3) 426,667 213,334
2017
(400×100×20×80%×3/3) 640,000 213,333

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Illustration
Bora Ltd. has decided to grant its 400 employees 100 options each to purchase shares from 1
November 2013 which are conditional upon one still being in employment as at 31 October 2016.
The company has provided the following details regarding the scheme:

Year ended Number of employees expected Fair value of each option

to leave employment Sh.
31 October 2014 25 20
31 October 2015 15 16
31 October 2016 15 15

The fair value of the option will be Sh.20 as at 1 November 2013. The exercise price of the option
will be Sh. 10 and the par value of the company's share is Sh.5. The average market price of the share
over the three years to 3 1 October 2016 is expected to be Sh.25.
Required:
Show how the company should report the transactions on the scheme as per the requirements of IFRS
2 (Share Based Payments) over the three years.
(Assume that all the employees eligible will exercise their rights on 31 October 2016).

Answer

Year Accumulated expense Expenses for the year

(liability) Income statement
(Statement of financial
position)
Sh. Sh.
2014
{(400 – 25) ×100×20 ×1/3} 250,000 250,000
2015
{(375 – 15)×100×Sh20×2/3)} 480,000 230,000
2016
{(360 – 15)×100×sh20 ×3/3)} 690,000 210,000

Journal Entries
Dr. Cr.
Sh. Sh.
Cash book (345×100×sh. 10) 345,000
Equity (shares)(345×10 ×sh5) 172,500
Share premium (345×100 × sh5) 172,500

Illustration

Page 53
ABC Ltd has granted 100 share options to each of its 500 employees. Each grant is conditional upon
the employee working for the company over the next three years. The company estimates that the fair
value of each share option is Sh. 15.
The company also estimates that 20% of the employees will leave during the three-year period,
therefore, forfeit their rights to the share options.
Required;-
Determine how ABC Ltd would account for the share options in each of the three years in accordance
with the requirements of IFRS 2 (Share-based Payment)

Answer

Year Accumulated expense Expenses for the year

(liability) SFOP Income statement

1
(500×100 ×15 × 80% ×1/3) 200,000 200,000
2
(500×100×15×80% ×2/3) 400,000 200,000
3
(500 × 100 × 15 × 80% × 3/3) 600,000 400,000

Accounting for cash settled share based payments

Cash settled shares based transaction occurs when goods or services are paid for at amount that are
based on the price of the company’s instruments.
The expense for cash settled transactions is usually paid in cash by the company.
In cash settled the equity prices will change depending with the market fluctuation and therefore
valuation of equity instruments will be based on the share prices for each respective year.

Illustration
A company has granted 10,000 cash-settled awards to each of its 500 employees on condition that the
employees remain in its employment for the next three years. Cash is payable at the end of the three
years based on the share price of the company's shares on such a date.35 employees leave during year
1. The company estimates that 60 additional employees will leave during years 2 and 3. The share
price at the end of year 1 is Sh.14.40. 40 employees leave during year 2. The company estimates that
25 additional employees will leave during year 3. The share price at the end of year 2 is Sh. 15.50.
22 employees leave during year 3. The share price at the end of year 3 is Sh. 18.20
Required:
Computations to show how the company would recognise the above awards.

Answer

Year Cumulated expense Expense for the year

(liability) To the income statement
Year 1
(500 – 35 – 60) ×10,000×14.4)1/3 19,440,000 19,440,000
Year 2
(500 – 35 – 40 – 25)×10,000×15.5) 2/3 41,333,333 21,893,333

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Year 3
(500 – 35 – 40 – 22)×10,000×18.2) 3/3 73,346,000 32,012,667

Illustration
On 1st January 2011 P Ltd grants 100 cash settled shared appreciation right to the 500 employees. The
grant is conditional upon the employee working for the next 3 years to 31st December 2014.

Additional information;-
1. By the end of 2011, 80% of the employees are expected to stay for the 3 years and collect their
rights. Over the 3 years the company share prices increased by sh.9.
2. On 31/Dec/2012 405 employees are expected to stay until the rights vest. The fair value of the
right is now sh.11
Required:
Calculate the remuneration expense and the liability as at 31st December 2011 and 31st December
2012.
Answer
Year Cumulated expense Expense for the year (income
(liability) statement)
Sh. Sh.
2011
(500×100×80%×sh. 9)×1/3 120,000 120,000
2012
(405×100×Sh.11) 2/3 297,000 177,000

EMPLOYEE BENEFITS WITH EMPHASIS ON POST EMPLOYMENT

IAS 19 prescribes the accounting for all types of employee benefits except share-based payment, to
which IFRS 2 applies. Employee benefits are all forms of consideration given by an entity in
exchange for service rendered by employees or for the termination of employment. IAS 19 requires an
entity to recognise:
 A liability when an employee has provided service in exchange for employee benefits to be paid
in the future; and
 An expense when the entity consumes the economic benefit arising from the service provided by
an employee in exchange for employee benefits.

Short-term employee benefits (to be settled within 12 months, other than termination benefits)
These are recognised when the employee has rendered the service and are measured at the
undiscounted amount of benefits expected to be paid in exchange for that service.

Post-employment benefits (other than termination benefits and short-term employee benefits)
that are payable after the completion of employment
Plans providing these benefits are classified as either defined contribution plans or defined benefit
plans, depending on the economic substance of the plan as derived from its principal terms and
conditions:
 A defined contribution plan is a post-employment benefit plan under which an entity pays fixed
contributions into a separate entity (a fund) and will have no legal or constructive obligation to
pay further contributions if the fund does not hold sufficient assets to pay all employee benefits
relating to employee service in the current and prior periods. Under IAS 19, when an employee
has rendered service to an entity during a period, the entity recognizes the contribution payable to

Page 55
 a defined contribution plan in exchange for that service as a liability (accrued expense) and as an
expense, unless another Standard requires or permits the inclusion of the contribution in the cost
of an asset.
 A defined benefit plan is any post-employment benefit plan other than a defined contribution
plan. Under IAS 19, an entity uses an actuarial technique (the projected unit credit method) to
estimate the ultimate cost to the entity of the benefits that employees have earned in return for
their service in the current and prior periods; discounts that benefit in order to determine the
present value of the defined benefit obligation and the current service cost; deducts the fair value
of any plan assets from the present value of the defined benefit obligation; determines the amount
of the deficit or surplus; and determines the amount to be recognised in profit and loss and other
comprehensive income in the current period. Those measurements are updated each period.

Other long-term benefits

These are all employee benefits other than short-term employee benefits, post-employment benefits
and termination benefits. Measurement is similar to defined benefit plans.

Termination benefits
Termination benefits are employee benefits provided in exchange for the termination of an
employee’s employment. An entity recognizes a liability and expense for termination benefits at the
earlier of the following dates:
 When the entity can no longer withdraw the offer of those benefits; and
 When the entity recognizes costs for a restructuring that is within the scope of IAS 37 and
involves the payment of termination benefits.

Scope
IAS 19 applies to (among other kinds of employee benefits):
- wages and salaries
- compensated absences (paid vacation and sick leave)
- profit sharing and bonuses
- medical and life insurance benefits during employment non-monetary benefits such as houses,
cars, and free or subsidized goods or services
- Retirement benefits, including pensions and lump sum payments
- post-employment medical and life insurance benefits
- long-service or sabbatical leave
- 'jubilee' benefits
- Deferred compensation programmes
- Termination benefits.

IAS 19 (2011) does not apply to employee benefits within the scope of IFRS 2 Share-based Payment
or the reporting by employee benefit plans.

Short-term employee benefits

Short-term employee benefits are those expected to be settled wholly before twelve months after the
end of the annual reporting period during which employee services are rendered, but do not include
termination benefits. Examples include wages, salaries, profit-sharing and bonuses and non-monetary
benefits paid to current employees.

Page 56
 The undiscounted amount of the benefits expected to be paid in respect of service rendered by
employees in an accounting period is recognised in that period. The expected cost of short-term
compensated absences is recognised as the employees render service that increases their entitlement
or, in the case of non-accumulating absences, when the absences occur, and includes any additional
amounts an entity expects to pay as a result of unused entitlements at the end of the period.

Profit-sharing and bonus payments

An entity recognizes the expected cost of profit-sharing and bonus payments when, and only when, it
has a legal or constructive obligation to make such payments as a result of past events and a reliable
estimate of the expected obligation can be made.

Types of post-employment benefit plans

Post-employment benefit plans are informal or formal arrangements where an entity provides post-
employment benefits to one or more employees, e.g. retirement benefits (pensions or lump sum
payments), life insurance and medical care.

The accounting treatment for a post-employment benefit plan depends on the economic substance of
the plan and results in the plan being classified as either a defined contribution plan or a defined
benefit plan:

1. Defined contribution plans

Under a defined contribution plan, the entity pays fixed contributions into a fund but has no legal or
constructive obligation to make further payments if the fund does not have sufficient assets to pay all
of the employees' entitlements to post-employment benefits. The entity's obligation is therefore
effectively limited to the amount it agrees to contribute to the fund and effectively place actuarial and
investment risk on the employee

2. Defined benefit plans

These are post-employment benefit plans other than a defined contribution plans. These plans create
an obligation on the entity to provide agreed benefits to current and past employees and effectively
places actuarial and investment risk on the entity.

Defined contribution plans

For defined contribution plans, the amount recognised in the period is the contribution payable in
exchange for service rendered by employees during the period.

Contributions to a defined contribution plan which are not expected to be wholly settled within 12
months after the end of the annual reporting period in which the employee renders the related service
are discounted to their present value.

Actuarial assumptions used in measurement

The overall actuarial assumptions used must be unbiased and mutually compatible, and represent the
best estimate of the variables determining the ultimate post-employment benefit cost.

- Financial assumptions must be based on market expectations at the end of the reporting period.
- Mortality assumptions are determined by reference to the best estimate of the mortality of plan
members during and after employment.

Page 57
- The discount rate used is determined by reference to market yields at the end of the reporting period
on high quality corporate bonds, or where there is no deep market in such bonds, by reference to
market yields on government bonds. Currencies and terms of bond yields used must be consistent
with the currency and estimated term of the obligation being discounted.
- Assumptions about expected salaries and benefits reflect the terms of the plan, future salary increases,
any limits on the employer's share of cost, contributions from employees or third parties, and
estimated future changes in state benefits that impact benefits payable.
- Medical cost assumptions incorporate future changes resulting from inflation and specific changes in
medical costs. Updated actuarial assumptions must be used to determine the current service cost and
net interest for the remainder of the annual reporting period after a plan amendment, curtailment or
settlement when an entity remeasures its net defined benefit liability (asset).

Past service costs

Past service cost is the term used to describe the change in a defined benefit obligation for employee
service in prior periods, arising as a result of changes to plan arrangements in the current period (i.e.
plan amendments introducing or changing benefits payable, or curtailments which significantly
reduce the number of covered employees).

Past service cost may be either positive (where benefits are introduced or improved) or negative
(where existing benefits are reduced). Past service cost is recognised as an expense at the earlier of the
date when a plan amendment or curtailment occurs and the date when an entity recognizes any
termination benefits, or related restructuring costs under IAS 37 Provisions, Contingent Liabilities and
Contingent Assets.

Gains or losses on the settlement of a defined benefit plan are recognised when the settlement occurs.

Before past service costs are determined, or a gain or loss on settlement is recognised, the net defined
benefit liability or asset is required to be re-measured, however an entity is not required to distinguish
between past service costs resulting from curtailments and gains and losses on settlement where these
transactions occur together.

Recognition of defined benefit costs

The components of defined benefit cost are recognised as follows:

Component Recognition
Service cost attributable to the current and past periods Profit or loss
Net interest on the net defined benefit liability or asset, determined using the discount Profit or loss
rate at the beginning of the period
Re-measurements of the net defined benefit liability or asset, comprising: Other
- actuarial gains and losses comprehensive
- return on plan assets income.
- some changes in the effect of the asset ceiling

Disclosures about defined benefit plans

IAS 19 sets the following disclosure objectives in relation to defined benefit plans:
- an explanation of the characteristics of an entity's defined benefit plans, and the associated risks
- identification and explanation of the amounts arising in the financial statements from defined benefit
plans

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- a description of how defined benefit plans may affect the amount, timing and uncertainty of the
entity's future cash flows.

Extensive specific disclosures in relation to meeting each the above objectives are specified, e.g. a
reconciliation from the opening balance to the closing balance of the net defined benefit liability or
asset, disaggregation of the fair value of plan assets into classes, and sensitivity analysis of each
significant actuarial assumption.

Additional disclosures are required in relation to multi-employer plans and defined benefit plans
sharing risk between entities under common control.

Other long-term benefits

IAS 19 prescribes a modified application of the post-employment benefit model described above for
other long-term employee benefits:
- The recognition and measurement of a surplus or deficit in another long-term employee benefit plan is
consistent with the requirements outlined above
- Service cost, net interest and re-measurements are all recognised in profit or loss (unless recognised in
the cost of an asset under another IFRS), i.e. when compared to accounting for defined benefit plans,
the effects of re-measurements are not recognised in other comprehensive income.

Termination benefits
A termination benefit liability is recognised at the earlier of the following dates:
- when the entity can no longer withdraw the offer of those benefits - additional guidance is provided
on when this date occurs in relation to an employee's decision to accept an offer of benefits on
termination, and as a result of an entity's decision to terminate an employee's employment
- When the entity recognizes costs for a restructuring under IAS 37 Provisions, Contingent Liabilities
and Contingent Assets which involves the payment of termination benefits.

Termination benefits are measured in accordance with the nature of employee benefit, i.e. as an
enhancement of other post-employment benefits, or otherwise as a short-term employee benefit or
other long-term employee benefit.

POST-EMPLOYMENT BENEFITS COMPUTATIONS

IAS19/26 requires that the pension scheme should review the employees account on annual basis in
order to determine whether there is actuarial gain/loss at the end of each year.

Actuarial gain arises if the actual outcome in the scheme is greater than the actuaries expected value
vice versa applies to actuarial losses.

The actuarial gain/loss should be reported directly in the income statement.

Actuarial gain/loss is determined using the following procedures;

STEP 1
Determine actuarial gain/loss on plan assets
Sh.
Fair value of plan asset b/d xxx
Add: Expected returns xxx
Add: Annual contribution xxx
Less: benefits paid (xxx)

Page 59
Actuaries expected value xxx(A)
Actuarial: gain/loss xxx
Fair value of plan Asset c/d (xxx) Bal fig
(Actual outcome) xxx (B)

N.B: Actuarial gain arises if B > A

Actuarial loss arises if B < A

STEP 2

Determine Actual gain/Loss on plan obligation

Sh.
Present value of plan obligation b/d xxx
Add: Interest expense xxx
Add: Current service cost xxx
Add: past service cost xxx
Less: Benefits paid (xxx)
Actuaries expected value xxx(A)
Actuarial gain/loss xxx Bal fig
PV of plan obligation c/d xxx (B)

NB: Actuarial gain arises if A > B

Actuarial loss arises if A < B

STEP 3
Determine the net Actuarial gain/loss to income statement
Actuarial gain/loss on plan Assets xx
Less Actuarial gain/loss on plan obligation xx
xxx

Illustration
Zedkey Ltd. operates a defined benefit pension plan the following financial data relates to the scheme
for the past three years ended 30 April 2012:

Year ended 30 April 2010 2011 2012

Discount rate at beginning of year 10% 9% 8%
Expected rate of return on plan assets 12% 11% 10%

Sh. Sh. Sh. "million"

"million" "million"
Current service cost 130 140 150
Benefits paid 150 180 190
Contribution paid 90 100 110
Present value of obligations at 30 April 1,100 1,380 1,408
Fair value of plan assets at 30 April 1,190 1,372 1,188

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The present value of obligations and the fair value of plan assets were both Sh. 1,000 million at 1 May
2009. The company reports all actuarial gains and losses arising in a year directly in the retained
profits.
Required:
i) The actuarial gains (or losses) for each of the years ended 30 April 2010, 2011 and 2012.
ii) The income statement showing the expense for each of the years ended 30 April 2010, 2011 and
2012.
iii) The asset (or liability) to be reported in the statements of financial position as at 30 April 2010,
2011 and 2012.

Answer
(i)The actuarial gains (or losses)
Zedkey Ltd
Actuarial gain/loss on plan Assets
For the years ended 30 April
2010 2011 2012
Sh. ‘million’ Sh. ‘million’ Sh. ‘million’
Fair value of plan Assets b/d 1000 1190 1372
Add expected return 120 131 137
Add contribution 90 100 110
Less benefits paid (150) (180) (190)
Actuaries expected value 1,060 1,241 1,429
Actuarial : Gain 130 131 -
Loss - - (241)
Fair value of plan Asset c/d 1,190 1,372 1,188
(Actual outcome)

Zedkey Ltd
Actuarial gain/loss on plan Obligations
For the years ended 30 April
2010 2011 2012
Sh. ‘million’ Sh. ‘million’ Sh. ‘million’
Fair value of plan obligation b/d 1,000 1,100 1,380
Add expected 100 99 110
Current service cost 130 140 150
Benefits paid (150) (180) (190)
Actuaries expected value 1,080 1,159 1,450
Actuarial : Gain - - (42)
Loss 20 221 -
Present value plan obligation c/d 1100 1380 1408

(ii)The income statement showing the expense

Net Actuarial gain/loss to income statement
2010 2011 2012
Sh. ‘million’ Sh. ‘million’ Sh. ‘million’
Actuarial gain/loss on Assets 130 131 (241)
Actuarial gain/loss on obligation (20) (221) 42
Net Actuarial gain/loss 110 (90) (199)

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 Zedkey Ltd
Income statement (Extract)
For the years ended 30 April 2010, 2011, 2012
2010 2011 2012
Sh. ‘million’ Sh. ‘million’ Sh. ‘million’
Interest expense 100 99 110
Current service cost 130 140 150
Actuarial gain/loss (110) 90 199
Expected return (income) (120) (131) (137)
Net pension expense 0 198 322

(iii)The asset (or liability) to be reported in the statements of financial position

Zedkey Ltd
Statement of financial position (Extract)
For the years ended 30 April 2010, 2011, 2012
2010 2011 2012
Sh. ‘million’ Sh. ‘million’ Sh. ‘million’
Fair value of plan asset c/d 1,190 1,372 1188
Present value of plan liabilities c/d (1,100) (1,380) (1408)
Net pension Asset/liabilities 90 (8) (220)

AB Ltd
Actuarial gain/loss on plan Assets
For the years ended 30 April
2010 2011 2012
Sh. ‘million’ Sh. ‘million’ Sh. ‘million’
FV/market value of plan Asset b/d 1100 1400 1000
B Add expected return 110 119 95
Add contribution 110 120 125
Less benefits paid (120) (140) (150)
Actuaries expected value 1200 1499 1070
Actuarial : Gain 200 530
Loss - (499) -
Mrk value/FV of plan asset at year end 1400 1000 1600

THE CORRIDOR LIMITS

If an entity recognizes the full actuarial gain or loss in its income statement it may lead to large
variation in the reported profit of the entity from one year to another.
IAS19 allows the use of materiality test called the corridor approach to decide how much of the
actuarial difference should be recognized in the income statement for the year.

The corridor is the higher of;

i. 10% of the fair value of the plan asset at the beginning of the year or
ii. 10% of the present value of plan obligation at the beginning of the year i.e.
.

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 The corridor limit = 10% FV of plan Asset b/d
Or Use the higher
10% PV of plan obligation b/d

Under the corridor approach the only actuarial difference that is to be taken to the income statement is
that part of the difference that falls outside the corridor.
If the net differences do not exceed the corridor then no amount should be recognized in the income
statement.
The excess actuarial difference that falls outside the corridor should be recognized in the income
statement over the average remaining service life of the employee.

Illustration
The following information relates to Uzee pension scheme, post-employment defined benefit
compensation scheme.
All transaction occur at the end of financial year
Expected return on plan assets:12% (each year)
Discount rate:10% (each year)
Present value of plan obligations as at 1st January 2016: sh. 1,000,000
Fair value of plan assets as at 1st January 2016:sh. 1,000,000
Unrealized actuarial gains as at 1st January 2016:sh.110,000
The following figures are relevant:

2016 2017 2018

Sh.000 Sh.000 Sh.000
Current service cost 140 150 150
Benefit paid out 120 140 150
Contributions paid by the entity 110 120 120
Present of obligation at year end 1,200 1,600 1,700
Market value of plan asset at the year end 1,250 1,450 1,610

Required:
(i)Income statement extract for the year ended 31st December 2016, 2017 and 2018
(ii)Statement of financial position extract as at 31st December 2016, 2017 and 2018
{The above financial statement should be in conformity with IAS 19 (employee benefits) actuarial
gain or losses outside the 10% corridor are to be recognized in full in the income statement}

Answer
Workings
W1
Actuarial gain/loss on plan Assets
2016 2017 2018
Sh.000 Sh.000 Sh.000

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Fair value of plan Assets b/d 1,000 1,250 1,450
Expected return (12% of the fair value) 120 150 174
Contribution 110 120 120
Benefits paid (120) (140) (150)
Actuaries expected value 1,110 1,380 1,594
Actuarial gain: 140 70 16
Loss: - - --
Value at the end (plan assets) 1,250 1,450 1,610

W2
Actuarial gain/loss on obligations
2016 2017 2018
Sh.000 Sh.000 Sh.000
Present value of plan obligations b/d 1,000 1,200 1,600
Interest expected (10%) 100 120 160
Current service cost 140 150 150
Benefits paid out (120) (140) (150)
Actuary’s expected value 1,120 1,330 1,760
Actuarial Gain: - - (60)
Loss: 80 270 -
PV of plan obligation c/d 1200 1600 1700

W3
Net Actuarial gain/loss
2016 2017 2018
Sh.000 Sh.000 Sh.000
Actual gain/loss on plan asset 140 70 16
Actuarial gain/loss on plan obligation (80) (270) 60
Net actuarial gain or loss 60 (200) 76

W4
Corridor Limit
2016 2017 2018
Sh.000 Sh.000 Sh.000
10% FV of plan Asset (b/d) 100 125 145
H
10% PV of plan obligation (b/d) 100 120 160
100 125 160

W5
Actuarial gain/loss to be transferred to P & L (check working 6)

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 2016 2017 2018
Sh.000 Sh.000 Sh.000
Unrecognized gain b/d 110 160 (75)
Corridor limits 100 125 160
10 35 NIL

W6
Unrecognized gains
2016 2017 2018
Sh.000 Sh.000 Sh.000
Unrecognized gain b/d 110 160 (75)
Net actuarial gain/loss for the bear 60 (200) 76
Less transfer to P & L 170 (40) 1
Unrecognized gain c/d (10) (35) 0
160 (75) 1

(i)Income statement extracts

Uzee pension scheme
Income statement (Extract)
For the year ended 31.12……
2016 2017 2018
Sh.’000’ Sh.’000’ Sh.’000’
Interest expense 100 120 160
Current service cost 140 150 150
Actuarial gain/loss (10) (35) 0
Expected return (120) (150) (174)
110 85 136

(ii)Statement of financial position

Uzee pension scheme

Statement of financial position (extract)
For the year ended 31.12.2016, 2017, 2018
2016 2017 2018
Sh.’000’ Sh.’000’ Sh.’000’
Fair value of plan Assets (c/d) 1250 1450 1610
Present value of plan obligation (c/d) (1,200) (1,600) (1,700)
50 (150) (90)
Add: unrecognized gains c/d 160 (75) 1
Net pension Assets/Liabilities 210 (225) (89)

Illustration
The following relates to Wastaafu Retirement Benefits Scheme, a defined benefit plan, for the years
ended 31 December 2015, 2016, and 2017:

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Details 2015 2016 2017
Discount rate on January 10% 9% 8%
Expected rate of return on plan assets on January 12% 11.1% 10.3%
Current service cost (sh. Million) 130 220 150
Benefits paid (shs. Million) 150 180 190
Contributions to the scheme (sh. Million) 90 100 110
Present value of plan obligations as at 31 December (sh. Million)
Average remaining service life of employees in the scheme( years) 1141 1197 1295
Fair value of plan assets as at 31 December (sh. Million)
10 10 10
1,092 1,109 1,093

Additional information:
1. As at 1 January 2015, the present value of plan obligations and fair value of plan assets were both
sh. 1,000 million.
2. Net cumulative unrecognized actuarial gains as at 1 January 2015 were sh. 140 million.
3. Assume all transactions occurred at the year end.
Required:
i) Actuarial gains or losses on the present value of plan obligations.
ii) Actuarial gains or losses on fair value of plan assets.
iii) Net pension cost to be charged in the income statement.
iv) Scheme balances to be reflected in the balance sheet.

Answer
(i)Actuarial gain/loss on plan Assets
2015 2016 2017
Sh.m Sh.m Sh.m
FV of plan asset b/d 1,000 1,092 1,109
Expected return 12% 120 121 114
Contribution 90 100 110
Benefits paid (150) (180) (190)
Actuaries expected value 1,060 1,133 1,143
Actuarial gain: 32 - -
Loss: - (24) (50)
1,092 1,109 1,093
(ii)Actuarial gain or losses on the PV of plan obligation
2015 2016 2017
Sh.m Sh.m Sh.m
Present value of plan obligation b/d 1,000 1,141 1,197
Interest expense 100 103 96
Current service cost 130 220 150
Benefits paid out (150) (180) (190)
Actuaries expected value 1,080 1,284 1,253
Actuarial gain: - (87) -
Loss: 61 - 42
PV of plan obligation c/d 1141 1197 1295

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Net actuarial gain or loss
2015 2016 2017
Sh.m Sh.m Sh.m
Actuarial gain/loss on plan asset 32 (24) (50)
Actuarial gain/loss on plan obligation (61) 87 (42)
Net actuarial gain/loss (29) 63 (92)

Corridor limit
2015 2016 2017
Sh.m Sh.m Sh.m
10% FV of plan Asset (b/d) 100 109 110.9 H
10% PV of plan obligation (b/d) 100 114.1 119.7
100 114 120

(iii)Actuarial gain/loss to be transferred to income statement

2015 2016 2017
Sh.m Sh.m Sh.m
Unrecognized gain b/d 140 107 170
Corridor limits 100 114 120
40 NIL 50
40 50
10
=4m = 5m
10

Unrecognized gains
2015 2016 2017
Sh.m Sh.m Sh.m
Unrecognized gain b/d 140 107 170
Net actuarial gain/loss (29) 63 (92)
Less transfer to income statement 111 170 78
Unrecognized gain c/d (4) - (5)
107 170 73

Wastaafu retirement scheme

Income statement
For the year ended 31.12………
2015 2016 2017
Sh.m Sh.m Sh.m
Interest expenditure 100 103 96
Current service cost 130 220 150
Actuarial gain/loss (4) - (5)
Expected return (120) (121) (114)
106 202 127

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(iv)Scheme balances to be reflected in the balance sheet.

Wastaafu retirement scheme

Balance sheet 31.12………
2015 2016 2017
Sh.m Sh.m Sh.m
Fair value of asset c/d 1,092 1,109 1,093
Present value of plan obligation c/d (1,141) (1,197) (1,295)
(49) (88) (202)
Add: unrecognized gains c/d 107 170 73
58 82 (129)

SELF REVIEW QUESTIONS (ANSWERS TO AFTER THIS QUESTIONS)

QUESTION 1
With reference to International Financial reporting Standard (IFRS) 9 – Financial Instruments:
(i)Describe the provisions governing the initial measurement and subsequent measurement of
financial instruments.
(ii)Explain the requirements for derecognition of financial instruments.

QUESTION 2
a) Differentiate between “taxable temporary differences” and “deductible temporary differences”
b) Equip Agencies Ltd. purchased equipment for Sh.4, 000,000 on 1 July 2008 Depreciation on
equipment is provided on a straight line basis at the rate of 25% per annum.

During the four years from 1 July 2008 to 30 June 2012 the profit before tax and allowed wear
and tear charges for tax purpose were as follows:

Period Profit before tax Allowable wear and tear charges

Sh.
1 July 2008-30 June 2009 800,000 40% on cost
1 July 2009-30 June 2010 900,000 30% on cost
1 July 2010- 30 June 2011 950,000 20% on cost
1 July 2011-30 June 2012 850,000 10% on cost

Corporation tax rate is 30%

Required;-
i) Taxable profits
ii) Temporary differences
iii) Deferred tax account

QUESTION 3
(i)Explain the three main types of hedge as provided in IAS 39 (Financial Instruments: Recognition
and Measurement) and their accounting treatment.

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(ii)Biz Ltd. invested in the shares of ABC Ltd. and XYZ Ltd. where the two were designated as a
hedge based on cash.

The investments were made up as follows:

Company Number of shares Share prices on purchase
Sh.
ABC Ltd. (Fair value) 10,000 90
XYZ Ltd. (Hedging) 10,000 80

The shares will all be classified as fair value through profit or loss.

All the shares were bought on 1 January 2010. On 31 December 2010, the share prices were as
follows:

Company Sh.
ABC Ltd. (Fair value through profit or loss) 85
XYZ Ltd. (Hedging instrument) 86

Required;
The journal entries to record the changes in the share prices.

QUESTION 4
Redline Limited invested in 10% loan stock on 1 November 2007 given a par value of Sh. 20 million.
The issuer of the loan stock was Borrow Limited. The loan stock was for five years and is to be settled
on 31 October 2012. The loan stock was quoted but Redline Limited was to hold it to maturity. The
effective interest rate on 1 November 2007 was 12% and this had not changed over the three years to
31 October 2010.

On 31 October 2010, Borrow Limited, after paying the annual interest, went into financial difficulties
and Redline Limited estimated that interest would be received over the remaining two years but only
half of the loan stock would be received on maturity. The loan stock was therefore impaired.
Required:
Explain how the loan stock in Borrow Limited will be reported in the financial statements for the year
ended 31 October 2010.

ANSWERS TO SELF-REVIEW QUESTIONS

ANSWER 1

HINT
IFRS 9 is an International Financial Reporting Standard (IFRS) promulgated by the International
Accounting Standards Board (IASB). It addresses the accounting for financial instruments. It contains
three main topics: classification and measurement of financial instruments, impairment of financial
assets and hedge accounting. It will replace the earlier IFRS for financial instruments, IAS 39, when it
becomes effective in 2018. However, early adoption is allowed.

i) Provisions governing initial measurement and subsequent measurement of financial

instruments
 All financial instruments are initially measured at fair value plus or minus, in the case of a
financial asset or financial liability not at fair value through profit or loss, transaction costs.

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  Subsequently, all financial instruments are measured at either amortized cost of fair value.

ii) Requirements for derecognition of financial instruments

 Derecognition is the removal of a previously recognized financial instrument from an entity
balance sheet. A financial instrument should be derecognized if either the entity's contractual
rights or the asset's cash flows have expired, or the asset has been transferred to a third party
along with the risks of ownership.
 If the risks and rewards of ownership have not passed to the buyer, then the selling entity must
still recognize the entire financial instrument and treat any consideration received as a liability.

ANSWER 2
(a)Difference between taxable temporary difference and deductible temporary difference
Taxable temporary differences Deductible temporary differences
Taxable temporary differences are temporary Deductible temporary differences are temporary
differences that will result in taxable amount in differences that will result in amounts that are
determining taxable profit (loss) of future periods deductible in determining taxable profit (loss) of
when the carrying amount of the asset or liability is future periods when the amount of asset or
recovered or settled. liability is recovered or settled.

(b)
(i)Taxable profit
Workings
= Shs 4,000,000 ×25%
= Shs 1000,000 per annum

Allowance wear and tear

Shs
2009 40% × 4,000,000= 1,600,000
2010 30% ×4,000,000= 1,200,000
2011 20% ×4,000,000= 800,000
2012 10% × 4,000,000= 400,000

2008/2009 2009/2010 2010/2011 2011/2012

Sh. Sh. Sh. Sh.
Reported profits 800,000 900,000 950,000 850,000
Depreciation 1,000,000 1,000,000 1,000,000 1,000,000
Wear and tear (1,600,000) (1,200,000) (800,000) (400,000)
Taxable profit 200,000 700,000 1,150,000 1,450,000

(ii)Temporary differences

2008/2009 2009/2010 2010/2011 2011/2012

Sh. Sh. Sh. Sh.

Page 70
 Wear and tear 1,600,000 1,200,000 800,000 400,000
Depreciation Temporary (1,000,000) (1,000,000) (1,000,000) (1,000,000)
differences 600,000 200,000 (200,000) (600,000)
Tax rate 30%
Deferred tax 180,000 60,000 (60,000) (180,000)

(iii) Deferred tax account

Deferred tax account
2008/2009 Sh. 2008/2009 Sh.
30 June 2009 Balance c/ d 180,000 30 June Income 180,000

2009/2010 Balance c/d 240,000 2009/2010 Balance b/d 180,000

30 June 2010 - 1 July 2009 Income 60,000
240,000 240,000
2010/2011 2010/2011
30 June 2011 Income 60,000 1 July 2010 Balance b/ d 240,000
30 June 2011 Balance c/ d 180,000 240,000
240,000
2011/2012 2011/2012
20 June 2012 Income 180,000 1 July 2011 Balance b/d 180,000

ANSWER 3
(a) Types of hedge as provided in IAS 39
Cash flow hedges
It is a hedge, using a derivative or other financial instrument, of the exposure to variability in cash
flows that is attributable to a particular risk associated with a recognized asset or liability (such as all
or a portion of future interest payments on variable-rate debt) or forecasted transaction (such as an
anticipated purchase or sale) that will affect reported income or loss.

Fair value hedges

It is a hedge, using a derivative or other financial instrument, of the exposure to changes in the fair
value of a recognized asset or liability, or an identified portion of such an asset or liability, that is
attributable to a particular risk and will affect reported net income.

Hedges of a net investment in a foreign entity

Hedges of a net investment in a foreign entity are accounted for similarly to those of cash flows. To
the extent it is determined to be effective, accumulated gains or losses are reflected in other
comprehensive income and in equity. The ineffective portion is reported in profit or loss.
In terms of financial reporting, the gain or loss on the effective portion of these hedges should be
classified in the same manner as the foreign currency translation gain or loss.
According to IAS 21, translation gains and losses are not reported in profit or loss but instead are
reported in other comprehensive income and the cumulative amounts in equity, with allocation being
made to minority interest when the foreign entity is not wholly owned by the reporting entity.

(b)This appears to be a cash flow hedge because it is based on cash.

Gains and losses will be given as follows:
ABC Ltd. (85 - 90) ×10,000 = -50,000 (loss)

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 XYZ Ltd. (86 - 80) ×10,000 = 60,000 (gain)
50,000
The hedge appears to be effective = 60,000 ×100%= 83.33%

Therefore the double entry will be as follows:

DR investment in XYZ Ltd. Sh.60,000
CR cash flow hedge reserve Sh.50,000
CR Income statement Sh. 10,000
(only the effective portion)
DR Income statement Sh.50,000
CR Investment in ABC Sh.50,000

ANSWER 4
It is important to determine the carrying amount of the loan stock as at 31 October 2010 before
reporting the impairment. The loan stock should be classified as held to maturity and therefore
measured at amortized cost i.e present value of future cash flows on the loan discounted at the
effective interest of 12%

The price of the loan stock as at 1 November 2007 is determined as follows:

PV = PV of interest + present value of the par value

2,000,000 2,000,000 2,000,000 2,000,000 2,000,000
= (1.12)
+ (1.12)2
+ (1.12)3
+ (1.12)4
+ (1.12)5

=1,785,714 +1,594,388+ 1,423,560 +1,271,036+1,134,854=Ksh.7, 209,552

The amortized cost is given as follows (Before impairment)

31 October 2008 31 October 2009 31 October 2010

Balance b/d 18,558 18,785 19,039
Interest income at 12% 2,227 2,254 2,285
20,785 21,039 21,324
Less: Actual receipt (2,000) (2,000) (2,000)
Balance c/d 18,785 19,039 19,324

In the year ended 31 October 2010, the company will report interest income of sh. 2,285,000

Meanwhile, after the impairment review, the new amortized cost of the loan stock at 31 October 2010
will be as follows:

2,000,000 2,000,000
PV = (1.12)1
+ (1.12)2 =1,785,714 + 1,594,388 =3,380,102

It appears that the new amortized cost will give us an impairment loss of:-
(19,324,000 -3,380,102) = sh. 15,943,898

The firm should therefore report an impairment loss in the income statement of sh. 15,943,898 and
show the loan stock in the statement of financial position at sh. 3,380,102

Page 72
Page 73
 TOPIC 3
PREPARING FINANCIAL STATEMENTS AND OTHER
REPORTS
TOPIC KEY OBJECTIVES
1.Understand what published financial statement are and their formats (IAS1)
2.Be able to prepare statement of cash flows for a group entity(IAS 7)
3.Know all the group statement of cash flows aspects
4.Be able to explain what interim financial statements
5.Be able to explain what financial statements of pension schemes/retirement benefits plans
6.Understand segment reports (IFRS8)
7.Know the computation of earnings per share (IAS33)
8.Be able to explain the IFRS for small and medium sized entities
9.Understand the concept of Related parties transactions (ISA24)
10. Understand the concept reconstruction and reorganisation and computations thereoff
11. Understand the concept of integrated reporting

PUBLISHED FINANCIAL STATEMENT (IAS1)

IAS 1 Presentation of financial statements gives substantial guidance on the form and content of
published financial statements. The main components of published financial statements are:
- Statement of financial position
- Statement of comprehensive income
- Statement of changes in equity
- Statement of cash flows
- Notes to the financial statements .

Profit or loss for the period

The statement of comprehensive income is the most significant indicator of a company's financial
performance. So it is important to ensure that it is not misleading.
IAS 1 stipulates that all items of income and expense recognized in a period shall be included in profit
or loss unless a Standard or an Interpretation requires otherwise.
Circumstances where items may be excluded from profit or loss for the current year include the
correction of errors and the effect of changes in accounting policies. These are covered in IAS 8.

Objective of IAS 1
The objective of IAS 1 (2007) is to prescribe the basis for presentation of general purpose financial
statements, to ensure comparability both with the entity's financial statements of previous periods and
with the financial statements of other entities. IAS 1 sets out the overall requirements for the
presentation of financial statements, guidelines for their structure and minimum requirements for their
content. Standards for recognizing, measuring, and disclosing specific transactions are addressed in
other Standards and Interpretations.

Scope
IAS 1 applies to all general purpose financial statements that are prepared and presented in
accordance with International Financial Reporting Standards (IFRSs).

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 General purpose financial statements are those intended to serve users who are not in a position to
require financial reports tailored to their particular information needs.

Objective of financial statements

The objective of general purpose financial statements is to provide information about the financial
position, financial performance, and cash flows of an entity that is useful to a wide range of users in
making economic decisions. To meet that objective, financial statements provide information about an
entity's:
- assets
- liabilities
- equity
- income and expenses, including gains and losses
- Contributions by and distributions to owners (in their capacity as owners)
- Cash flows.

That information, along with other information in the notes, assists users of financial statements in
predicting the entity's future cash flows and, in particular, their timing and certainty.

Components of financial statements

A complete set of financial statements includes:
- a statement of financial position (balance sheet) at the end of the period
- a statement of profit or loss and other comprehensive income for the period (presented as a single
statement, or by presenting the profit or loss section in a separate statement of profit or loss,
immediately followed by a statement presenting comprehensive income beginning with profit or loss)
- a statement of changes in equity for the period
- a statement of cash flows for the period
- Notes, comprising a summary of significant accounting policies and other explanatory notes
comparative information prescribed by the standard.

An entity may use titles for the statements other than those stated above. All financial statements are
required to be presented with equal prominence.

When an entity applies an accounting policy retrospectively or makes a retrospective restatement of

items in its financial statements, or when it reclassifies items in its financial statements, it must also
present a statement of financial position (balance sheet) as at the beginning of the earliest comparative
period.

Reports that are presented outside of the financial statements – including financial reviews by
management, environmental reports, and value added statements – are outside the scope of IFRSs.

Fair presentation and compliance with IFRSs

The financial statements must "present fairly" the financial position, financial performance and cash
flows of an entity. Fair presentation requires the faithful representation of the effects of transactions,
other events, and conditions in accordance with the definitions and recognition criteria for assets,
liabilities, income and expenses set out in the Framework. The application of IFRSs, with additional
disclosure when necessary, is presumed to result in financial statements that achieve a fair
presentation.

IAS 1 requires an entity whose financial statements comply with IFRSs to make an explicit and

Page 75
unreserved statement of such compliance in the notes. Financial statements cannot be described as
complying with IFRSs unless they comply with all the requirements of IFRSs (which includes
International Financial Reporting Standards, International Accounting Standards, IFRIC
Interpretations and SIC Interpretations).

Inappropriate accounting policies are not rectified either by disclosure of the accounting policies used
or by notes or explanatory material.

IAS 1 acknowledges that, in extremely rare circumstances, management may conclude that
compliance with an IFRS requirement would be so misleading that it would conflict with the objective
of financial statements set out in the Framework. In such a case, the entity is required to depart from
the IFRS requirement, with detailed disclosure of the nature, reasons, and impact of the departure.

Going concern
The Conceptual Framework notes that financial statements are normally prepared assuming the entity
is a going concern and will continue in operation for the foreseeable future.

IAS 1 requires management to make an assessment of an entity's ability to continue as a going

concern. If management has significant concerns about the entity's ability to continue as a going
concern, the uncertainties must be disclosed. If management concludes that the entity is not a going
concern, the financial statements should not be prepared on a going concern basis, in which case IAS
1 requires a series of disclosures.

Accrual basis of accounting

IAS 1 requires that an entity prepare its financial statements, except for cash flow information, using
the accrual basis of accounting.

Consistency of presentation
The presentation and classification of items in the financial statements shall be retained from one
period to the next unless a change is justified either by a change in circumstances or a requirement of
a new IFRS.

Materiality and aggregation

Each material class of similar items must be presented separately in the financial statements.
Dissimilar items may be aggregated only if the are individually immaterial.

However, information should not be obscured by aggregating or by providing immaterial information,

materiality considerations apply to the all parts of the financial statements, and even when a standard
requires a specific disclosure, materiality considerations do apply.

Offsetting
Assets and liabilities, and income and expenses, may not be offset unless required or permitted by an
IFRS.

Comparative information
IAS 1 requires that comparative information to be disclosed in respect of the previous period for all
amounts reported in the financial statements, both on the face of the financial statements and in the
notes, unless another Standard requires otherwise. Comparative information is provided for narrative
and descriptive where it is relevant to understanding the financial statements of the current period.

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An entity is required to present at least two of each of the following primary financial statements:
- statement of financial position*
- statement of profit or loss and other comprehensive income
- separate statements of profit or loss (where presented)
- statement of cash flows
- Statement of changes in equity related notes for each of the above items.

A third statement of financial position is required to be presented if the entity retrospectively applies
an accounting policy, restates items, or reclassifies items, and those adjustments had a material effect
on the information in the statement of financial position at the beginning of the comparative period.

Where comparative amounts are changed or reclassified, various disclosures are required.

Structure and content of financial statements in general

IAS 1 requires an entity to clearly identify:
- The financial statements, which must be distinguished from other information in a published
document.
- Each financial statement and the notes to the financial statements.

In addition, the following information must be displayed prominently, and repeated as necessary:
- the name of the reporting entity and any change in the name
- whether the financial statements are a group of entities or an individual entity
- Information about the reporting period
- the presentation currency (as defined by IAS 21 The Effects of Changes in Foreign Exchange
Rates)
- the level of rounding used (e.g. thousands, millions).

Reporting period
There is a presumption that financial statements will be prepared at least annually. If the annual
reporting period changes and financial statements are prepared for a different period, the entity must
disclose the reason for the change and state that amounts are not entirely comparable.

Statement of financial position (balance sheet)

Current and non-current classification
An entity must normally present a classified statement of financial position, separating current and
non-current assets and liabilities, unless presentation based on liquidity provides information that is
reliable. [IAS 1.60] In either case, if an asset (liability) category combines amounts that will be
received (settled) after 12 months with assets (liabilities) that will be received (settled) within 12
months, note disclosure is required that separates the longer-term amounts from the 12-month
amounts.

Current assets are assets that are:

- expected to be realized in the entity's normal operating cycle
- held primarily for the purpose of trading
- Expected to be realized within 12 months after the reporting period
- Cash and cash equivalents (unless restricted).

All other assets are non-current.

Current liabilities are those:
- expected to be settled within the entity's normal operating cycle

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- held for purpose of trading due to be settled within 12 months for which the entity does not have
an unconditional right to defer settlement beyond 12 months (settlement by the issue of equity
instruments does not impact classification).

Other liabilities are non-current.

When a long-term debt is expected to be refinanced under an existing loan facility, and the entity has
the discretion to do so, the debt is classified as non-current, even if the liability would otherwise be
due within 12 months.

If a liability has become payable on demand because an entity has breached an undertaking under a
long-term loan agreement on or before the reporting date, the liability is current, even if the lender has
agreed, after the reporting date and before the authorization of the financial statements for issue, not
to demand payment as a consequence of the breach. However, the liability is classified as non-current
if the lender agreed by the reporting date to provide a period of grace ending at least 12 months after
the end of the reporting period, within which the entity can rectify the breach and during which the
lender cannot demand immediate repayment.

Line items
The line items to be included on the face of the statement of financial position are:
(a) property, plant and equipment
(b) investment property
(c) intangible assets
(d) financial assets (excluding amounts shown under (e), (h), and (i))
(e) investments accounted for using the equity method
(f) biological assets
(g) inventories
(h) trade and other receivables
(i) cash and cash equivalents
(j) assets held for sale
(k) trade and other payables
(l) provisions
(m) financial liabilities (excluding amounts shown under (k) and (l))
(n) current tax liabilities and current tax assets, as defined in IAS 12
(o) deferred tax liabilities and deferred tax assets, as defined in IAS 12
(p) liabilities included in disposal groups
(q) non-controlling interests, presented within equity
(r) issued capital and reserves attributable to owners of the parent.

Additional line items, headings and subtotals may be needed to fairly present the entity's financial
position.

When an entity presents subtotals, those subtotals shall be comprised of line items made up of
amounts recognised and measured in accordance with IFRS; be presented and labelled in a clear and
understandable manner; be consistent from period to period; and not be displayed with more
prominence than the required subtotals and totals.

Further sub-classifications of line items presented are made in the statement or in the notes, for
example:
- classes of property, plant and equipment

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- disaggregation of receivables
- disaggregation of inventories in accordance with IAS 2 Inventories
- disaggregation of provisions into employee benefits and other items classes of equity and
reserves.

Format of statement
IAS 1 does not prescribe the format of the statement of financial position. Assets can be presented
current then non-current, or vice versa, and liabilities and equity can be presented current then non-
current then equity, or vice versa. A net asset presentation (assets minus liabilities) is allowed. The
long-term financing approach used in UK and elsewhere – fixed assets + current assets - short term
payables = long-term debt plus equity – is also acceptable.

Share capital and reserves

Regarding issued share capital and reserves, the following disclosures are required:
- numbers of shares authorized, issued and fully paid, and issued but not fully paid
- par value (or that shares do not have a par value)
- a reconciliation of the number of shares outstanding at the beginning and the end of the period
- description of rights, preferences, and restrictions
- treasury shares, including shares held by subsidiaries and associates
- Shares reserved for issuance under options and contracts
- a description of the nature and purpose of each reserve within equity.

Additional disclosures are required in respect of entities without share capital and where an entity has
reclassified puttable financial instruments.

Format for the statement of financial position

Statement of financial position

As at 31 December XXXXXXX
2016 2017
Shs ‘000’ Shs ‘000’
Assets
Non-current assets
Property, plant and equipment Xx Xx
Goodwill Xx Xx
Other intangible assets Xx Xx
Investments in associates Xx Xx
Available-for-sale financial assets Xx Xx

Current assets
Inventories Xx Xx
Trade receivables Xx Xx
Other current assets Xx Xx
Cash and cash equivalents Xx Xx
Total assets XX XX

Equity and liabilities

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 Equity attributable to owners of the parent Xx Xx
Share capital Xx Xx
Retained earnings Xx Xx
Other components of equity Xx Xx
Xx Xx
Non-controlling interest Xx Xx
Total equity Xx Xx

Non-current liabilities
Long-term borrowings Xx Xx
Deferred tax Xx Xx
Long-term provisions Xx Xx
Long-term provisions Xx Xx
Total non-current liabilities Xx Xx

Current liabilities
Trade and other payables Xx Xx
Short-term borrowings Xx Xx
Current portion of long-term borrowings Xx Xx
Current tax payable Xx Xx
Short-term provisions Xx Xx
Total current liabilities Xx Xx
Total liabilities Xx Xx
Total equity and liabilities Xx Xx

Statement of profit or loss and other comprehensive income

Concepts of profit or loss and comprehensive income

Profit or loss is defined as "the total of income less expenses, excluding the components of other
comprehensive income". Other comprehensive income is defined as comprising "items of income and
expense (including reclassification adjustments) that are not recognised in profit or loss as required or
permitted by other IFRSs". Total comprehensive income is defined as "the change in equity during a
period resulting from transactions and other events, other than those changes resulting from
transactions with owners in their capacity as owners".

Comprehensive income for the period= Profit or loss + other comprehensive income

All items of income and expense recognised in a period must be included in profit or loss unless a
Standard or an Interpretation requires otherwise. Some IFRSs require or permit that some components
to be excluded from profit or loss and instead to be included in other comprehensive income.

Examples of items recognised outside of profit or loss

- Changes in revaluation surplus where the revaluation method is used under IAS 16 Property,
Plant and Equipment and IAS 38 Intangible Assets
- Re-measurements of a net defined benefit liability or asset recognised in accordance with IAS 19
Employee Benefits (2011)
- Exchange differences from translating functional currencies into presentation currency in
accordance with IAS 21 The Effects of Changes in Foreign Exchange Rates
- Gains and losses on re-measuring available-for-sale financial assets in accordance with IAS 39
Financial Instruments: Recognition and Measurement.

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- The effective portion of gains and losses on hedging instruments in a cash flow hedge under IAS
39 or IFRS 9 Financial Instruments
- Gains and losses on re-measuring an investment in equity instruments where the entity has elected
to present them in other comprehensive income in accordance with IFRS 9
- The effects of changes in the credit risk of a financial liability designated as at fair value through
profit and loss under IFRS 9.

In addition, IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors requires the
correction of errors and the effect of changes in accounting policies to be recognised outside profit or
loss for the current period.

Choice in presentation and basic requirements

An entity has a choice of presenting:
- a single statement of profit or loss and other comprehensive income, with profit or loss and other
comprehensive income presented in two sections, or
- two statements: a separate statement of profit or loss a statement of comprehensive income,
immediately following the statement of profit or loss and beginning with profit or loss

The statement(s) must present:

- profit or loss
- total other comprehensive income
- comprehensive income for the period
- an allocation of profit or loss and comprehensive income for the period between non-controlling
interests and owners of the parent.

Profit or loss section or statement

The following minimum line items must be presented in the profit or loss section (or separate
statement of profit or loss, if presented):
- revenue
- gains and losses from the derecognition of financial assets measured at amortised cost
- finance costs
- share of the profit or loss of associates and joint ventures accounted for using the equity method
- certain gains or losses associated with the reclassification of financial assets
- tax expense
- a single amount for the total of discontinued items

Expenses recognised in profit or loss should be analyzed either by nature (raw materials, staffing
costs, depreciation, etc.) or by function (cost of sales, selling, administrative, etc). [IAS 1.99] If an
entity categorizes by function, then additional information on the nature of expenses – at a minimum
depreciation, amortization and employee benefits expense – must be disclosed.

Other comprehensive income section

The other comprehensive income section is required to present line items which are classified by their
nature, and grouped between those items that will or will not be reclassified to profit and loss in
subsequent periods.

An entity's share of OCI of equity-accounted associates and joint ventures is presented in aggregate as
single line items based on whether or not it will subsequently be reclassified to profit or loss.

When an entity presents subtotals, those subtotals shall be comprised of line items made up of

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 amounts recognised and measured in accordance with IFRS; be presented and labeled in a clear and
understandable manner; be consistent from period to period; not be displayed with more prominence
than the required subtotals and totals; and reconciled with the subtotals or totals required in IFRS.

Other requirements
Additional line items may be needed to fairly present the entity's results of operations.
Items cannot be presented as 'extraordinary items' in the financial statements or in the notes.
Certain items must be disclosed separately either in the statement of comprehensive income or in the
notes, if material, including:

- write-downs of inventories to net realisable value or of property, plant and equipment to

recoverable amount, as well as reversals of such write-downs
- restructurings of the activities of an entity and reversals of any provisions for the costs of
restructuring
- disposals of items of property, plant and equipment
- disposals of investments
- discontinuing operations
- litigation settlements
- other reversals of provisions

Format for the Income Statement

Statement of Comprehensive Income
For the Year Ended 31 December XXXXXXXXXXX
Sh Sh
2015 2016
Revenue Xx Xx
Cost of sales Xx Xx
Gross profit Xx Xx
Other income Xx Xx
Distribution costs Xx Xx
Administrative expenses Xx Xx
Other expenses Xx Xx
Finance costs Xx Xx
Share of profit of associates Xx Xx
Profit before tax Xx Xx
Income tax expense Xx Xx
Profit for the year from continuing operations Xx Xx
Loss for the year from discontinued operations - Xx
Profit for the year Xx Xx
Other comprehensive income:
- Exchange differences on translating foreign operations Xx Xx
Available-for-sale financial assets Xx Xx
- Cash flow hedges Xx Xx

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 - Gains on property revaluation Xx Xx
- Actuarial gains (losses) on defined benefit pension plans Xx Xx
Share of other comprehensive income of associates Xx Xx
Income tax relating to components of other comprehensive income
Other comprehensive income for the year, net of tax Xx Xx
Total comprehensive income for the year Xx Xx
Xx Xx
Profit attributable to:
Owners of the parent
Non-controlling interest Xx Xx
Xx Xx
Total comprehensive income attributable to; Xx Xx
Owners of the parent
Non-controlling interest Xx Xx
Xx Xx
Earnings per share (in currency units) Xx Xx
Xx Xx

Statement of cash flows

Rather than setting out separate requirements for presentation of the statement of cash flows, IAS
1.111 refers to IAS 7 Statement of Cash Flows. This is discussed later in this subtopic of Published
financial statements.

Statement of changes in equity

IAS 1 requires an entity to present a separate statement of changes in equity. The statement must
show:
- total comprehensive income for the period, showing separately amounts attributable to owners of the
parent and to non-controlling interests
- the effects of any retrospective application of accounting policies or restatements made in accordance
with IAS 8, separately for each component of other comprehensive income
- reconciliations between the carrying amounts at the beginning and the end of the period for each
component of equity, separately disclosing:
 profit or loss
 other comprehensive income*
 transactions with owners, showing separately contributions by and distributions to owners and
changes in ownership interests in subsidiaries that do not result in a loss of control

An analysis of other comprehensive income by item is required to be presented either in the statement
or in the notes.

The following amounts may also be presented on the face of the statement of changes in equity, or
they may be presented in the notes:
- amount of dividends recognised as distributions
- the related amount per share.

Format of the statement of changes in equity as per IAS 1

Statement Of Changes In Equity For The Year Ended 31 December XXXX

Share Retained Available for Revaluation Total Non- Total

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 capital earnings sale financial Surplus controlling equity
assets interest
Balance at 1 January 2009 Xx Xx Xx - Xx Xx Xx
Changes in accounting policy - Xx - - Xx Xx Xx
Restated balance Xx Xx Xx - Xx Xx Xx
Changes in equity
Dividends - Xx - - Xx Xx Xx
Total comprehensive income - - - - Xx Xx Xx
for the year· - Xx Xx Xx Xx Xx Xx
Balance at 31 December2009 Xx Xx Xx Xx Xx Xx Xx
Changes in equity for 2010
Issue of share capital Xx - - - Xx - Xx
Dividends - Xx - - Xx - Xx
Total comprehensive
income for the year - Xx Xx Xx Xx Xx Xx
Transfer to retained earnings - Xx Xx Xx - - -
Balance at 31 December 2010 Xx Xx Xx Xx Xx Xx Xx

Notes to the financial statements

The notes must:
- present information about the basis of preparation of the financial statements and the specific
accounting policies used
- disclose any information required by IFRSs that is not presented elsewhere in the financial
statements and
- provide additional information that is not presented elsewhere in the financial statements but is
relevant to an understanding of any of them

Notes are presented in a systematic manner and cross-referenced from the face of the financial
statements to the relevant note.

IAS 1.114 suggests that the notes should normally be presented in the following order:
- a statement of compliance with IFRSs
- a summary of significant accounting policies applied, including:
 the measurement basis (or bases) used in preparing the financial statements
 the other accounting policies used that are relevant to an understanding of the financial
statements
- supporting information for items presented on the face of the statement of financial position
(balance sheet), statement(s) of profit or loss and other comprehensive income, statement of
changes in equity and statement of cash flows, in the order in which each statement and each line
item is presented
- other disclosures, including:
 contingent liabilities (see IAS 37) and unrecognized contractual commitments
 non-financial disclosures, such as the entity's financial risk management objectives and
policies (see IFRS 7 Financial Instruments: Disclosures)

Other disclosures

Judgements and key assumptions

An entity must disclose, in the summary of significant accounting policies or other notes, the
judgements, apart from those involving estimations, that management has made in the process of
applying the entity's accounting policies that have the most significant effect on the amounts

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 recognised in the financial statements.

Examples cited in IAS 1.123 include management's judgement in determining:

- when substantially all the significant risks and rewards of ownership of financial assets and lease
assets are transferred to other entities
- whether, in substance, particular sales of goods are financing arrangements and therefore do not
give rise to revenue.

An entity must also disclose, in the notes, information about the key assumptions concerning the
future, and other key sources of estimation uncertainty at the end of the reporting period, that have a
significant risk of causing a material adjustment to the carrying amounts of assets and liabilities
within the next financial year. These disclosures do not involve disclosing budgets or forecasts.

Dividends
In addition to the distributions information in the statement of changes in equity (see above), the
following must be disclosed in the notes:

- the amount of dividends proposed or declared before the financial statements were authorized for
issue but which were not recognised as a distribution to owners during the period, and
- The related amount per share the amount of any cumulative preference dividends not recognised.

Capital disclosures
An entity discloses information about its objectives, policies and processes for managing capital. To
comply with this, the disclosures include:
- qualitative information about the entity's objectives, policies and processes for managing capital,
including;-
- description of capital it manages
- nature of external capital requirements, if any
- how it is meeting its objectives
- Quantitative data about what the entity regards as capital
- changes from one period to another
- Whether the entity has complied with any external capital requirements and
- if it has not complied, the consequences of such non-compliance.

Puttable financial instruments

IAS 1.136A requires the following additional disclosures if an entity has a puttable instrument that is
classified as an equity instrument:
- summary quantitative data about the amount classified as equity
- the entity's objectives, policies and processes for managing its obligation to repurchase or redeem the
instruments when required to do so by the instrument holders, including any changes from the
previous period
- the expected cash outflow on redemption or repurchase of that class of financial instruments and
- Information about how the expected cash outflow on redemption or repurchase was determined.

Other information
The following other note disclosures are required by IAS 1 if not disclosed elsewhere in information
published with the financial statements:

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domicile and legal form of the entity country of incorporation address of registered office or principal
place of business description of the entity's operations and principal activities if it is part of a group,
the name of its parent and the ultimate parent of the group if it is a limited life entity, information
regarding the length of the life.

Illustration
Zeddy Limited is a company quoted at the securities exchange. The following trial balance was
extracted from the books of the company as at 31 October 2014:
Sh. ‘million’ Sh. ‘million’
Ordinary share capital (Sh. 10 each) 300
8% Preference share capital (Sh. 10 each) 100
Revaluation reserve - property, plant and equipment 50
Share premium 100
Retained profits as at 31 October 2013 333.5
Intangible assets 215.5
Property, plant and equipment 600
Accumulated depreciation as at 1 November 2013 124.5
Trade receivables and trade payables 178 97.5
Bank overdraft 51
Inventory as at 1 November 2013 326
Purchases 760
Cash in hand 5
Sales 1,526
Administrative expenses 158
Selling and distribution expenses 117
Legal and professional expenses 54
Allowance for doubtful debts (l November 2013) 6
Financial assets at fair value 125
Deferred tax 20
Instalment tax paid 30
Suspense account 140 _____
2,708.5 2,708.5

Additional information;
1. The intangible assets are being amortised over 5 years with the expense to be shown under cost of
sales.

2. Property, plant and equipment is made up of the following:

Asset Cost/valuation Accumulated depreciation
Sh. “million” Sh. “million”
Land at cost 250 -
Buildings 75 15
Plant and equipment 150 68.5
Furniture and fixtures 50 16
Motor vehicles 75 25
600 124.5

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 Depreciation is charged as follows:
Buildings 2% on cost (included with administrative expenses).
Plant and equipment 8% on cost (included with cost of sales)
Furniture and fixtures 10% on cost (included with administrative expenses).
Motor vehicles 20% on the reducing balance charged as follows: 25%
administrative expenses and 75% selling and distribution
expenses.

3. Sh. 10 million should be transferred from the revaluation reserve to retained profits.
4. Allowance for doubtful debts is to be increased to Sh. 18 million.
5. The financial assets at fair value are held for the long-term. Their market value as at 31 October
2014 is Sh. 130 million.
6. Current year tax is estimated at Sh.40 million and the net taxable temporary differences amount to
Sh.100 million considering all possible adjustments including valuations. Increase due to
revaluation of financial assets amounts to Sh.2 million.
7. The suspense account consists of the acquisition of a business on a going concern basis. The
assets acquired were as follows as at 30 September 2014 (date of acquisition).
Sh. “million”
Financial assets - short term 40
Receivables 30
Inventory 20
Bank balance 40
Payables (20)

The adjustment for this acquisition has not been reflected in the books of Zeddy Limited.
A quick review of these assets shows that an impairment loss of Sh.20 million should be reported
being the recoverable amount less the carrying amounts.
8. Inventory as at 31 October 2014 (including the Sh.20 million in note 7 above) is valued at Sh.426
million.
Required;-
The following statements for Zeddy Limited in a format suitable for publication:
a) Income statement for the year ended 31 October 2014.
b) Statement of changes in equity for the year ended 31 October 2014.
c) Statement of financial position as at 31 October 2014.

Answer
(a)Income statement
Zeddy Limited
Income statement for the year ended 31 October 2014
Sh. “m” Sh. “m”
Revenue 1,526

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 Cost of sales (w1) (735.1)
Gross profit 790.9
Expenses
Distribution costs (w1) 124.5
Administration expenses(w1) 253 377.5
Profit before tax 413.4
Income tax expense (w1) (48)
Profit for the period 365.4

(b)Statement of changes in equity

Zeddy Limited
Statement of changes in equity for the year ended 31 October 2014
Ordinar Pref. Share Reserve Reserve Retaine Total
y share Share Premiu PPE Financial d Profits
capital capita m assets
l
Sh. “m” Sh. Sh. “m” Sh. “m” Sh. “m” Sh. “m” Sh.
“m” “m”
Balance as at 1 November 2013 300 100 100 50 - 333.5 883.5
Profit for the period - - - - - 365.4 365.4
Deferred tax on revaluation - - - - (2) - (2)
Transfer to Retained profits - - - (10) - 10 -
Gain on financial assets fair value ___-_ __-_ __-_ _-__ 5 _-__ 5
300 100 100 40 3 708.9 1,251.
9

(c)Statement of financial position

Zeddy Limited
Statement of financial position as at 31 October 2014
Sh. “million” Sh. “million”
Assets
Non-current assets
Property, plant and equipment (w2) 447
Goodwill (140-110)-20 10
Intangible assets (215.5 - 43.1) 172.4
Financial assets – long term 130
759.4
Current assets
Inventory 426
Receivables (178 + 30-18) 190
Financial assets - short-term 40
Cash 5 661
Total assets 1,420.4

Capital and liabilities:

Ordinary share capital 300
8% preference share capital 100
Share premium 100
Revaluation reserve 40

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 Financial assets - revaluation reserve 3
Retained profits 708.9
Shareholders’ funds 1,251.9
Non-current liabilities
Deferred tax (30% ×100) 30
Current liabilities
Bank overdraft (51 -40) 11
Trade payables (97.5 + 20) 117.5
Current tax (40 - 30) 10 138.5
Total capital and liabilities 1420.4

Workings
w1
Expenses
Cost of Selling and Administration Income tax
sales distribution costs expenses expenses
Sh. “m” Sh. “m” Sh. “m” Sh. “m”
Inventory at 1 November 2013 326 - - -
Purchases 760 - - -
As per trial balance - 117 158 -
Legal and professional expenses - - 54 -
Amortisation - intangibles 43.1 - - -
Depreciation
Buildings (0.02 ×75) - - 1.5 -
Plant and equipment(0.08×150) 12 - - -
Furniture and fittings (0.1 ×50) - - 5 -
Motor vehicle (0.2×50) - 7.5 2.5 -
Allowance for doubtful debts (18-6) - - 12 -
Current year tax - - - 40
Increase in deferred tax (30 - 20 - 2) - - - 8
Inventory acquisition 20 - 20 -
Impairment - - - -
Less closing inventory (426) __-__ __-__ __-_
735.1 124.5 253 48

w2
Property, plant and equipment
Sh. “m” Sh. “m”
Balance b/d 600
Depreciation b/d 124.5
Charge for current year (1.5 + 12 + 5 + 10) 28.5 (153)
447

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STATEMENT OF CASHFLOWS
IAS 7 Statement of Cash Flows requires an entity to present a statement of cash flows as an integral
part of its primary financial statements. Cash flows are classified and presented into operating
activities (either using the 'direct' or 'indirect' method), investing activities or financing activities, with
the latter two categories generally presented on a gross basis.

Objective of IAS 7
The objective of IAS 7 is to require the presentation of information about the historical changes in
cash and cash equivalents of an entity by means of a statement of cash flows, which classifies cash
flows during the period according to operating, investing, and financing activities.

Fundamental principle in IAS 7

All entities that prepare financial statements in conformity with IFRSs are required to present a
statement of cash flows.

The statement of cash flows analyses changes in cash and cash equivalents during a period. Cash and
cash equivalents comprise cash on hand and demand deposits, together with short-term, highly liquid
investments that are readily convertible to a known amount of cash, and that are subject to an
insignificant risk of changes in value. Guidance notes indicate that an investment normally meets the
definition of a cash equivalent when it has a maturity of three months or less from the date of
acquisition. Equity investments are normally excluded, unless they are in substance a cash equivalent
(e.g. preferred shares acquired within three months of their specified redemption date). Bank
overdrafts which are repayable on demand and which form an integral part of an entity's cash
management are also included as a component of cash and cash equivalents.

Presentation of the Statement of Cash Flows

Cash flows must be analyzed between operating, investing and financing activities.

Key principles specified by IAS 7 for the preparation of a statement of cash flows are as follows:

 Operating activities are the main revenue-producing activities of the entity that are not investing
or financing activities, so operating cash flows include cash received from customers and cash
paid to suppliers and employees.
 Investing activities are the acquisition and disposal of long-term assets and other investments
that are not considered to be cash equivalents.
 Financing activities are activities that alter the equity capital and borrowing structure of the
entity
 interest and dividends received and paid may be classified as operating, investing, or financing
cash flows, provided that they are classified consistently from period to period
 Cash flows arising from taxes on income are normally classified as operating, unless they can be
specifically identified with financing or investing activities.
 for operating cash flows, the direct method of presentation is encouraged, but the indirect method
is acceptable

The direct method

The direct method shows each major class of gross cash receipts and gross cash payments. The
operating cash flows section of the statement of cash flows under the direct method would appear
something like this:

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 Sh.
Cash receipts from customers xxx
Cash paid to suppliers xxx
Cash paid to employees xxx
Cash paid for other operating expenses xxx
Interest paid xxx
Income taxes paid xxx
Net cash from operating activities xxx

The indirect method

The indirect method adjusts accrual basis net profit or loss for the effects of non-cash transactions.
The operating cash flows section of the statement of cash flows under the indirect method would
appear something like this:

Sh.
Profit before interest and income taxes xxx
Add back depreciation xxx
Add back impairment of assets xxx
Increase in receivables xxx
Decrease in inventories xxx
Increase in trade payables xxx
Interest expense xxx
Less Interest accrued but not yet paid xxx
Interest paid xxx
Income taxes paid xxx
Net cash from operating activities xxx

 the exchange rate used for translation of transactions denominated in a foreign currency should be
the rate in effect at the date of the cash flows
 cash flows of foreign subsidiaries should be translated at the exchange rates prevailing when the
cash flows took place
 as regards the cash flows of associates, joint ventures, and subsidiaries, where the equity or cost
method is used, the statement of cash flows should report only cash flows between the investor
and the investee; where proportionate consolidation is used, the cash flow statement should
include the venturer's share of the cash flows of the investee
 Aggregate cash flows relating to acquisitions and disposals of subsidiaries and other business
units should be presented separately and classified as investing activities, with specified
additional disclosures. The aggregate cash paid or received as consideration should be reported
net of cash and cash equivalents acquired or disposed of
 cash flows from investing and financing activities should be reported gross by major class of cash
receipts and major class of cash payments except for the following cases, which may be reported
on a net basis:

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 cash receipts and payments on behalf of customers (for example, receipt and repayment of
demand deposits by banks, and receipts collected on behalf of and paid over to the owner of a
property)
 cash receipts and payments for items in which the turnover is quick, the amounts are large, and
the maturities are short, generally less than three months (for example, charges and collections
from credit card customers, and purchase and sale of investments)
 cash receipts and payments relating to deposits by financial institutions
 cash advances and loans made to customers and repayments thereof
 investing and financing transactions which do not require the use of cash should be excluded from
the statement of cash flows, but they should be separately disclosed elsewhere in the financial
statements
 entities shall provide disclosures that enable users of financial statements to evaluate changes in
liabilities arising from financing activities
 the components of cash and cash equivalents should be disclosed, and a reconciliation presented
to amounts reported in the statement of financial position
 the amount of cash and cash equivalents held by the entity that is not available for use by the
group should be disclosed, together with a commentary by management

Format
H GROUP
CONSOLIDATED STATEMENT OF CASH FLOW
FOR THE YEAR ENDED 31.12.2017
Sh. sh.
Operating Activities
Profit before tax xxx
Adjustment for:
Depreciation/impairment/amortization xx
Loss on disposal of PPE xx
Finance cost xx
Gain on disposal of PPE (xx)
Share of PAT in Associate (xx)
Investment income (xx) xxx
Cash flows before working capital changes xxx
Working Capital Changes
Increase in current Assets (xx)
Decrease in current Assets xx
Increase in current liabilities xx
Decrease in current liabilities (xx) xxx
Cash generated from operations xxx
Tax paid (xxx)
Cash flow from operating activities xxx (A)
Investing Activities
Cash received on disposal of PPE xx
Cash paid on acquisition of PPE (xx)
Investment to income xx
Cash paid to acquire subsidiary net of cash acquired (xx)
Cash received on disposal of subsidiary net of cash disposed xxx xxx (B)
Cash flow from investing activities xxx
Financing Activities xx

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Cash received on issue of new shares (xx)
Dividends paid to: Holding company (xx)
: Non-controlling interest

Acquisition of long term loans xx

Loan repayments (xx)
Finance cost paid (xx) xxx (C)
Net cash flows (A + B + C) xx
Cash and cash equivalent at the beginning xx
Cash and cash equivalent at the end xx

GROUP STATEMENT OF CASH FLOWS ASPECTS

Statements of cash flows for group entities follow the same principles as for single company
statements, with some additional complications.
Cash flows that are internal to the group should be eliminated in the preparation of a consolidated
statement of cash flows. Where a subsidiary undertaking joins or leaves a group during a financial
year the cash flows of the group should include the cash flows of the subsidiary undertaking
concerned for the same period as that for which the group's income statement includes the results of
the subsidiary undertaking.

Acquisitions and disposals of subsidiaries and other business units

An entity should present separately the aggregate cash flows arising from acquisitions and from
disposals of subsidiaries or other business units and classify them as investing activities.
Disclosure is required of the following, in aggregate, in respect of both acquisitions and disposals of
subsidiaries or other business units during the period.
 Total purchase/disposal consideration
 Portion of purchase/disposal consideration discharged by means of cash/cash equivalents
 Amount of cash/cash equivalents in the subsidiary or business unit disposed off
 Amount of assets and liabilities other than cash/cash equivalents in the subsidiary or business unit
acquired or disposed of, summarized by major category

The amounts shown in the statements of cash flows for purchase or disposal of subsidiaries or
business units will be the amounts paid or received net of cash/cash equivalents acquired or disposed
of.

Consolidation adjustments and non-controlling interest

The group statement of cash flows should only deal with flows of cash and cash equivalents external
to the group, so all intra-group cash flows should be eliminated. Dividends paid to non-controlling
interest should be included under the heading 'cash flow from financing' and disclosed separately.

Illustration
The following are extracts of the consolidated results for Ongayo Ltd. for the year ended 31
December 2017.

Consolidated Income Statement (Extract)

Sh.
Group profit before tax 90,000
Income tax expense (30,000)

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Profit for the year 60,000
Profit attributable to: 45,000
Owners of the parent 15,000
Non-controlling interest 60,000

Consolidated Statement of Financial Position (Extract)

2016 2017
Sh. Sh.
Non-controlling interest 300,000 306,000

Answer
Calculate the dividends paid to the non-controlling interest during the year

Non-Controlling Interest
Sh. Sh.
Dividend paid 9,000 Balance b/d 300,000
Balance c/d 306,000 Profit for period (I/S) 15,000
315,000 315,000

Associates and joint ventures

Where there is an interest in a jointly controlled entity (see IAS 31), it is accounted for using
proportionate consolidation, the reporting entity's proportionate share of the jointly controlled
entity's cash flows in the consolidated statement of cash flows.
When the equity method is used, only the actual cash flows from sales or purchases between the
group and the associate/joint venture, and investments in and dividends from the entity should be
included. Dividends should be included in operating cash flows, where they are shown within
operating profit in the statement of comprehensive income.

Illustration
The following are extracts of the consolidated results of Bitumen Ltd. for the year ended 31 December
2017.

Consolidated Income Statement (Extract)

Sh.
Group profit before-tax 150,000
Share of associate's profit after tax (60 - 30) 30,000
Tax (group) 180,000
Profit after tax 75,000
105,000

Consolidated Statement of Financial Position (Extract)

2001 2002
Shs. Shs.
Investment in associate 264,000 276,000

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Calculate the dividend received from the associate

Answer
Associate
Sh. Sh.
Balance b/f 264,000 Dividend from associate 18,000
Profit after tax(60-30) 30,000 Balance c/f 276,000
294,000 294,000

Illustration
The following are the group statement of comprehensive income and the group statement of financial
position of Maneno Group of Companies for the financial yeas ended 31 October 2016 and 31
October 2017:

Maneno Group
Statement of comprehensive income for the year ended 31 October 2017
Sh. “million” Sh. “million”
Revenue 3,075
Cost of sales (1,470)
1,605
Gain on sale of subsidiary 120
Share of profit after tax in associate 144
1,869
Expenses:
Distribution costs 240
Administrative expenses 480
Finance cost 450 1,170
Profit before tax 699
Income tax expense (144)
Profit after tax for the year 555
Gain on revaluation of land 60
Total comprehensive income for the year 615
Attributable to: Parent 540
:Non-controlling interest 75 615

Maneno Group
Statement of financial position as at 31 October:
2017 2016
Sh. Sh. Sh. Sh. “million”
“million” “million” “million”

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Assets:
Non-current assets:
Property, plant and equipment 18,000 13,500
Goodwill 255 390
Investment in associate 510 420
18,765 14,310
Current assets:
Inventory 3,900 3,090
Trade receivables 3,120 3,120
Financial assets at fair value 135 30
Cash and bank balances 510 7,665 390 6,630
Total assets 26430 20,940
Equity and liabilities:
Ordinary share capital 6,000 4,500
Share premium 900 -
Revaluation reserve 150 -
Retained profit 10,200 9,960
Shareholders’ funds attributable to parent 17,250 14,460
Shareholders’ funds attributable to non-
controlling interest
225 525
Non-current liabilities: 17,475 14,985
Bank loans
Obligations under finance lease 4200 3000
Deferred tax 630 135
Current liabilities: 1,020 5850 915 4050
Trade payables
Accrued interest 2,955 1,785
Current tax 21 27
Obligations under finance lease 84 63
Total equity and liabilities 45 3105 30 1,905
26,430 20,940

Additional information:
1. During the year ended 31 October 2017, depreciation of Sh.240 million was charged in relation to
property, plant and equipment.

2. An item of property with a carrying value of Sh.885 million was disposed of during the year
ended 31 October 2017 for Sh.750 million in cash. The loss on disposal is part of the cost of sales.

3. On 1 August 2017, the group disposed of an 80% owned subsidiary for Sh.1,170 million in cash.
The subsidiary had the following net assets as at the date of disposal.
Sh. “million”
Property, plant and equipment 2,025
Inventory 90
Trade receivables 135
Cash and bank balances 105
Trade payables (540)
Current tax (15)

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 Bank loans (600)
1,200

The subsidiary had been acquired on 1 November 2012 for a cash payment of Sh.660 million
when its net assets had a fair value of Sh.675 million and the non-controlling interest had a fair
value of Sh.150 million.
4. Additional property, plant and equipment was acquired by way of lease amounting to Sh.900
million during the year ended 31 October 2017.
5. Dividends paid by the holding company during the year ended 31 October 2017 amounted to
Sh.120 million.
6. Land was revalued upwards by the holding company by Sh.60 million during the year ended 31
October 2017.
Required:
The group statement of cash flows in accordance with International Accounting Standard (IAS) 7
“Statement of Cash Flows” for the year ended 31 October 2017.

Answer
Maneno Group
Statement of cash flow
For the year ended 31 October 2017
Sh. “million” Sh. “million”
Operating activities:
Profit before tax 699
Adjustments:
Depreciation 240
Loss on disposal of PPE (750 - 885) 135
Gain on sale of subsidiary (120)
Share of profit after tax in associate (144)
Finance cost 450
1,260
Change in working capital:
Increase in inventory (3,900 - (3,090 - 90) (900)
Increase in trade receivables (3,120 - 135) (135)
Increase in trade payables (2,955 - (1,785 - 540) 1,710
1,935
Finance cost (27 + 450 - 21) (456)
Tax paid (63 + 915 + 144 - 15 - 84 - 1,020) (3)
Net cash from operating activities 1,476
Cash flow from investing activities:
Sale of property 750
Purchase of PPE (6,690)
Dividend from associate company 54
Proceeds from sale of subsidiary (1,170 - 105) 1,065 (4,821)
Cash flow from financing activities:
Repayment of finance leases (390)
Bank loans obtained (600 + 4,200 - 3,000) 1,800
Issue of shares (6,000 + 900 - 4,500) 2,400
Dividends paid by parent (120)
Dividends paid to non-controlling interest (120)

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 Net cash flow from financing activities 3,570
Net increase in cash and cash equivalents 225
Cash and cash equivalents brought forward(w1) 420
Cash and cash equivalents carried forward(w1) 645

Workings
W1
Cash and cash equivalents
Balance b/f Balance b/f
Sh. “m” Sh. “m”
Financial assets at fair value 30 135
Cash and bank balance 390 540
420 645

W2
Sh. “m”
Goodwill-Balance b/d 390
Disposal of subsidiary(660-80×675) (120)
(150-20×675) (15)
Balance c/d 255

W3
Tax paid
Sh. “m”
Balance b/d - Current tax 63
- Deferred tax 915
Income tax (for year) 144
Less: Disposal (subsidiary) (15)
Balance c/d - current tax (84)
- Deferred tax (1,020)
3
W4
Purchase of property, plant and equipment
Property plant and equipment account
Sh. “m” Sh.“m”
Balance b/d 13,500 Depreciation 240
Revaluation gain 60 Disposal - PPE 885
Finance leases 900 - Subsidiary 2,025
Cash (balancing figure) 6,690 Balance c/d 18,000
21,150 21,150
W5
Dividend from associate
Sh. “m” Sh. “m”
Balance b/d 420
Share of PAT 144 564
Balance c/d (510)
54

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W6
Finance leases paid
Sh. “m”
Balance b/d (30 + 135) 165
New lease (PPE) 900
1,065
Balance c/d (630 + 45) (675)
390

Non-controlling interest
Sh. “m” Sh. “m”
Cash (dividends) 120 Balance b/d 525
Goodwill 15 Profit for year 75
Subsidiary (0.2×1,200) 240
Balance c/d 225 -
600 600

INTERIM FINANCIAL STATEMENTS

Interim financial statements are financial statements that cover a period of less than one year.
The concept is most commonly applied to publicly-held companies, which must issue these
statements at quarterly intervals. These entities issue three sets of interim statements per year,
which are for the first, second, and third quarters. The final reporting period of the year is
encompassed by the year-end financial statements, and so is not considered to be associated with
interim financial statements. The interim statement concept can apply to any period, such as the
last five months. Technically, the "interim" concept does not apply to the balance sheet, since
this financial statement only refers to assets, liabilities, and equity as of a specific point in time,
rather than over a period of time.

Interim financial statements contain the same documents as will be found in annual financial
statements - that is, the income statement, balance sheet, and statement of cash flows. The line
items appearing in these documents will also match the ones found in annual financial
statements. The main differences between interim and annual statements can be found in the
following areas:

 Disclosures. Some accompanying disclosures are not required in interim financial

statements, or can be presented in a more summarized format.
 Accrual basis. The basis upon which accrued expenses are made can vary within interim
reporting periods. For example, an expense could be recorded entirely within one reporting
period, or its recognition may be spread across multiple periods. These issues can make the
results and financial positions contained within interim periods appear to be somewhat
inconsistent, when reviewed on a comparative basis.
 Seasonality. The revenues generated by a business may be significantly impacted
by seasonality. If so, interim statements may reveal periods of major losses and profits,
which are not apparent in the annual financial statements.

Interim financial statements are not usually audited. Given the c ost and time required for
an audit, only the year-end financial statements are audited. If a company is publicly-held, its

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quarterly financial statements are instead reviewed. A review is conducted by outside auditors,
but the activities encompassed by a review are much reduced from those e mployed in an audit.

FINANCIAL STATEMENTS OF PENSION SCHEMES/RETIREMENT BENEFITS

PLANS
IAS 26 Accounting and Reporting by Retirement Benefit Plans outlines the requirements for the
preparation of financial statements of retirement benefit plans. It outlines the financial statements
required and discusses the measurement of various line items, particularly the actuarial present value
of promised retirement benefits for defined benefit plans.

Objective of IAS 26
The objective of IAS 26 is to specify measurement and disclosure principles for the reports of
retirement benefit plans. All plans should include in their reports a statement of changes in net assets
available for benefits, a summary of significant accounting policies and a description of the plan and
the effect of any changes in the plan during the period.

Key definitions
Retirement benefit plan: An arrangement by which an entity provides benefits (annual income or
lump sum) to employees after they terminate from service.
Defined contribution plan: A retirement benefit plan by which benefits to employees are based on
the amount of funds contributed to the plan plus investment earnings thereon.

Defined benefit plan: A retirement benefit plan by which employees receive benefits based on a
formula usually linked to employee earnings.

Defined contribution plans

The report of a defined contribution plan should contain a statement of net assets available for
benefits and a description of the funding policy. [IAS 26.13]

Defined benefit plans

The report of a defined benefit plan should contain either:
- a statement that shows the net assets available for benefits, the actuarial present value of promised
retirement benefits (distinguishing between vested benefits and non-vested benefits) and the
resulting excess or deficit; or
- a statement of net assets available for benefits, including either a note disclosing the actuarial
present value of promised retirement benefits (distinguishing between vested benefits and non-
vested benefits) or a reference to this information in an accompanying actuarial report.
If an actuarial valuation has not been prepared at the date of the report of a defined benefit plan, the
most recent valuation should be used as a base and the date of the valuation disclosed. The actuarial
present value of promised retirement benefits should be based on the benefits promised under the
terms of the plan on service rendered to date, using either current salary levels or projected salary
levels, with disclosure of the basis used. The effect of any changes in actuarial assumptions that have
had a significant effect on the actuarial present value of promised retirement benefits should also be
disclosed.

The report should explain the relationship between the actuarial present value of promised retirement
benefits and the net assets available for benefits, and the policy for the funding of promised benefits.

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Retirement benefit plan investments should be carried at fair value. For marketable securities, fair
value means market value. If fair values cannot be estimated for certain retirement benefit plan
investments, disclosure should be made of the reason why fair value is not used.

Disclosure
 Statement of net assets available for benefit, showing:
- assets at the end of the period
- basis of valuation
- details of any single investment exceeding 5% of net assets or 5% of any category of
investment
- details of investment in the employer
- liabilities other than the actuarial present value of plan benefits

 Statement of changes in net assets available for benefits, showing:

- employer contributions
- employee contributions
- investment income
- other income
- benefits paid
- administrative expenses
- other expenses
- income taxes
- profit or loss on disposal of investments
- changes in fair value of investments
- transfers to/from other plans

 Description of funding policy

 Other details about the plan
 Summary of significant accounting policies
 Description of the plan and of the effect of any changes in the plan during the period
 Disclosures for defined benefit plans:
- actuarial present value of promised benefit obligations
- description of actuarial assumptions
- description of the method used to calculate the actuarial present value of promised benefit
obligations

SEGMENT REPORTS (IFRS 8)

A segment refers to component of a business that is capable of generating revenue and incurring
expenses and whose performance is regularly reviewed by chief decision maker in the company.
IFRS8 requires that the management of an entity should provide information to the users on
departmental/segmental performance.

IFRS 8 Operating Segments requires particular classes of entities (essentially those with publicly
traded securities) to disclose information about their operating segments, products and services, the
geographical areas in which they operate, and their major customers. Information is based on internal
management reports, both in the identification of operating segments and measurement of disclosed
segment information.

Scope

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IFRS 8 applies to the separate or individual financial statements of an entity (and to the consolidated
financial statements of a group with a parent):
- whose debt or equity instruments are traded in a public market or
- that files, or is in the process of filing, its (consolidated) financial statements with a securities
commission or other regulatory organisation for the purpose of issuing any class of instruments in
a public market.

However, when both separate and consolidated financial statements for the parent are presented in a
single financial report, segment information need be presented only on the basis of the consolidated
financial statements.

Operating segments
IFRS 8 defines an operating segment as follows. An operating segment is a component of an entity:
- that engages in business activities from which it may earn revenues and incur expenses (including
revenues and expenses relating to transactions with other components of the same entity)
- whose operating results are reviewed regularly by the entity's chief operating decision maker to
make decisions about resources to be allocated to the segment and assess its performance and
- for which discrete financial information is available

Reportable segments
IFRS 8 requires an entity to report financial and descriptive information about its reportable segments.
Reportable segments are operating segments or aggregations of operating segments that meet
specified criteria:
- its reported revenue, from both external customers and intersegment sales or transfers, is 10 per
cent or more of the combined revenue, internal and external, of all operating segments,
- or the absolute measure of its reported profit or loss is 10 per cent or more of the greater, in
absolute amount, of (i) the combined reported profit of all operating segments that did not report a
loss and (ii) the combined reported loss of all operating segments that reported a loss, or
- its assets are 10 per cent or more of the combined assets of all operating segments.

Two or more operating segments may be aggregated into a single operating segment if aggregation is
consistent with the core principles of the the standard, the segments have similar economic
characteristics and are similar in various prescribed respects.

If the total external revenue reported by operating segments constitutes less than 75 per cent of the
entity's revenue, additional operating segments must be identified as reportable segments (even if they
do not meet the quantitative thresholds set out above) until at least 75 per cent of the entity's revenue
is included in reportable segments.

Disclosure requirements
Required disclosures include:
- general information about how the entity identified its operating segments and the types of
products and services from which each operating segment derives its revenues.
- judgement made by management in applying the aggregation criteria to allow two or more
operating segments to be aggregated.
- information about the profit or loss for each reportable segment, including certain specified
revenues* and expenses such as revenue from external customers and from transactions with
other segments, interest revenue and expense, depreciation and amortization, income tax expense
or income and material non-cash items.

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- a measure of total assets* and total liabilities for each reportable segment, and the amount of
investments in associates and joint ventures and the amounts of additions to certain non-current
assets ('capital expenditure')
- an explanation of the measurements of segment profit or loss, segment assets and segment
liabilities, including certain minimum disclosures, e.g. how transactions between segments are
measured, the nature of measurement differences between segment information and other
information included in the financial statements, and asymmetrical allocations to reportable
segments
- reconciliations of the totals of segment revenues, reported segment profit or loss, segment assets,
segment liabilities and other material items to corresponding items in the entity's financial
statements
- some entity-wide disclosures that are required even when an entity has only one reportable
segment, including information about each product and service or groups of products and services
- analyses of revenues and certain non-current assets by geographical area – with an expanded
requirement to disclose revenues/assets by individual foreign country (if material), irrespective of
the identification of operating segments
- Information about transactions with major customers.

FORMAT OF SEGMENTAL REPORT

XYZ Ltd
Segmental report
For the year ended 31.12.2016
Segment 1 Segment 2 Segment 3 Total
Sh. Sh. Sh. Sh.
Sales/Revenue
Total sales xxx xxx xxx xxx
Inter-segment sales (xxx) (xxx) (xxx) (xxx)
Sales to 3rd parties Xxx xxx xxx xxx
Operating Profit
Segment profit xxx xxx xxx xxx
Inter-segment profit (xxx) (xxx) (xxx) (xxx)
Profit on sale to 3rd parties Xxx xxx xxx xxx
Other items
Interest income xxx
Interest expense (xxx)
General expense (xxx)
Profit before tax xxx
Segment Assets
Identifiable assets Xxx xxx xxx xxx
Unallocated assets xxx
Segment Liabilities
Identifiable liabilities Xxx xxx xxx xxx
Unallocated liabilities xxx
xxx

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 Illustration
The following information was extracted from the books of Kerenga Ltd for the year ended
31/March/2017.
Sh. “million” Sh. “million”
Sales:
Food products 5,650
Plastics 625
Pharmaceuticals 345
Others 162 6782
Expenses:
Food products 3,335
Plastics 425
Pharmaceuticals 222
Others 200 4,182
Other items:
General operating expenses 562
Income from investments 132
Interest expenses 65
Identifiable Assets
Food products 7,320
Plastics 1,320
Pharmaceuticals 1,050
Others 665 10,355
General Assets 722

Additional information
1. Inter-segment sales for the year ended 31.3.2017 were as follows;-
Sh.
“m”
Food products 55
Plastics 72
Pharmaceuticals 21
Others 7

2. Operating profit included Sh. 33m on inter-segment sales

3. Information about inter-segment expenses is not available.

Required:
Segmental financial information according to the requirement of IFRS (operating segments)

Answer

Food Plastics Pharmaceutic Others Total

products als Sh.”m” Sh.”m”
Sh. “m” Sh.”m” Sh. “m”
Sales
Total Sales 5,650 625 345 162 6,782

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Inter-segment sales (55) (72) (21) (7) (155)
Sales to 3rd parties 5,595 553 324 155 6,627
Operating Profit
Operating profit (sales-expenses) e.g.
(5,650-3,335) 2,315 200 123 (38) 2,600
Inter-segment profit (33)
Profit on sale to 3rd parties 2,567
Other items
General operating expenses (562)
Income from investments 132
Interest expense (65)
Profit before tax 2,072
Segment Assets
Identifiable assets 7,320 1,320 1,050 665 10,355
General Assets 722
11,077

Illustration
Sepetu Group Ltd. is a distributor of four products, P1 P2, P3 and P4. The management of the group has
identified each product as constituting a reporting segment; namely segment P 1, segment P2, segment
P3 and segment P4.
The management has also identified the countries of operation as Country C1, C2, C3, C4 and C5.

The following is a summarised set of financial statements for the group for the year ended 30
September 2017:
Sepetu Group Ltd.
Income statement for the year ended 30 September 2017
Sh. ‘million’ Sh. ‘million’
Revenue 20,000
Cost of sales (15,000)
Gross profit 5,000
Other incomes 500
5,500
Expenses:
Distribution costs 1,800
Administrative expenses 1,200
Finance cost 250 (3,250)
Profit before tax 2,250
Less tax expenses (250)
Profit after tax for the year 2,000

Sepetu Group Ltd.

Statement of financial position as at 30 September 2017
Sh. ‘million’ Sh. ‘million’
Assets
Non-current assets:
Property, plant and equipment Intangible 16,000
assets 2,000
18,000

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 Current assets:
Inventory 2,000
Trade receivables 1,500
Cash 1,000 4,500
22,500
Capital and liabilities:
Equity capital:
Ordinary shares 11,000
Retained earnings 4,000
Shareholders’ funds 15,000
Non-current liabilities:
Development loan 4,500
Current liabilities:
Trade payables 2,500
Current tax 500 3,000
22,500

Additional information:
1. The total depreciation for property, plant and equipment was Sh.120 million apportionable in the
ratio of 1.5: 2: 1.5:1 for products P1 P2, P3 and P4 respectively.
2. Details necessary for preparation of segment reports in relation to revenues and respective
segment profits were as follows:

Segment Revenue Intersegment Segment Intersegment

revenue profit profit
Sh. Sh. “million” before tax Sh. “million”
“million” Sh.
“million”
P1 6,500 400 800 50
P2 8,000 600 600 55
P3 5,500 800 700 70
P4 2,000 200 350 25

3. Other incomes and expenses were as follows:

Segment Other incomes- Cost of Amortisation of
Interest and finance intangibles
commission Sh. “million” Sh. “million”
Sh. “million”
P1 200 90 30
P2 200 60 10
P3 10 75 10
P4 - 25 5

4. The summary of assets and liabilities of the segments were as given below:
Segment Assets Liabilities
Sh. Sh.
“million” “million”

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 P1 9,000 1,600
P2 4,000 2,000
P3 5,000 1,400
P4 2,500 1,500
Unallocated 2,000 1,000

5. The following is a summary of financial information relating to revenue and non-current assets
within the countries the group operates in:

Segment Assets Liabilities

Sh. “million” Sh. “million”
C1 6,000 2,500
C2 5,500 3,500
C3 3,500 4,000
C4 2,500 5,000
C5 2,500 3,000

Required;
With reference to IFRS 8 (Operating Segments), prepare:
i) A segment report for the group for the year ended 30 September 2017.
ii) A reconciliation statement for revenue, profit or loss, total assets and liabilities.

Answer
(i) A segment report for the group
Sepetu Group
Segmental report
For the year ended 30th September 2017
Segment p1 Segment Segment Segment Total
Sh. ‘m’ p2 p3 p4 Sh. ‘m’
Sh. ‘m’ Sh. ‘m’ Sh. ‘m’
Revenue/Sales
Total revenue 6,500 8,000 5,500 2000 22,000
Inter-segment revenue (400) (600) (800) (200) (2000)
Revenue from 3rd parties 6,100 7,400 4,700 1,800 20,000
Operating Profit
Operating profit(not given, work out) 800 565 785 425 2,575
Inter-segment profit (50) (55) (70) (25) (200)
Profit on sale to 3rd parties 750 510 715 400 2,375
Other items
Interest and commission income 200 200 100 - 500
Finance cost (90) (60) (75) (25) (250)
Amortization (30) (10) (10) (5) (55)
Depreciation (1.5:2:1.5:1) (30) (40) (30) (20) (120)
Profit before tax (PBT) (Given) 800 600 700 350 2,450
Segment Assets
Identifiable Assets 9,000 4,000 5,000 2,500 20,500
Unallocated Assets 2,000

Page 107
 22,500
Segment liabilities
Identifiable liabilities 1,600 2,000 1,400 1500 6,500
Unallocated liabilities 1,000
7,500

HINT
Operating profit=PBT + interest +any non-cash expenses-other incomes + intersegment income (the
values can be gotten from the segmental report given above)

Segment 1
800+30+30+90-200+20=800

Segment 2
600+40+10+60-200+55=565

(ii) A reconciliation statement

Sepetu Group
Reconciliation statement
For The Year Ended 30th September 2017
Sh.”m” Sh.”m”
(a)Revenue
As per segmental report
Total revenue 22,000 20,000 R
Less: inter-segment revenue (2,000) 20,000
(b)Profit/Loss
As per the income statement
As per segmental report
Total profit before tax 2,450 2,250 R
Less inter-segment profit (200) 2,250

(c)Asset
As per the statement of financial position 22,500
As per the segmental report R
Identifiable Assets 20,500
Unallocated 2,000 22,500

(d)Liabilities
As per statement of financial position 7,500
As per segmental report R
Identifiable liabilities 6,500
Unallocated 1,000 7,500

EARNINGS PER SHARE (IAS33)

Earnings per share (EPS) is the profit attributable to the ordinary shareholders for every ordinary
shares held in the company.
IAS 33 requires an enterprise to calculate and present two types of EPS. Namely;-

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1. Basic EPS
2. Diluted EPS

IAS 33 Earnings per Share sets out how to calculate both basic earnings per share (EPS) and diluted
EPS. The calculation of Basic EPS is based on the weighted average number of ordinary shares
outstanding during the period, whereas diluted EPS also includes dilutive potential ordinary shares
(such as options and convertible instruments) if they meet certain criteria.

Objective of IAS 33
The objective of IAS 33 is to prescribe principles for determining and presenting earnings per share
(EPS) amounts to improve performance comparisons between different entities in the same reporting
period and between different reporting periods for the same entity.

Scope
IAS 33 applies to entities whose securities are publicly traded or that are in the process of issuing
securities to the public. Other entities that choose to present EPS information must also comply with
IAS 33.

If both parent and consolidated statements are presented in a single report, EPS is required
only for the consolidated statements.

Key definitions
Ordinary share: also known as a common share or common stock. An equity instrument that is
subordinate to all other classes of equity instruments.

Potential ordinary share: a financial instrument or other contract that may entitle its holder to ordinary
shares.

Dilution: a reduction in earnings per share or an increase in loss per share resulting from the
assumption that convertible instruments are converted, that options or warrants are exercised, or that
ordinary shares are issued upon the satisfaction of specified conditions.

Antidilution: an increase in earnings per share or a reduction in loss per share resulting from the
assumption that convertible instruments are converted, that options or warrants are exercised, or that
ordinary shares are issued upon the satisfaction of specified conditions.

Requirement to present EPS

An entity whose securities are publicly traded (or that is in process of public issuance) must present,
on the face of the statement of comprehensive income, basic and diluted EPS for:
- Profit or loss from continuing operations attributable to the ordinary equity holders of the parent
entity; and
- Profit or loss attributable to the ordinary equity holders of the parent entity for the period for each
class of ordinary shares that has a different right to share in profit for the period.

If an entity presents the components of profit or loss in a separate income statement, it presents EPS
only in that separate statement.

Basic and diluted EPS must be presented with equal prominence for all periods presented.

Page 109
Basic and diluted EPS must be presented even if the amounts are negative (that is, a loss per share).

If an entity reports a discontinued operation, basic and diluted amounts per share must be disclosed
for the discontinued operation either on the face of the of comprehensive income (or separate income
statement if presented) or in the notes to the financial statements.

Basic EPS
Basic EPS is calculated by dividing profit or loss attributable to ordinary equity holders of the parent
entity (the numerator) by the weighted average number of ordinary shares outstanding (the
denominator) during the period.

The earnings numerators (profit or loss from continuing operations and net profit or loss) used for the
calculation should be after deducting all expenses including taxes, minority interests, and preference
dividends.

The denominator (number of shares) is calculated by adjusting the shares in issue at the beginning of
the period by the number of shares bought back or issued during the period, multiplied by a time-
weighting factor. IAS 33 includes guidance on appropriate recognition dates for shares issued in
various circumstances.

Contingently issuable shares are included in the basic EPS denominator when the contingency has
been met.

Basic EPS
Basic EPS is calculated by dividing profit or loss for the period by the weighted average number of
ordinary shares outstanding during the period.

𝑃𝑟𝑜𝑓𝑖𝑡 𝑎𝑡𝑡𝑟𝑖𝑏𝑢𝑡𝑎𝑏𝑙𝑒 𝑡𝑜 𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠 (𝑃𝐴𝑂𝑆)

Basic EPS = 𝑊𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦𝑠ℎ𝑎𝑟𝑒𝑠 = 𝑊𝐴𝑁𝑂𝑆

Where profit attributable to ordinary shareholders is given as follows

Sh.
Reported profit for the year xxx
Less: Preference dividends (xxx)
Less: Profit Attributable to NCI (xxx)
Xxx

Weighted average number of ordinary shares = Represent outstanding number of ordinary shares
weighted for time factor.

Illustration
Assume that a company had 2 million ordinary shares outstanding as at 1 st January, 2017. On 31st
March 2017 the company issued 800,000 new ordinary shares for cash.
Required:
Calculate the Weighted average number of ordinary to be used in the EPS computation.

Answer
WANOS
Option 1 Sh.
1st Jan – 31st March 3
2,000,000 × /12 500,000

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1st April – 31st December 2,800,000 × 9/12 2,100,000
2,600,000

Option 2 Sh.
1st Jan – 31st December 12
2,000,000 × /12 2,000,000

31st March – 31st Dec 800,000 × 9/12 600,000

2,600,000

Illustration
The following are the details from consolidated income statement of Maendeleo Ltd for year ended
20thJune 2017.

Sh. ‘000’
Profit from ordinary activities after tax 406,500
Non-controllable interest (17,500)
Profit attributable to members 389,000
Preference dividends paid (7,500)
Profit attributable to ordinary shareholders 381,500
Ordinary dividends proposed (17,500)
Retained earnings for the year 364,000

The company has 750m sh.5 ordinary shares outstanding throughout the accounting period.
Required;-
Calculate the diluted earnings per share.

Answer
𝑃𝑟𝑜𝑓𝑖𝑡 𝑎𝑡𝑡𝑟𝑖𝑏𝑢𝑡𝑎𝑏𝑙𝑒 𝑡𝑜 𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠
Earnings per share= 𝑊𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝑎𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑠ℎ𝑎𝑟𝑒𝑠

𝑃𝐴𝑂𝑆 381,500
Earnings per share = 𝑊𝐴𝑁𝑂𝑆 = 750,000 × 12/12 = 0.509 per share

Issue of new shares ranking for Dividends in the period of issue for cash at full market price

Illustration
The issue and fully paid share capital of Maendeleo limited on 1st January 2017 comprised of
4,000,000 7% cumulative preference share of Sh.10 each and 3,000,000 ordinary shares of sh.10 each.

On 1st September 2017 a further 600,000 ordinary shares were issued and fully paid for in cash. The
PAT for the period was sh.10, 976,000.
Required:
Calculate the BEPS (basic earnings per share)

Answer
𝑝𝑟𝑜𝑓𝑖𝑡 𝑎𝑡𝑡𝑟𝑖𝑏𝑢𝑡𝑎𝑏𝑙𝑒 𝑡𝑜 𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒𝑠
EPS = 𝑤𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝑎𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑠ℎ𝑎𝑟𝑒𝑠

Page 111
WANOS
Sh.
12
WANOS 3,000,000 × /12 3,000,000
600,000 ×4/12 200,000
3,200,000

Sh.
Profit attributable to ordinary shareholders 10,976,000
Less pref. (40,000,000 × 7%) (2,800,000)
Profit attributable to ordinary shareholders 8,176,000

8,176,000
EPS = 3,200,000 = 2.555 per share

Issue of shares as part of purchase consideration of the subsidiary company

The ordinary shares issued as part of the cost combination are included in the WANOS from the date
on which the acquisition was recognized.

Illustration
Details of the issued and fully paid share capital of XYZ Limited as at 1stJanuary2017 are as follows.
 80,000 7%, cumulative preference share of Sh.10 each
 4,200,000 ordinary shares of Sh10 each.
On 1st August 2017 the company issued 20,000 7% cumulative preference and 600,000 ordinary
shares as consideration of an 80% controlling interest in another company which had become a
subsidiary on 1st January 2017.
The profit for the year ended 31st December 2017 was sh.27, 320,000 for the group of which sh.740,
000 was attributable to the minority interest (NCI) in the subsidiary.
Required:
Calculate the basic EPS

Answer
𝑝𝑟𝑜𝑓𝑖𝑡 𝑎𝑡𝑡𝑟𝑖𝑏𝑢𝑡𝑎𝑏𝑙𝑒 𝑡𝑜 𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠
EPS = 𝑤𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝑎𝑣𝑒𝑤𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑠ℎ𝑎𝑟𝑒𝑠

Profit attributable to ordinary shareholders computation

Sh.
Reported profit for the year (27,320,000 – 740,000) 26,580,000
Less preference dividends 12/12 (80,000 ×10) 7% (56,000)
Preference dividends 12/12×(20,000×10) 7% (14,000)
26,510,000

WANOS
Sh.
12
WANOS 4,200,000 × /12 4,200,000
600,000 ×12/12 600,000
4,800,000

26,510,000
Basic earnings per share = = Sh. 5.52 per share
4,800,000

Page 112
HINT
The shares for acquisition will be assumed that they were there for a whole year albeit the fact that
they were issued at the middle for the year. The reason for this is that the subsidiary had been
acquired at the beginning of the year and issuance of the shares at the middle of the year was for
completion of the process.

Issue of shares without corresponding change in resources

Ordinary shares may be issued or the number of ordinary shares outstanding may be reduced without
a corresponding change in resources i.e. without new shares from the public.

Examples include;-
i. Bonus issue/share capitalization
ii. Rights issue
iii. Share split
iv. Reverse split

Bonus issue
Is the issue of shares for no consideration (for free) to the existing shareholders in proportion to their
shareholdings. The number of ordinary shares outstanding is therefore increased without an increase
in resources.
For the purposes of computing EPS the number of ordinary shares outstanding before the bonus
should be adjusted for the proportional change in the number of ordinary shares outstanding as if the
event (bonus) had occurred at the beginning of the earliest reported period.

Illustration
The summarized income statement of ABC Ltd for the year ended 31st December 2017 is as follows:

Sh. ‘000’
Profit after tax 1,218
Non-controlling interest (18)
1,200
Preference dividend (including arrears) (315)
885
Ordinary dividend [750]
Retained earnings 135
Retained earnings b/d 665
Retained earnings c/d 800

The company had 500,000 ordinary shares in 1st January 2017 and sh.1, 500,000, 7% Preference
shares. The company made a bonus issue of 1 for 5 shares on 31st March 2017.

Required;-
Calculate the basic EPS

Answer

Page 113
Profit after tax
Sh. ‘000’
Profit 1,200
Less: preference dividend (7% × 1,500,000) (105)
1,095

Weighted average number of shares

Sh. ‘000’
1 January – 31/December 500,000× /12
st 12
500
31st March – 31 December (Bonus) (1/5 ×500,000) ×12/12 100
600

1,095
Basic EPS = 600
= sh.1.825 per share

HINT
Bonus shares are presumed to have been there for a whole year (regardless of the date of issue) hence
12
/12 is used.

Restatement of EPS
Restated EPS is comparative computation of EPS based on assumption of “what if” the bonus issue
would have taken place in the previous year.

Illustration
Assuming that the earnings for 2016 after deducting preference dividends were sh.1, 005,000 and that
the ordinary shares outstanding throughout the period were 400,000.
Required:
Compute the restated EPS taking into account the effect of the bonus issue

Answer
Weighted average number of ordinary shares
Sh.
As at 1st January 2016 = 400,000 × 12/12 400,000
Bonus issue 400,000 × 1/5 80,000
480,000

1,005,000
Basic EPS = = Sh.2.09 per share
480,000

Therefore the company’s performance slightly decreased in the year 2017 compared to 2016.

Rights issue
In a right issue the exercise price of the issued shares is less than the fair value of the shares.
Therefore the price at which shares are issued reflects a bonus element.
In a right issue the weighted average number of ordinary shares (WANOS) should be included in the
basic EPS computation after taking into consideration the theoretical ex-rights price.

Page 114
WANOS=
𝑓𝑎𝑖𝑟 𝑣𝑎𝑙𝑢𝑒 𝑏𝑒𝑓𝑜𝑟𝑒 𝑟𝑖𝑔ℎ𝑡 𝑖𝑠𝑠𝑢𝑒
[𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦𝑠ℎ𝑎𝑟𝑒𝑠 𝑏𝑒𝑓𝑜𝑟𝑒 𝑟𝑖𝑔ℎ𝑡 𝑖𝑠𝑠𝑢𝑒 𝑥 𝑡ℎ𝑒𝑜𝑟𝑒𝑡𝑖𝑐𝑎𝑙 𝑒𝑥−𝑟𝑖𝑔ℎ𝑡𝑠 𝑝𝑟𝑖𝑐𝑒 𝑥 𝑝𝑒𝑟𝑖𝑜𝑑 𝑏𝑒𝑓𝑜𝑟𝑒 𝑡ℎ𝑒 𝑟𝑖𝑔ℎ𝑡 𝑖𝑠𝑠𝑢𝑒]
+
[𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒𝑠 𝑎𝑓𝑡𝑒𝑟 𝑟𝑖𝑔ℎ𝑡𝑠 𝑖𝑠𝑠𝑢𝑒 𝑥 𝑃𝑒𝑟𝑖𝑜𝑑 𝑎𝑓𝑡𝑒𝑟 𝑟𝑖𝑔ℎ𝑡𝑠 𝑖𝑠𝑠𝑢𝑒]

Where TRP =
𝑆ℎ𝑎𝑟𝑒𝑠 𝑡ℎ𝑟𝑜𝑢𝑔ℎ 𝑟𝑖𝑔ℎ𝑡 𝑖𝑠𝑠𝑢𝑒 𝑥
[𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒𝑠 𝑏𝑒𝑓𝑜𝑟𝑒 𝑟𝑖𝑔ℎ𝑡 𝑖𝑠𝑠𝑢𝑒 𝑥 𝑓𝑎𝑖𝑟𝑣𝑎𝑙𝑢𝑒 𝑏𝑒𝑓𝑜𝑟𝑒 𝑟𝑖𝑔ℎ𝑡 𝑖𝑠𝑠𝑢𝑒] + [ ]
𝑒𝑥𝑒𝑟𝑐𝑖𝑠𝑒 𝑝𝑟𝑖𝑐𝑒
𝑂𝑟𝑑𝑖𝑛𝑎𝑟𝑦𝑠ℎ𝑎𝑟𝑒𝑠 𝑎𝑓𝑡𝑒𝑟 𝑡ℎ𝑒 𝑟𝑖𝑔ℎ𝑡𝑠 𝑖𝑠𝑠𝑢𝑒

Where:
Theoretical ex-rights price represents the value of the shares presented to the stock market prior to the
rights issue.

Illustration
The issued and fully paid share capital of ABC Ltd on 1st January 2017 comprised 100,000 7%
preference shares of sh.10 each and 4,000,000 ordinary shares of sh.10 each.
On 1st October 2017 the company decided a 1 for 4 rights issue of ordinary shares at sh.14 per share.
The market price of ordinary shares on the last day of quotation on a cum-right basis was sh.24 per
share.

Required:
(a)Compute the EPS figure for year ended 31st December 2017 assuming that the profit after tax for
the year was sh. 1,155,400.
(b)Compute the restated EPS figure given that previous year’s earnings per share was sh.0.28

Answer
𝑃𝑟𝑜𝑓𝑖𝑡 𝑎𝑡𝑡𝑟𝑖𝑏𝑢𝑡𝑎𝑏𝑙𝑒 𝑡𝑜 𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠
Basic Earnings per share = 𝑊𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝑎𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑜𝑟𝑑𝑖𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒𝑠

Profit attributable to ordinary shareholders

Sh.
Profit after tax 1,155,400
Less preference Dividends
(7%×[100,000×10]) (70,000)
1,085,400

Weighted average number of ordinary shares [WANOS]

24
WANOS = [4,000,000 × 𝑇𝑅𝑃 × 9/12] + [5,000,000 × 3/12]

[4,000,000 ×𝑆ℎ.24]+[1,000,000 𝑥𝑠ℎ14]

𝑇𝑅𝑃 = = sh.22
5,000,000

Page 115
OR
Sh.
1 new @ 14 14
4 old @ 24 96
110

110
5
= 22
24 9 3
WANOS= [4,000,000 × 22
× 12
+ [5,000,000 × 12= 4,522,727

1,085,400
Basic EPS = 4,522,727 = 0.24 per share

Restated Earnings Per Share (calculated in basis what is right issue last year)

𝑡ℎ𝑒𝑜𝑟𝑒𝑡𝑖𝑐𝑎𝑙 𝑒𝑥−𝑟𝑖𝑔ℎ𝑡𝑠
Earnings per share × 𝐹𝑎𝑖𝑟 𝑣𝑎𝑙𝑢𝑒

22
0.28 × 24 = sh.0.26 per share

Comment:
The company performance slightly reduced in year 2017 compared to the year 2016.

Share split and reverse split

A share split involves the reduction of par value of ordinary shares in order to make them affordable.
Reverse split on the other hand involves consolidation of the par values of ordinary shares.
The main objective is to avoid the dilution effect.
NB;
Both share split and reverse split should be weighted for time factor from the earliest reported period
from the date such share were incorporated in capital structure.

Illustration
The capital structure of Chama Ltd. as at 31 March 2017 was as follows:

Sh. "million"
6 million ordinary shares of Sh.5 each 30
2 million 10% cumulative preference shares 20
12% convertible bond 25

Additional information:
1) During the year ended 31 March 2018, the company reported profit after tax of Sh.85.6 million.
2) On 1 May 2017, the company issued 1.5 million ordinary shares at full market price.
3) On 31 August 2017, the company made a rights issue of 1 ordinary share for every 4 ordinary
shares held on that date. The exercise price was Sh.36 per share and the cum-rights price on the
last quotation was Sh.48 per share.
4) On 1 January 2018, holders of Sh.10 million 12% convertible bonds exercised their conversion
right. Each Sh.l0, 000 of the bond is convertible into 250 ordinary shares of Sh.5 each.
5) On 1 January 2018, the employees of the company were granted share options to purchase 1
million ordinary shares for Sh.30 each. The average market price was Sh.48 per share. As at 31
March 2018, none of the employees had exercised their options.

Page 116
6) The corporation tax rate is 30%
Required:
i) Basic earnings per share (EPS) for the year ended 31 March 2013.
ii) Diluted earnings per share (EPS) for the year ended 31 March 2013.

Answer
𝑃𝐴𝑂𝑆
Basic EPS =
𝑊𝐴𝑁𝑂𝑆

Sh.
Profit after tax 85.6
less preference dividend (10% ×20m) [2]
83.6

Weighted average number of ordinary shares

Date Details Shares
1.4.2017 Balance b/d 6
1.5.2017 New issue 1.5
31.8.2017 Right issue(1/4×[6+1.5] 1.875
1.1.2018 10×250 0.25
Conversion of bonds[ 10,000 ]

Theoretical ex-right price(TRP)

Sh.
1 new share @ 36 36
4 Old @ 48 192
Total 228

228
5
= 45.6

Weighted number of ordinary shares

Sh.
5 48 3.289
7.5 × /12 × 45.6
5.469
9.375×7/12
0.0625
0.25 × 3/12
8.8205

83.6
Basic Earnings per share= 8.8205 = sh.9.48 per share

DILUTED EPS
Basic EPS is said to be diluted at convertible securities have been converted or are to be converted
into ordinary shares.

Convertible securities are considered to be potential ordinary shares since they bear a conversion
“clause” therefore diluted EPS is computed on assumption that this securities will be converted into
ordinary shares.

Page 117
 Steps
1. Determine the order of ranking the securities i.e. securities with the least effect on basic EPS
should be ranked first for diluted EPS computation.
2. Compute the diluted EPS based on the ranks in step 1 above.
3. The least value of EPS is considered to be the diluted EPS.

Important Notes to note

1. After a share split/reverse split has taken place any subsequent issue of shares must be adjusted
for such a split or reverse.
2. In computation of basic EPS the entity should take into consideration profit from continuing and
discontinuing operations.
However in computation of DEPS the entity should take into consideration only profit from
continuing operations.

HINT
Basic EPS = Continuing + Discontinued
Diluted EPS = Continued

DEPS= diluted earnings per share

Illustration
Winam Ltd. a limited company, has an authorized share capital of Sh.4,000 million comprising 600
million ordinary shares each of Sh.5 par value and 50 million 10% convertible preference shares each
of Sh.20 par value.

On 1 January 2016, the company had in issue 160 million ordinary shares and 30 million 10%
convertible preference shares.
All the preference shares were fully paid while only 100 million ordinary shares were fully paid, the
balance of the shares being 80% paid.
The following transactions took place in the years ended 31 December 2016 and 31 December 2017:
1. The partly paid ordinary shares of Sh.5 par value were fully paid on 1 April 2016.
2. On 1 June 2016, the company issued for consideration 72 million ordinary shares of Sh.5 par
value at Sh.8 each in full settlement, the market price of the ordinary shares on this day being
Sh.10 per share.
3. On 1 September 2016, the company issued 48 million ordinary shares of Sh.5 each at fair value of
Sh.l2 per share in settlement of the purchase consideration on the acquisition of property.
4. On 1 March 2017, the company issued one fully paid bonus share for every 5 ordinary shares
outstanding as at 31 December 2017.
5. Due to low market price per ordinary share at the securities exchange, the company decided to
effect a consolidation of the shares (reverse split) and issued one new ordinary share of Sh.10 par
value for every two outstanding and fully paid ordinary shares of Sh.5 par value. This was done
on 1 August 2017.
6. On 1 October 2017, holders of 10 million 10% convertible preference shares converted these
shares into ordinary shares. The preference shares were convertible into eight fully paid ordinary
shares of Sh.5 for every two fully paid 10% preference shares of Sh.20 each. An appropriate
adjustment for the number of ordinary shares issuable on conversion of preference shares is to be
effected for any ordinary share split or consolidation that may be carried out. Preference
shareholders are entitled to dividends up to the date of conversion of the shares.
7. The company made a net profit after tax of Sh.225.75 million in the year ended 31 December
2016 and Sh.262.6 million in the year ended 31 December 2017.

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Required;-
i) Basic Earnings per Share (EPS) for each of the two years ended 31 December 2016 and 31
December 2017.
ii) The restated Basic Earnings per Share (EPS) for the year ended 31 December 2016 as at 31
December 2017.

Answer
𝑃𝑟𝑜𝑓𝑖𝑡 𝑎𝑡𝑡𝑟𝑖𝑏𝑢𝑡𝑎𝑏𝑙𝑒 𝑡𝑜 𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠
Basic Earnings per share = 𝑊𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝑎𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠

Profit attributable to ordinary shareholders

2016 2017
Sh. ‘m’ Sh. ‘m’
Profit after tax 225.75 262.6
Less: preference dividends
Convertible (10% x 10m x 20 x 9/12) - (15)

Unconverted
2016 (10%×30m×sh20) (60) -
2017 (10%×20m ×sh20) - (40)
165.75 207.60

Date Details Shares Weight WANOS

1.1.16 Balance b/d full paid 100 12/12 100

partly paid [60 × 80%] 48 12/12 48

1.4.16 Partly paid 60 ×20% = 12 12 9/12 9

1.6.16 New issue

8 × 72 57.6 7/12 33.6
( 10 ) = 576

1.9.16
New issue
48 4/12 16
265.6 206.60

165.75
Basic Earnings per share = = sh.0.80 per share.
206.60

Weighted average number of ordinary shares [WANOS] (2017)

Date Details Shares Weight WANOS
1/1/17 Balance b/d 265.6 12/12 265.6

1/3/17 Bonus
(1/5×265.6) 53.12 12/12 53.12

1/8/2017 Reverse split

(318.72) × ½ (159.36) 12/12 (159.36)

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1/10/2017 Conversion of preference
10 𝑥 8 20 3/12 5
( 2 )×½
164.36

207.6
Basic EPS = 164.36 = sh.1.26 per share

HINT
Restatements comes in where there is;-
- Bonus
- Split
- Reverse
- Right issue

Restated Earnings per share

Weighted average number of ordinary shares = 206.60

Assuming
Bonus issue
(1/5×206.6) = 41.32

Assuming reverse
Split
206.60+41.32 247.92
(247.92×½) 123.96
123.96

165.75
Basic Earnings per shares [2016] = 123.96 = Sh.1.34 per share

Comment
The company performance slightly decreased in 2014 compared to 2013.

Illustration
Uwendo Ltd is a listed company. The issued share capital of the company as at 1 April 2008 was as
follows:
 500 million equity shares of Shs. 5 each.
 10 million Sh. 11 redeemable preference shares with an effective finance cost of 10% per annum.
The carrying amount of the non-equity shares in the financial statements was equal to the par value.

Extracts from the draft income statement of Uwendo Ltd for the year ended 31 March 2009 are
provided below:
Details Sh. ‘million’
Revenue 250
Cost of sales (130)
Gross profit 120
Operating expenses 40
Operating profit 80
Exceptional gain 10

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 Interest payable on bank loan (25)
Profit before taxation 65
Taxation (20)
Profit after taxation 45

The company has a share option scheme in operation. The terms of the option scheme are that option
holders are entitled to purchase one equity share for every option held at a price of sh. 15 per share.
As at 1 April 2008, 100 million options were in issue and on 1 October 2008, 50 million options were
exercised and an additional 70 million options issued under the same terms.
The average market price of an equity share of Uwendo Ltd was Sh. 20 in the year to 31 March 2009.
Required:
i) The basic earnings per share (EPS) for the year ended 31 March 2009.
ii) The diluted EPS for the year ended 31 March 2009.

Answer
(i) Earnings per share (EPS)
𝐸𝑎𝑟𝑛𝑖𝑛𝑔𝑠 𝑡𝑜 𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑠ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟𝑠
EPS =
𝑊𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝑎𝑣𝑒𝑟𝑔𝑎𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑠ℎ𝑎𝑟𝑒𝑠

Basic Earnings to ordinary shareholders

Sh. ‘million’
Draft profit after tax 45
Preference dividends (10% ×110M) [11]
34

Weighted Average No. of shares

Date Weighted average number of
shares in millions
1 April 2008 12 500
500M ×
1 October 2008 (options) 12
50𝑚 ×15 6
At full price × 12 months 18.75
𝑠ℎ.20

50𝑀 ×15 12.50

Bonus element (50M - )
20 -
531.25

34
Basic EPS = = 𝑠ℎ. 0.064
531.25

(ii) Diluted EPS

Weighted average number of potential ordinary shares
Millions
Weighted average number of shares in issue 531.25
Potential shares under option (bonus element) 21.25
552.50

50𝑀 ×𝑠ℎ.15 70𝑀 ×15 6

50M shares - + (70𝑀 − ) 12 𝑚𝑜𝑛𝑡ℎ𝑠
𝑠ℎ.20 𝑠ℎ.20

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 𝑠ℎ.34𝑀
Diluted EPS = = 𝑠ℎ. 0.062
522.50

Differences between basic earnings per share (BEPS) and diluted earnings per share (DEPS)
 One difference between BEPS and DEPS is the number of share they take into account in the
denominator. In the calculation of basic earnings per share, the outstanding equity share capital
during the financial year is taken into consideration. The diluted earnings per share takes into
account, besides the outstanding shares, the existence of securities with no current claim on equity
earnings, but which will give rise to such a claim in future. This information gives potential
investors an idea about future changes in the EPS.
 The second difference is that DEPS takes into account the fact that potential ordinary shares shall
be treated as dilutive when and only when, their conversion to ordinary shares would decrease
earnings per share or increase loss per share from continuing operations. This implies that the
impact of potential ordinary shares with anti-dilutive effect on EPS is not taken into account when
calculating the DEPS.

IFRS FOR SMALL AND MEDIUM SIZED ENTITIES

IFRS for SMEs is a self-contained standard, incorporating accounting principles based on existing
IFRS, which have been simplified to suit the entities that fall within its scope. There are a number of
accounting practices and disclosures that may not provide useful information for the users of SME
financial statements. As a result, the standard does not address the following topics:
1. Earnings per share
2. Interim financial reporting
3. Segment reporting
4. Insurance (because entities that issue insurance contracts are not eligible to use the standard)
5. Assets held for sale.
In addition, there are certain accounting treatments that are not allowable under the standard.
Examples are the revaluation model for property, plant and equipment and intangible assets, and
proportionate consolidation for investments in jointly controlled entities. Generally, there are simpler
methods of accounting available to SMEs than the disallowed accounting practices. The standard also
eliminates the 'available-for-sale' and 'held-to maturity' classifications of IAS 39, Financial
Instruments: Recognition and Measurement.
All financial instruments are measured at amortised cost using the effective interest method, except
that investments in non-convertible and non-puttable ordinary and preference shares that are publicly
traded, or whose fair value can otherwise be measured reliably, are measured at fair value through
profit or loss. All amortised cost instruments must be tested for impairment. At the same time, the
standard simplifies the hedge accounting and derecognition requirements. However, SMEs can also
choose to apply IAS 39 in full.
The standard also contains a section on transition, which allows all of the exemptions in IFRS 1,
First-Time Adoption of International Financial Reporting Standards. It also contains 'impracticability'
exemptions for comparative information and the restatement of the opening statement of financial
position. As a result of the above, IFRS require SMEs to comply with less than 10% of the volume of
accounting requirements applicable to listed companies.

What is an SME?
There is no universally agreed definition of an SME. No single definition can capture all the
dimensions of a small- or medium-sized enterprise, nor can it be expected to reflect the differences
between firms, sectors, or countries at different levels of development.

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Most definitions based on size use measures such as number of employees, balance sheet total, or
annual turnover. However, none of these measures apply well across national borders. IFRS for SMEs
is intended for use by entities that have no public accountability (ie, their debt or equity instruments
are not publicly traded).

Ultimately, the decision regarding which entities should use IFRS for SMEs stays with national
regulatory authorities and standard-setters. These bodies will often specify more detailed eligibility
criteria. If an entity opts to use IFRS for SMEs, it must follow the standard in its entirety – it cannot
cherry pick between the requirements of IFRS for SMEs and the full set.

The IASB makes it clear that the prime users of IFRS are the capital markets. This means that IFRS
are primarily designed for quoted companies and not SMEs. The vast majority of the world's
companies are small and privately owned, and it could be argued that full International Financial
Reporting Standards are not relevant to their needs or to their users. It is often thought that small
business managers perceive the cost of compliance with accounting standards to be greater than their
benefit.
Because of this, the IFRS for SMEs makes numerous simplifications to the recognition, measurement
and disclosure requirements in full IFRS.

Examples of these simplifications are:

1. Goodwill and other indefinite-life intangibles are amortised over their useful lives, but if useful
life cannot be reliably estimated, then 10 years.
2. A simplified calculation is allowed if measurement of defined benefit pension plan obligations
(under the projected unit credit method) involves undue cost or effort.
3. The cost model is permitted for investments in associates and joint ventures.

The main argument for separate SME accounting standard is the undue cost burden of reporting,
which is proportionately heavier for smaller firms. The cost of applying the full set of IFRS may
simply not be justified on the basis of user needs.
Further, much of the current reporting framework is based on the needs of large business, so SMEs
perceive that the full statutory financial statements are less relevant to the users of SME accounts.
SMEs also use financial statements for a narrower range of decisions, as they have less complex
transactions and therefore less need for a sophisticated analysis of financial statements. Therefore, the
disclosure requirements in the IFRS for SMEs are also substantially reduced.

RELATED PARTIES TRANSACTIONS (ISA 24)

A related party refers to the person or an entity that is related to the reporting entity.

Terminologies
1) Control
This refers to the power to govern financial and operating policies of an entity.
Control is assumed to exist if the investor holds more than 50% of the voting rights.
2) Joint control
Refers to contractual agreement over sharing of control over an economic entity
3) Significant influence
It refers to the power to participate in the financial and operating policies of an entity but without
control over such entities.
4) Key management personnel
Refers to those persons having authority and are responsible for planning, directing and
controlling the activities of entity.

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5) Close member of the family
This refers to those family members who may be expected to influence or to be influenced by the
person related to the entity.

IAS 24 Related Party Disclosures requires disclosures about transactions and outstanding balances
with an entity's related parties. The standard defines various classes of entities and people as related
parties and sets out the disclosures required in respect of those parties, including the compensation of
key management personnel.

The objective of IAS 24 is to ensure that an entity's financial statements contain the disclosures
necessary to draw attention to the possibility that its financial position and profit or loss may have
been affected by the existence of related parties and by transactions and outstanding balances with
such parties.

(a) A person or a close member of that person's family is related to a reporting entity if that person:
 has control or joint control over the reporting entity;
 has significant influence over the reporting entity; or
 Is a member of the key management personnel of the reporting entity or of a parent of the
reporting entity.

(b) An entity is related to a reporting entity if any of the following conditions applies:
 The entity and the reporting entity are members of the same group (which means that each parent,
subsidiary and fellow subsidiary is related to the others).
 One entity is an associate or joint venture of the other entity (or an associate or joint venture of a
member of a group of which the other entity is a member).
 Both entities are joint ventures of the same third party.
 One entity is a joint venture of a third entity and the other entity is an associate of the third entity.
 The entity is a post-employment defined benefit plan for the benefit of employees of either the
reporting entity or an entity related to the reporting entity. If the reporting entity is itself such a
plan, the sponsoring employers are also related to the reporting entity.
 The entity is controlled or jointly controlled by a person identified in (a).
A person identified in (a)(i) has significant influence over the entity or is a member of the key
management personnel of the entity (or of a parent of the entity).
 The entity, or any member of a group of which it is a part, provides key management personnel
services to the reporting entity or to the parent of the reporting entity*.

The following are deemed not to be related:

 Two entities simply because they have a director or key manager in common.
 Two venturers who share joint control over a joint venture.
 providers of finance, trade unions, public utilities, and departments and agencies of a government
that does not control, jointly control or significantly influence the reporting entity, simply by
virtue of their normal dealings with an entity (even though they may affect the freedom of action
of an entity or participate in its decision-making process).
 A single customer, supplier, franchiser, distributor, or general agent with whom an entity transacts
a significant volume of business merely by virtue of the resulting economic dependence.

What are related party transactions?

A related party transaction is a transfer of resources, services, or obligations between related parties,
regardless of whether a price is charged.

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Disclosure
Relationships between parents and subsidiaries;-Regardless of whether there have been
transactions between a parent and a subsidiary, an entity must disclose the name of its parent and, if
different, the ultimate controlling party. If neither the entity's parent nor the ultimate controlling party
produces financial statements available for public use, the name of the next most senior parent that
does so must also be disclosed.

Management compensation;-Disclose key management personnel compensation in total and for

each of the following categories:
 short-term employee benefits
 post-employment benefits
 other long-term benefits
 termination benefits
 share-based payment benefits
Key management personnel are those persons having authority and responsibility for planning,
directing, and controlling the activities of the entity, directly or indirectly, including any directors
(whether executive or otherwise) of the entity. [IAS 24.9]

If an entity obtains key management personnel services from a management entity, the entity is not
required to disclose the compensation paid or payable by the management entity to the management
entity’s employees or directors. Instead the entity discloses the amounts incurred by the entity for the
provision of key management personnel services that are provided by the separate management
entity*.

Related party transactions

If there have been transactions between related parties, disclose the nature of the related party
relationship as well as information about the transactions and outstanding balances necessary for an
understanding of the potential effect of the relationship on the financial statements. These disclosures
would be made separately for each category of related parties and would include:

 the amount of the transactions

 the amount of outstanding balances, including terms and conditions and guarantees
 provisions for doubtful debts related to the amount of outstanding balances
 expense recognised during the period in respect of bad or doubtful debts due from related
parties

FINANCIAL REPORTING IN HYPER INFLATIONARY ECONOMIES (IAS 29)

This Standard shall be applied to the financial statements, including the consolidated financial
statements, of any entity whose functional currency is the currency of a hyperinflationary economy.
In a hyperinflationary economy, reporting of operating results and financial position in the local
currency without restatement is not useful. Money loses purchasing power at such a rate that
comparison of amounts from transactions and other events that have occurred at different times, even
within the same accounting period, is misleading.
Hyperinflation is indicated by characteristics of the economic environment of a country which
include, but are not limited to the following:
a) The general population prefers to keep its wealth in non-monetary assets or in a relatively stable
foreign currency. Amounts of local currency held are immediately invested to maintain
purchasing power.

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b) The general population regards monetary amounts not in terms of the local currency but in terms
of a relatively stable foreign currency. Prices may bequoted in that currency;
c) Sales and purchases on credit take place at prices that compensate for the expected loss of
purchasing power during the credit period, even if the period is short;
d) Interest rates, wages and prices are linked to a price index: and
e) The cumulative inflation rate over three years is approaching, or exceeds, 100%.
This Standard applies to the financial statements of any entity from the beginning of the reporting
period in which it identifies the existence of hyperinflation in the country in whose currency it reports.

The restatement of financial statements

Prices change over time as the result of various specific or general political, economic and social
forces. Specific forces such as changes in supply and demand and technological changes may cause
individual prices to increase or decrease significantly and independently of each other. In addition,
general forces may result in changes in the general level of prices and therefore in the general
purchasing power of money.
In a hyperinflationary economy, financial statements, whether they are based on a historical cost
approach or a current cost approach, are useful only if they are expressed in terms of the measuring
unit current at the end of the reporting period.
The financial statements of an entity whose functional currency is the currency of a hyperinflationary
economy, whether they are based on a historical cost approach or a current cost approach shall be
stated in terms of the measuring unit current at the end of the reporting period. The corresponding
figures for the previous period required by IAS 1 Presentation of Financial Statements and any
information in respect of earlier periods shall also be stated in terms of the measuring unit current at
the end of the reporting period.

The gain or loss on the net monetary position shall be included in profit or loss and separately
disclosed.
Historical cost financial statements Statement of financial position
Statement of financial position amounts not already expressed in terms of the measuring unit current
at the end of the reporting period are restated by applying a general price index. Monetary items are
not restated because they are already expressed in terms of the monetary unit current at the end of the
reporting period. Monetary items are money held and items to be received or paid in money.
Assets and liabilities linked by agreement to changes in prices, such as index linked bonds and loans,
are adjusted in accordance with the agreement in order to ascertain the amount outstanding at the end
of the reporting period. These items are carried at this adjusted amount in the restated statement of
financial position.
All other assets and liabilities are non-monetary. Some non-monetary items are carried at amounts
current at the end of the reporting period, such as net realizable value and fair value, so they are not
restated. All other non-monetary assets and liabilities are restated.
Most non-monetary items are carried at cost or cost less depreciation; hence they are expressed at
amounts current at their date of acquisition. The restated cost, or cost less depreciation, of each item is
determined by applying to its historical cost and accumulated depreciation the change in a general
price index from the date of acquisition to the end of the reporting period. For example, property,
plant and equipment, inventories of raw materials and merchandise, goodwill, patents, trademarks and
similar assets are restated from the dates of their purchase. Inventories of partly-finished and finished
goods are restated from the dates on which the costs of purchase and of conversion were incurred.

Some non-monetary items are carried at amounts current at dates other than that of acquisition or that
of the statement of financial position, for example property, plant and equipment that has been

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revalued at some earlier date. In these cases, the carrying amounts are restated from the date of the
revaluation.

The restated amount of a non-monetary item is reduced, in accordance with appropriate IFRSs, when
it exceeds its recoverable amount. For example, restated amounts of property, plant and equipment,
goodwill, patents and trademarks are reduced to recoverable amount and restated amounts of
inventories are reduced to net realizable value.

An investee that is accounted for under the equity method may report in the currency of a
hyperinflationary economy. The statement of financial position and statement of comprehensive
income of such an investee are restated in accordance with this Standard in order to calculate the
investor's share of its net assets and profit or loss. When the restated financial statements of the
investee are expressed in a foreign currency they are translated at closing rates.

At the beginning of the first period of application of this Standard, the components of owners' equity,
except retained earnings and any revaluation surplus, are restated by applying a general price index
from the dates the components were contributed or otherwise arose. Any revaluation surplus that
arose in previous periods is eliminated.

Restated retained earnings are derived from all the other amounts in the restated statement of
financial position.
At the end of the first period and in subsequent periods, all components of owners' equity are restated
by applying a general price index from the beginning of the period or the date of contribution, if later.
The movements for the period in owners' equity are disclosed in accordance with IAS 1.

Statement of comprehensive income

All items in the statement of comprehensive income are expressed in terms of the measuring unit
current at the end of the reporting period. Therefore all amounts need to be restated by applying the
change in the general price index from the dates when the items of income and expenses were initially
recorded in the financial statements.

Gain or loss on net monetary position

In a period of inflation, an entity holding an excess of monetary assets over monetary liabilities loses
purchasing power and an entity with an excess of monetary liabilities over monetary assets gains
purchasing power to the extent the assets and liabilities are not linked to a price level. This gain or
loss on the net monetary position may be derived as the difference resulting from the restatement of
non-monetary assets, owners' equity and items in the statement of comprehensive income and the
adjustment of index linked assets and liabilities. The gain or loss may be estimated by applying the
change in a general price index to the weighted average for the period of the difference between
monetary assets and monetary liabilities. The gain or loss on the net monetary position is included in
profit or loss.

Consolidated financial statements

A parent that reports in the currency of a hyperinflationary economy may have subsidiaries that also
report in the currencies of hyperinflationary economies. The financial statements of any such
subsidiary need to be restated by applying a general price index of the country in whose currency it
reports before they are included in the consolidated financial statements issued by its parent. Where
such a subsidiary is a foreign subsidiary, its restated financial statements are translated at closing
rates.

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If financial statements with different ends of the reporting periods are consolidated, all items, whether
non-monetary or monetary, need to be restated into the measuring unit current at the date of the
consolidated financial statements. .

Economies ceasing to be hyperinflationary

When an economy ceases to be hyperinflationary and an entity discontinues the preparation and
presentation of financial statements prepared in accordance with this Standard, it shall treat the
amounts expressed in the measuring unit current at the end of the previous reporting period as the
basis of the carrying amounts in its subsequent financial statements.

Disclosures
The following disclosures shall be made:
The fact that the financial statements and the corresponding figures for previous periods have been
restated for the changes in the general purchasing power of the functional currency and, as a result,
are stated in terms of the measuring unit current at the end of the reporting period;
Whether the financial statements are based on a historical cost approach or a current cost approach;
and
c) The identity and level of the price index at the end of the reporting period and the movement in the
index during the current and the previous reporting period.

Effects of inflation and hyper-inflationary economies

Characteristics of hyper inflationary economy
1. The general population prefers to keep their assets in non-monetary term or in relatively stable
currency.
2. The cumulative inflation rate of over three years is approaching or exceeding 100%
3. The general population regards monetary amounts not in terms of the local currency but in terms
of relatively stable foreign currency.
4. Interest rates, wages and prices are linked to a price index.

Surviving hyper-inflationary
Despite the rarity of hyperinflation, many people are still worried about it. So, if it were to happen,
what should you do? There are three ways you can protect yourself from any kind of inflation. Sound
financial habits would help you survive hyperinflation. First, be prepared by having your assets well-
diversified. That means to balance your assets among stock and bonds, international stocks and bonds,
gold and other hard assets, and estate. Second, keep your passport current. That's in case
hyperinflation in your country makes your standard of living intolerable.
Third, ensure that you have a wide variety of skills and talents. If you need a wheelbarrow full of
cash to buy a loaf of bread, you should know how to bake bread. Hyperinflation makes a bartering
system necessary when money is useless. A broad range of practical skills gives you an advantage
when trading.

ACCOUNTING FOR THE PRICE LEVEL CHANGES

The measurement basis most commonly adopted by enterprises in operating financial statements is
historical cost. Under historical cost, assets are recorded at the amount of cash and cash equivalents
paid or the fair value of the consideration given to acquire them at the time of their acquisition;
liabilities are recorded at the amount of proceeds received in exchange for the obligation, or in some

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circumstances, at the amounts of cash-equivalents expected to be paid to satisfy the liability in the
normal course of business.

Historical costs accounting is a well-established and prevalent form of accounting all over the world.
The financial statements prepared under the historical cost convention are aimed at reflecting the true
and fair view of the operating results and the financial position of an accounting entity. This objective
would be well served if the standard measuring unit for financial reporting (money) remains stable.
The continuing relative and rapid inflation, however, points to money as an unstable unit of measure.
This has introduced a sizeable limitation on financial statements as accurate and precise reflections of
operating results and resources position.
Financial statements prepared under the historical cost convention do not have regard for changes in
price levels. It has thus been argued that they do not reflect financial realities. This has introduced"
some limitations to the utility that may be derived from the use of such statements.

These limitations include:-

1. Failure to disclose the current worth of an accounting entity.
This is because financial statements prepared under historical cost accounting are merely statements
of historical facts.

2. Containing non-comparable items.

The financial statement contains items which are usually a composite of historical costs, and current
costs. For example, if a company constructed a building for a sum of sh. 15m in 1995 and constructed
a similar building in 2010 at accost of sh29 million, the total cost of the buildings, ignoring
accumulated depreciation, will be sh.44 million. The two amounts are not comparable since the sh. 15
million is a historical cost amount and the sh.29 million is a current cost amount.
The effect of non-comparative items can also prove by looking at items in the income statement. For
example, from the following sales figures, there seems to be an increase in sales over a period of 2
years.

Year Sales (sh.) Average price index

2009 100,000,000 100
2010 150,000,000 200

If the same figures are adjusted for price level changes, using 2009 as the base year, the situation
would be different. Assuming a price index of 300 at the end of 2010. The revised sales figures would
be:
Year Sales (sh.) Average price index
300
2009 100,000,000× /100 300,000,000
2010 150,000,000× 300/200 225,000,000

When the sales are adjusted for price level changes, there appears to be a decline in the sales trend.

3. Creation of problems at the time of replacement of assets.

According to conventional accounting, depreciation is charged on historical cost of the asset.
Problems may therefore arise when the assets are to be replaced and larger rands may be acquired on
account of inflationary conditions. Thus the main purpose of providing for depreciation is defeated.

4. Mixing of holding and operating gains.

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In conventional accounting, gains on account of holding inventories may be mixed up with operating
gains. For example a business purchased 100 units of a product at sh.6 per unit in 2009. It could sell
only a half of these units in 2009. In the year 2010, it purchased another 100 units at sh.8 per unit and
sold all 150 units at sh. 10 per unit.
Under historic cost accounting, the profits for 2010 would be calculated as follows:

Sh. Sh.
Sales (150 × 10) 1,500
Cost of sales
50×6 (300)
100×8 (800) (1100)
Gross profit for the year 400

Of the Sh400 profit, however, sh.100 (50 x 2) is on account of holding the inventory. This is because,
if the units sold in the year 2010 were all bought in the year 2010, the cost of sales would be sh.l, 200
and the profit would have been sh.300. Historical cost accounting fails to make this distinction.

5. Failure to disclose gains on holding nets monetary liabilities and losses on holding net
monetary assets.
Holders of fixed monetary assets lose in periods of inflation while holders of fixed monetary liabilities
gain in periods of inflation. Historical cost accounting does not make any attempt to recognize such
losses and gains.

6. May lead to overtaxing of enterprises

Under inflationary conditions, the reported profits are overstated and assets
understated when accounts are prepared under historical cost convection. Over
reporting of profits gives rise to a number of problems which includes heavy taxes,
heavy dividends resulting ultimately to heavy financial strain on the company thus
draining capital. Peter Drucker observed "there are costs of today and costs of
tomorrow I know of no business today that operates at a rate of return to meet the
costs of tomorrow, with today's rates of inflation businesses are not making profits
but only destroying capital". In view of the limitations of historical cost based
financial statements, there is widespread academic support for accounting to deal
with price level changes.

Price level accounting may be defined as " the technique of accounting by which the financial
statements are restated to reflect changes in the general price'" no consensus has been reached as to
the system to be used to reflect the impact of changing prices on the net assets and earnings of a
company. The following, however are the generally accepted methods for accounting for price level
changes:
(i) The current purchasing power-method (CPP)
(ii) The current cost accounting method (CCA)

THE CURRENT PURCHASING POWER METHOD

Introduction
This method is also known as the general purchasing power approach. According to the current
purchasing power method, all items in the financial statements are to be restated for changes in the
general price level. It attempts to maintain the shareholders capital in terms of the general or current
purchasing power. All items in the income statement are expressed in terms of the current year-end

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purchasing power, while the same is true in the Statement of financial position with the exception of
monetary assets and liabilities. Under the current purchasing power method only the changes in the
general purchasing power of money are taken into account and not the changes in the value of
individual assets.

Preparation of current purchasing power adjusted financial statements.

All items in the income statement and all non-monetary items in the Statement of financial position
not already expressed in terms of the measuring unit current at the Statement of financial position date
are restated by a conversion factors which is;
(i) Price index as at the Statement of financial position datePrice index as at the date the item arose
(ii) Non-monetary items carried at amounts current at the Statement of financial position are not
restated.
(iii) Depreciation is adjusted by reference to the date of acquisition or valuation of the related
property, plant or equipment item.
(iv) Monetary items in the Statement of financial position are not restated because they are already
expressed in terms of the monetary unit current at the Statement of financial position date. Their
value in current purchasing power units is their monetary amount
(v) In the case of transactions accruing throughout the period, it is advisable to restate them according
to the average index of the period. The conversion" factor to be applied would be:

Price index as at the Statement of financial position date

Average price index for the period
Such transaction generally includes income and expense items.

Gains or losses on monetary items

While converting the figures under current purchasing power approach, a distinction is made between
monetary items and non-monetary items. Monetary items are items whose amounts are fixed by
contract in terms of monetary units regardless of the changes in general price level. Holders of
monetary assets lose general purchasing power during a period of inflation since their claims remain
fixed irrespective of any changes in the general price level and the opposite applies to those having
monetary liabilities.

Determining gains or losses on holding monetary items

This is the only adjustment made under the current purchasing power. It is calculated as follows;
a) Determine the opening net monetary assets or liabilities i.e. assets- liabilities.
b) The transactions recorded in the income statement which affect monetary items should be
incorporated in case of transactions which take place at different dates, care should be taken to
ensure that the amount involved are split accordingly from due date the transaction took place.
c) From the additional information, if there are items affecting both monetary items and non-
monetary items, they should be used in determining the gain or loss on holding monetary items.
An example of such items includes purchase or sale of property, plant and equipments by cash or
on credit, issue of shares for cash etc.

A transaction that affects only monetary items or only non-monetary items has no effect on the
monetary position of the firm and therefore should not be used in the computation of the gain or loss
on holding monetary items for example purchase of assets by issue of ordinary shares Or loan
repayment etc.
Such gains or losses should be taken into account under the current purchasing power method but be
shown separately in the restated income statement to arrive at the overall profit or loss.

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Determining the CPP profit or loss on disposal of non-current assets
In a case where fixed assets are disposed during the year and a profit or loss has been reported in the
profit or loss account under the historical cost accounting, it is necessary to compute the profit or loss
on disposal to be reported in the current purchasing power profit or loss. This is determined as
follows;

Alternative 1
a) The current purchasing power net book value of the asset disposed as at the date of sale is
determined by multiplying the historical cost net book value by the following conversion factor.
Price index as at the date of sale
Price index as at the date of purchase
b) The current purchasing power profit or loss on the date of disposal is determined by deducting the
current purchasing power net book value determined in (a) above from the cash received on
disposal.
c) The profit or loss on disposal determined in (b) above as at the date of sale is converted to the
year-end value by multiplying it by the following conversion factor.
Price index as at the year end
Price index as at the date of sale

Alternative 11
a) The proceeds from the sale of asset should be translated should be translated to the year-end
current purchasing power value by multiplying it by the following factor;
Price index as at the year end
Price index at the date of sale
b) The historical net book value as at the date of sale is converted to current purchasing power value
at the year-end by multiplying it by the following conversion factor.
Price index as at the year end
Price index as at the date of purchase
c) The current purchasing power profit or loss on disposal is determined as the difference between
the values calculated in (a) & (b) above.

Strengths and weaknesses of the current purchasing power approach. Strengths:

1. The current purchasing power approach leaves unchanged the historical cost
accounting records of the enterprise and is therefore verifiable and objective.
2. The restatement of asset value in terms of a stable unit of measure provides a more meaningful
basis of comparison over time.
3. The current purchasing power approach avoids subjective valuations of current cost accounting
because a single price index is applied.
4. The use of a general price index is consistent with the propriety theory of accounting in that it
measures the impact of changes in prices in terms of the shareholders' purchasing power.

Weaknesses
1. The method is based on indices which are statistical averages, thus it cannot be applied with
precision to individual enterprises.
2. The selection of a suitable price index is a difficult task. This is because there are different price
indices characterizing different price situations. For example the retail price index characterizes
changes in retail prices while the wholesale price index characterizes changes in whole sale
prices.
3. The current purchasing power method does not show the current economic value of assets since it

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 is not the assets that are revalued but money in terms of purchasing power.
The method addresses changes in the general price levels which may not be reflective of the
specific price changes of specific items

BUSINESS COMBINATIONS AND CORPORATE RESTRUCTURING/

RECONSTRUCTION
Reconstruction is the rearrangement of the company’s capital structure.
During reconstruction the shareholders claims and creditors balances are to be settled.
Rearrangement of the capital structure normally takes place when a company has been reporting
losses in the previous financial years.
It involves reduction of the par value of ordinary share capital to make them affordable to the
investors.
The company appoints a receiver who will propose to make them affordable to the investor.
The receiver will prepare a special account known as a capital reduction account where all the claims
and proposals are to be affected.

Types of reconstruction
1. Internal reconstruction
2. External reconstruction

Internal reconstruction
This involves re-arrangement of the capital structure internally with the entity retaining its legal
identity.

Steps
1. Determine the accumulated loss to be written off.
Cash available less cash paid to the providers of capital.
2. Determine the loss per share
𝑡𝑜𝑡𝑎𝑙 𝑙𝑜𝑠𝑠 𝑡𝑜𝑏𝑒 𝑤𝑟𝑖𝑡𝑡𝑒𝑛 𝑜𝑓𝑓
Loss per share = 𝑜𝑢𝑡𝑠𝑡𝑎𝑛𝑑𝑖𝑛𝑔 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦𝑠ℎ𝑎𝑟𝑒𝑠
3. Recommendations of the proposed scheme
4. Statement of financial position based on the recommendation in step 3 above.

Entries
1) Being Amount Written Off From Share Capital Account
Dr. Share Capital Account XXX
Cr Capital Reduction Account XXX

(2) Being Reserves Utilized For Capital Reduction Scheme

Reserve Account XXX
Capital Reduction Account XXX

(3) Being Amount Written Off From Accumulated Losses

Dr. Capital Reduction Account XXX
Cr.Profit and Loss Account XXX

(4) Being Amount Written Off On Assets on Revaluation

Dr. Capital Reduction Account XXX
Cr. Various Relevant Assets XXX

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(5) Being Surplus upon Revaluation Of Assets
Dr.Various Relevant Assets XXX
Cr.Capital Reduction Account XXX

(6) Being shares issued to settle liabilities

Dr.Various Relevant Liabilities XXX
Cr.Capital Reduction Account XXX

(7) Being new shares issued in lieu of preference dividends in arrears

Dr.Capital Reduction Account XXX
Cr.Share Capital Account XXX

(8) Being expenses incurred during the Capital Reduction.

Dr.Capital Reduction Account XXX
Cr.Cash/Bank Account XXX

(9) Being difference (rounding) re: net credits transferred to Capital Reserve Account.
Dr.Capital Reduction Account XXX
Cr.Capital Reserve Account XXX

Illustration
Wonderful Ltd. is a company that carries on business in the entertainment industry. For the past few
years, the company has been making losses owing to the low prices charged by competitors. The
company's statement of financial position as at 31 December 2013 was as follows:
Assets: Sh. ‘000’
Non-current assets 3,600
Current assets 4,775
Total assets 8,375
Equity and liabilities:
Equity: Ordinary shares ofSh.1 each fully paid 10,000
Retained earnings (9,425)
575
Non-current liabilities:
8% cumulative preference shares (2,500.000 shares of Sh.1 par) 3,300
11% loan notes redeemable 2020 3,500
Current liabilities 1,000
Total equity and liabilities 8,375

The company has changed its marketing strategy and is now hoping to attract more customers. It is
expected that the company will earn annual profits after tax of Sh.1.500, 000 for each of the next five
years. This figure is before an interest charge. Income tax is assumed to be at the rate of 30%.
The directors are proposing to reconstruct the company and have drafted the following proposal for
discussion with shareholders:
1. To cancel the existing ordinary shares.
2. The 11 % loan notes are to be retired and the holders issued in exchange with:
 Sh.3, 000,000 14% redeemable notes 2025, and
 2,000,000 ordinary shares ofSh.0.25 each fully paid up.

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 3. The carrying value of the preference share capital above includes four years of dividend
arrears. The preference shareholders arc to be issued with 2,000,000 ordinary shares of
Sh.0.25 each fully paid up in exchange for the cancellation of these dividend arrears.
4. The existing ordinary shareholders will be issued with 3,500,000 ordinary shares of Sh.0.25
each fully paid.
5. In the event of liquidation, it is estimated that the net realisable value of the assets would be
Sh.3, 100,000 for the non-current assets and Sh.3, 500,000 for the current assets.

Required:
a) Statement of financial position as at 1 January 2014 after the reconstruction had been effected.
b) Computations to show the effect of the proposed reconstruction scheme on:
i. Loan note holders
ii. Ordinary shares

Answer

Journal Entries for the Proposed Reconstruction

DR CR
Sh.’000’ Sh.’000’
1. Ordinary share capital A/C 10,000
Capital reduction A/C 10,000
To cancel the old class of ordinary shares
2. Capital reduction(10,000×0.25) 2,500
Ordinary share capital 2,500
To record the new class of ordinary shares

3. 11% loan note A/C 3,500

14% loan notes 3,000
Ordinary shares (2,000×0.25] 500
on elimination of 11% loan note
4. Preference dividend in Arrears ordinary shares (2,000×0.25) 800
Share premium 500
Preference dividends in arrears 300
5. Cash book (3,500×0.25) 875
Ordinary shares 875
on issue/subscription of new ordinary shares
6. Capital reduction 1,775
Non-current assets (3600 – 3100) 500
Current Assets (4,775 – 350) 1,275
on fair value adjustment
7. Capital reduction 9,425
Profit and loss 9,425
on elimination of accumulated losses

Capital reduction account

Sh.’000’ Sh.’000’
Ordinary share capital 2,500 Ordinary share capital 10,000

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Assets 1,775
Profit and loss 9,425
Capital reserve bal.figure Xx Goodwill 3,700
13,700 13,700

Ordinary share capital account

Sh.’000’ Sh.’000’
Capital reduction 10,000 Balance b/d 10,000
Capital reduction 2500
11% loan note 500
Preference dividends in arrear 500
Balance c/d 4,375 Cash book 875
14,375 14,375
Wonderful Ltd
Statement of financial position
As at 1 January 2014
Sh.’000’
Assets
Non-current assets (note 5) 3,100
Current assets (3,500 + 875) 4,375
Goodwill 3,700
11,175
Equity and Liabilities
Equity ordinary shares 4,375
Share premium 300
4,675
Non-current liabilities
5% cumulative preference shares 2,500
14% loan notes (replaced 11%) 3,000
Current liabilities 1,000
11,175

Hint: 800 on the 8% cumulative preference shares were in arrears so ignore it.

Priority of profit distribution to the providers of capital

- Debenture holders
- Preference shareholders
- Ordinary shareholders
-
Sh.000
Profit before interest and tax 2,563
Less interest 14% (420)
Profit before tax 2,143
Less Tax (643)
PAT given 1,500

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Statement of profit allocation
Sh.’000’
Expected net profit before interest tax 2,563
Less: Interest (14%×3,000) (420)
Profit before tax 2,143
Income Tax 30% (643)
Profit after tax 1,500
Preference dividends (8%×2,500) (200)
Attributable to ordinary shares 1,300

Alternatively:

Effect to loan note holders = 14% ×3,000 = 420

Effect to ordinary
Preference dividend (8% × 2,500) = 1,300

AMALGAMATION AND EXTERNAL RECONSTRUCTION

Amalgamation is where a new company is formed to take over the operations of two or more existing
companies. The existing companies will not retain their legal identity

In external reconstruction an existing company wound up and transfers it’s all assets and liabilities to
another company. For accounting purposes there will be no distinction between amalgamation,
external reconstruction and absorption.
A liquidator is appointed to undertake the process of the reconstruction.
The main concern in an external reconstruction is on how to determine the consideration payable to
the selling company.

Methods of determining purchase consideration

Net Asset method – Under this method the purchase consideration is the difference between the asset
taken over by the new company and the liabilities transferred to the new company.
Lump sum method – Under this method the purchase consideration is agreed upon by the two
companies without taking into consideration the values of Assets and liabilities.
Net payment method (recommended) – Under this method the purchase consideration is determined
by aggregating all the compensations to the providers of capital e.g. cash, shares or debentures.
If the purchasing company pays for dissolution expenses on behalf of the selling company then such
amount should be considered as part of the purchase consideration.
NB: The main account to close off the books of selling company is known as Realization account.

External reconstruction
In an external reconstruction, the company to be reconstructed sells its assets less liabilities to a newly
formed company. The purchase consideration may be in the form of shares in the new company.

From an accounting point of view, an external reconstruction is merely in form of acquisition,

requiring the closing of the vendor’s books and the opening of the purchaser’s books.

Entries in the purchaser’s books are exactly the same as any other acquisition.

Accounting entries in the books of the selling company

1. With the assets taken over by the purchasing company at their book values

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 Dr: Realization a/c
Cr: Assets
N/B: Fictious assets are not transferred to this account but are transferred to the ordinary
shareholders members account.
2. With the liabilities taken over by the purchasing company
Dr: Liabilities
Cr: Realization
3. With the purchase consideration
Dr: Purchasing Company
Cr: Realization a/c
4. With the liquidation expenses paid or incurred by the selling company
Dr: Realization a/c
Cr: Bank/provision for liquidation expenses
5. With the assets not taken over by the purchasing company but sold by the selling company
Dr: Bank
Cr: Assets
N/B: With any profit/loss on sale of assets, transfer it to the realization a/c.
6. With the liabilities not taken over by the purchasing company but paid by the selling company
Dr: Liabilities
Cr: Bank
N/B: With any discount received from creditors
Dr: Creditors
Cr: Realization
7. Transfer the balance in the ordinary share capital a/c to the ordinary shareholders members a/c
Dr: Ordinary share capital
Cr: Ordinary shareholders members a/c
8. Transfer fictious assets to the ordinary shareholders members a/c
Dr: Ordinary shareholders members a/c
Cr: Fictious assets e.g preliminary expenses/ profit & loss a/c (in debit/ loss)
9. Transfer any reserves to the ordinary shareholders members a/c
Dr: Reserves
Cr: Ordinary shareholders members a/c
10. Transfer the balance in the preference share capital to preference shareholders members a/c
Dr: Preference share capital
Cr: Preference shareholders members a/c
11. With the receipt of the purchase consideration either in the form of cash or shares or debentures
Dr: Cash/ Shares/ Debentures
Cr: Purchasing Company
12. With the payment to the preference shareholders
Dr: Preference shareholders members a/c
Cr: Cash/ Shares/ Debentures
13. With the balance in the preference shareholders members a/c being either a gain or a loss on
payment
a) If a profit on payment: Dr: Preference Shareholders Members a/c
Cr: Realization a/c
b) If loss on payment: Dr: Realization a/c
Cr: Preference shareholders members a/c
14. With the balance in the realization a/c being either a profit or loss belonging to the ordinary
shareholder
a) If profit: Dr: Realization a/c

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 Cr: Ordinary shareholders members a/c
b) If a loss: Dr: Ordinary shareholders members a/c
Cr: Realization a/c
15. With the amount paid to the ordinary shareholders
Dr: Ordinary shareholders members a/c
Cr: Cash/ Shares/ Debentures

Illustration
Hasara Ltd., which has been operating in the telecommunications sector, has been posting successive
trading losses. The directors of the company have made a proposal to reconstruct the company by
transferring the entire operations of the company to a new entity to be called Zawadi Ltd which effect
from 1 April 2016.

The following statement of financial position relates to Hasara Ltd as at 31 March 2016.
Hasara Ltd.
Statement of financial position as at 31 March 2016
Assets: Sh. “000”
Non-current assets:
Property, plant and equipment 10,957.4
Available for sale financial assets 647
Goodwill 120
Preliminary expenses 87.8

Current assets:
Inventories 872.5
Accounts receivable 689.9
Financial assets at fair value through profit and loss 216.4
Total assets 13,591

Equity and liabilities:

Equity:
Ordinary share capital 9sh.10 par value) 6,000
7% cumulative preference share capital (sh.10 par value) 4,000
Revaluation reserves 400.8
Revenue reserves (3,822.7)
6,578.1
Non-current liabilities:
10% debentures 4,000

Current liabilities
Bank overdraft 775.8
Accounts payable 1,962
Current income tax 275.1
Total equity and liabilities 13,591

Additional information:
1. Zawadi Ltd issued 3 new ordinary shares of sh.10 each for every five 7% cumulative preference
shareholders in Hasara Ltd were issued with two new 10% preference shares of sh.10 par value in
Zawadi Ltd for every five 7% cumulative preference shares held.

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2. The preference dividends in Zawadi Ltd were three years in arrears. The 7% cumulative
preference shareholders in Hasara Ltd will accept three fully paid ordinary shares of sh.10 each in
Zawadi Ltd and sh.20 of 8% debentures in Zawadi Ltd for every sh.100 of the preference
dividend in arrears.
3. The existing 10% debenture holders in Hasara Ltd. were issued with five fully paid ordinary
shares of sh.10 each in Zawadi Ltd and sh.40 of 8% debentures for every sh.100 of 10%
debentures.
4. The ordinary shareholders in Hasara Ltd were issued with 2 new ordinary shares of sh.10 each in
Zawadi Ltd for every five ordinary shares held.
5. The current liabilities of Hasara Ltd were taken over by Zawadi Ltd at book value.
6. The sssets of Hasara Ltd were taken over by Zawadi Ltd at their fair values as follows:

Sh. “000”
Property, plant and equipment 9,486.8
Available for sale financial assets 810
Inventories 608.7
Accounts receivable 477.1
Financial assets at fair value through profit and loss 216.4

7. The liquidation expenses of Hasara Ltd amounted to sh.30, 000 and were paid by Zawadi Ltd.
8. All the above transactions were completed on 1 April 2016.
Required:
(a) The relevant ledger accounts to close the books of Hasara Ltd.
(b) Journal entries to record the relevant transactions in the books of Zawadi Ltd.
Statement of financial position of Zawadi Ltd as at 1 April 2016

Answer
Step 1
Determine purchase consideration

Sh. ‘000’
To preference shareholders in Hasara Ltd
400 × 3 2,400
Ordinary shares in Zawadi ( )sh 10
5
400 ×2
10% preference shares in Zawadi ( 5
)x10 1,600

To preference dividend in arrears

𝑠ℎ.840 𝑥 3 252
Ordinary shares in Zawadi ( )sh 10
𝑠ℎ.100
840×1
8% debentures in Zawadi ( 100 )20 168

10% debenture holders in Hasara Ltd

5 × 4000 2,000
Ordinary shares in Zawadi ( 100 ) sh.10
1 × 4000
8% debenture in Zawadi ( 100 ) sh.40 1,600

To ordinary shareholders in Hasara

Ordinary shares in Zawadi (2/5 × 600) 10 2,400

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Liquidation expenses (Cashbook) 30
10,450

Workings:
W1
Dividends in arrears = (7%×4000) ×3 years=840

W2
Ordinary shares in Zawadi= sh.100 of dividends in arrears
= sh. 840
(840×3) × 10=252
100
Books to be closed
1. Buying company’s account
2. Realization account
3. Sundry member’s account
- Ordinary sundry members account
- Preference sundry members account

Note 3
5 = sh.100 of debenture
? = sh.400

Zawadi Ltd account

Sh. 000 Sh. 000
Purchase consideration 10,450 Ordinary share capital (2400 + 252 +
(Realization account) 2000 + 2400) 7,052
10% preference Share capital 1,600
8% debentures 1,768
- Cash book 30
10450 10450
Ordinary sundry members account
Sh.000 Sh.000
Ordinary share capital in Balance b/d 6,000
Zawadi 2,400 Revaluation Reserve 400.8
Goodwill 120 Share premium -
Preliminary expenses 87.8

To realization
Accumulated losses 3,822.7 (balancing Figure) 29.7
6,430.5 6,430.7

Preference Sundry member’s account

Sh.000 Sh.000
Ordinary share capital 2,652 Balance b/d 4,000
(2400 + 252)
10% preference from Zawadi 1,600
8% debentures in Zawadi 168 Preference div in arrears
To realization A/C (bal. fig) 420 (realization) 840

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 4,840 4,840

10% debentures account

Sh.’000’ Sh.’000’
From Zawadi the 8% deb (2,000 +
1,600) 3,600
To realization Balance b/d
(bal fig) 400 4,000
4,000 4,000

Cash book account

Sh.’000’ Sh.’000’
From Zawadi 30 Balance b/d bank overdraft
To Zawadi (as per note 5 in 775.8
question) 745.8 775.8
775.8

Realization account
Sh. 000 Sh. 000
Property plant and equipment Purchase consideration
AFS 10,957.4 Bank OD 10,450
Inventories 647 Payable 745.8
Receivables 872.5 Current income tax 1,962
FA at fair value 689.9 Preference sundry 275.1
Ordinary sundry 216.4 10% debentures 420
Pref. sundry 29.7 400
840 14,252.9
14,252.9

Journal Entries – Zawadi

DR CR.
Sh.000 Sh.000
 Business purchase account 10,450
Hasara Ltd 10,450
To record amount payable to Hasara
 Hasara Ltd 10,450
Ordinary share capital 7,052
10% preference share capital 1,600
8% debenture 1,768
Cash 30
On settlement of purchase consideration
 Property plant and equipment 9,486.8
Available for sale 810
Inventories 608.7
Accounts receivable 477.1
FA 216.4
Business purchase account 11,599

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 To record assets taken over from Hasara Ltd
 Business purchase account 2,982.9
Bank overdraft 745.8
Payable 1,962
Tax 275.1
To record liabilities taken over
 Goodwill (10,450 – (11,599 – 2,982.9) 1,833.9
Business purchase account 1,833.9
To record goodwill on acquisition of Hasara Ltd

Zawadi
Statement of Financial Position
As at 1/4/2008
Sh.000
Non-current assets
PPE 9,486.8
AFC 810
Goodwill 1,833.9
12,130.7
Current Asset
Inventories 608.7
Receivables 477.1
FA 216.4
13,432.9
Equity and Liabilities
Ordinary share capital 7,052
10% preference 1,600
8,652
Non-current liabilities
8% debentures 1,768

Current liabilities
Bank overdraft 775.8
Payables 1,962
Tax 275.1
13,432.9

Opening the books of the new company

The assets and liability taken over are recorded at the fair values.
A business purchase account is used to record the asset, liabilities and the agreed purchase
consideration.

Journal Entries
1. To record Assets taken over
Dr. Individual asset account
Cr. Business purchase consideration
2. To record liabilities taken over
Dr. Business purchase account.
Cr. Individual liability account

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3. To record the agreed purchase consideration
Dr. Business purchase account
Cr. Vendor account
4. Recognized any goodwill or profit arising on the takeover Goodwill arises when the purchase
consideration is more than the fair value of net asset taken over i.e.
Purchase consideration xx
Fair values of net assets taken over xx
Goodwill/capital reverse xx\(xx)
If goodwill
Dr. Goodwill account
Cr. Business purchase account

If profit on acquisition
Dr. Business purchase Account
Cr. Capital reserve account
5. On payment of the agreed purchase consideration
Dr. Vendor account
Cr. Cash/share capital/premium/debenture account

Determining the value of purchase consideration

Where the purchase consideration is not given, it may be determined as a sum of cash paid, value of
shares issued and the value of debentures issued to settle the value of purchase consideration.
Where the purchasing company is required to pay the dissolution expenses the selling company the
cost of dissolution is added to purchase consideration.

Illustration
Tabu Ltd., a manufacturing company, started experiencing recurrent annual trading losses three years
ago. Both the shareholders and debenture holders of the company have accepted a reconstruction of
the company by forming a new company to be named Fanaka Ltd. to take over the assets and
liabilities of Tabu Ltd.

The statement of financial position of Tabu Ltd. as at 30 April 2015 is provided below:

Tabu Ltd.
Statement of financial position as at 30 April 2015
Sh. ‘million’ Sh. ‘million’
Non-current assets:
Buildings 2,050
Motor vehicles 1,700
Goodwill 875
Furniture and equipment 1,087.5
Patents 462.5 6,175

Current assets:
Inventories 950
Trade receivables 700 1,650
Total assets 7,825

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Equity and liabilities:
Capital and reserves:
Ordinary share capital (Sh. 10 par value) 5,000
10% preference share capital (Sh. 10 par value) 2,500
Share premium 1,000
Accumulated losses (2,125) 6,375

Non -current liability:

8% debentures 1,000
Current liabilities:
Bank overdraft 75
Trade payables 375 450
Total equity and liabilities 7,825

Additional information;-
1. Fanaka Ltd. was formed with an authorised share capital of 750 million ordinary shares of Sh. 10
each.
2. The ordinary shareholders of Tabu Ltd. received three ordinary shares in Fanaka Ltd. for every
five shares in Tabu Ltd. The shares from Fanaka Ltd. were credited at Sh.6 paid each. The
shareholders were to pay cash to Fanaka Ltd. to make the shares fully paid immediately on receipt
of the shares.
3. The 10% preference shareholders of Tabu Ltd. received four ordinary shares in Fanaka Ltd. for
every five preference shares in Tabu Ltd. The ordinary shares from Fanaka Ltd. were credited at
Sh.8 paid each and the shareholders were to pay cash to Fanaka Ltd. to make the shares fully paid
immediately on receipt of the shares.
4. Dividends on the 10% preference shares were four years in arrears as at 30 April 2015. Fanaka
Ltd. accepted to settle the amount due by issuing two fully paid ordinary shares and Sh. 100 6%
debentures for every Sh.2,000 of dividend arrears.
5. The debenture holders accepted 25 ordinary shares for every Sh.500 of the debentures; the shares
being credited at Sh.8 paid each. The debenture holders were to pay cash to Fanaka Ltd. to make
the shares fully paid on receipt of the shares.
6. The assets of Tabu Ltd. were transferred to Fanaka Ltd. at the following values:
Sh. ‘million’
Buildings 1,550
Motor vehicles 1,375
Furniture and equipment 1,075
Patents 350
Inventories 700
Trade receivables 625

Goodwill was presumed to have no value and therefore was to be written off.
7. Fanaka Ltd. paid Sh.75 million to Tabu Ltd. to pay for dissolution costs. This amount is to be
treated as a preliminary expense and is to be written off against profits in the following three
years.
8. Immediately after acquiring Tabu Ltd., Fanaka Ltd. purchased trading stock worth Sh. 150
million in cash and settled Sh. 125 million of the trade payables balance.

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9. All the transactions were completed on 30 April 2015

Required;-
a) The necessary accounts to close the books of Tabu Ltd.
b) Journal entries in the books of Fanaka Ltd. to record the acquisition of Tabu Ltd.
c) Opening statement of financial position of Fanaka Ltd. as at 1 May 2015.

Answer
Determine purchase consideration
Sh. ‘m’
To ordinary shareholders
Ordinary shares in Fanaka (3/5×500) 6 1,800

To 10% preference shareholders

Ordinary shares in Fanaka 1,600
(4/5×250) 8

To dividends in arrears
(2/2000×1000) 10 10
6% debentures
1000 × 1 50
( 2000 ) sh 100

To 8% debenture holders
Ordinary shares in Fanaka
25 400
( ×1,000) sh.8
500
Dissolution cost (cash book) 75
3,935

Working
(10%×2500×4)=1,000
Fanaka Ltd account
Sh. ‘m’ Sh. ‘m’
Purchase consideration Ordinary share capital 3,810
(Realization) (1800 + 1600 + 10 + 400)
6% debenture 50
3,935 Cash 75
3,935
3,935

Ordinary sundry members A/C

Sh. ‘m’ Sh. ‘m’
1,800 Balance b/d 5,000
From Fanaka 875 Share premium 1,000
Goodwill 2,125 -
A/C losses 1,200 -

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To realization 6,000 6,000
Preference sundry members’ account
Sh. ‘m’ Sh. ‘m’
From Fanaka Balance b/d 2,500
OSC (1,600 + 10) 1,610 Preference div arrears 1,000
6% debentures 50 -
To realization 1,840 -
3,500 3,500

8% debentures account
Sh. ‘m’ Sh. ‘m’
From Fanaka 400 Balance b/d 1,000
To realization 600 -
1,000 -
1,000

Ordinary sundry members account

Sh. ‘m’ Sh. ‘m’
Balance b/d - Balance b/d 75
From Fanaka 75
75 75

Realization account
Sh. ‘m’ Sh. ‘m’
Buildings 2,050 Purchase consideration
motor vehicle 1,700 Payables 3,935
Furniture and equipment Ordinary sundry 375
Patents 1,087.5 Preference sundry 1,200
Inventories 462.5 8% debentures 1,840
Trade receivables 950 600
Pref. in arrears 700 -
1,000 -
7,950 7,950

Journal Entries
Dr. ‘million’ Cr. ‘million’
1. Business purchase A/C 3,935
(Tabu Ltd creditor) 3,935
To record amount payable to Tabu Ltd
2. Tabu Ltd 3,935
Ordinary shares 3,810
6% debentures 50
Cash 75
On settlement of the purchase consideration
3. Buildings 1,550
Motor vehicle 1,375
Furniture and equipment 1,075
Patents 350

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 Inventories 700
Trade receivables 625
Business purchase A/C 5,675
To record assets taken over from Tabu Ltd
4. Business purchase A/C 375
Payables 375
To recordthe liabilities taken over
5. Goodwill (purchase consideration– Net asset)
3935 – (5675 – 375)
= (1,365) – capital reserve
Business purchase 1,365
Capital reserve 1,365
To record capital reserve on acquisition of Tabu Ltd
6. Cashbook (3/5 ×500) ×4 1,200
Ordinary S/C 1,200
On subscription of partly paid ordinary shares to
make them fully paid up
7. Cashbook (4/5 × 250) sh.2 400
Ordinary share capital 400
On subscription of partly paid ordinary Ordinary
shares to make them fully paid up
8. Cashbook (25/500×1000) 2 100
Ordinary S/C 100
On subscription of partly
Paid ordinary shares to make them fully paid
9. Inventory 150
Cashbook 150
On purchase of inventory
10. Payables 125
Cashbook 125
On part settlement of trade payable settlement

Fanaka Ltd
Opening statement of financial position
As at 1.5.2010
Sh. ‘million’
Non-current assets
Buildings 1,550
Motor vehicles 1,375
Furniture and equipment 1,075
Patents 350
Current assets

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 Inventories (700 + 150) 850
Receivables 625
Cash (100 + 400 + 1200 – 125 – 150 – 75) 1,350
Total Assets 7,175
Equity and Liabilities
OSC (3,810 + 1200 + 400 + 100) 5,510
Capital reserve 1,365
6,875
Non-current liabilities
6% debenture 50

Current liabilities
Payables (375 – 125) 250
7,175

MANAGEMENT DISCUSSION AND ANALYSIS (M D & A)

Management has a unique perspective on the entity. That perspective has value for users of financial
reports. Generally, the information that is important to management in managing the business is the
same information that is important to users of the financial reports for assessing financial performance
and prospects. Management commentary provides a context within which to interpret the financial
position, financial performance and cash flows of an entity. It also provides an opportunity to
understand management's objectives and its strategies for achieving those objectives. Users of
financial reports in their capacity as capital providers routinely use the type of information provided in
management commentary as a tool for evaluating an entity's prospects and its general risks, as well as
the success of management's strategies for achieving its stated objectives.
Management commentary should provide existing and potential capital providers with information
that helps them place the related financial statements in context. Management commentary that fulfils
that purpose explains management's view on not only what has happened, but also why management
believes it has happened and what management believes the implications are for the entity's future.
Management commentary may also help users of the financial reports assess the performance of the
entity and the actions of its management relative to stated strategies and plans for development. That
type of commentary may help users of the financial reports to understand, for example:
 The entity's risk exposures, its strategies for managing risks and the effectiveness of those
strategies;
 How resources that are not presented in the financial statements could affect the entity's
operations; and
 How non-financial factors have influenced the information presented in the financial statements
In developing commentary, management should bear in mind the principles that underpin decision-
useful management commentary. Commentary that is aligned with those principles:
 Provides management's view of the entity's performance, position and development:
 Supplements and complements information presented in the financial statements; and has an
orientation to the future.
Content of management commentary
Although the relevant focus of management commentary will depend on the facts and circumstances
of the entity, a decision -useful management commentary includes information that is essential to an
understanding of:
 The nature of the business;
 Management's objectives and strategies for meeting those objectives:

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  The entity's most significant resources, risks and relationships: the results of operations and
prospects; and
 The critical performance measures and indicators that management uses to evaluate the
entity's performance against stated objectives.

Nature of business
A description of the business helps users of the financial reports gain on understanding of the entity
and the external environment in which it operates, that information serves as a starting point for
assessing and understanding an entity's performance, strategic options and prospect. Depending on the
nature of business, management commentary may include discussion of matters such as:
 The industries in which the entity operates;
 The entity's main markets and competitive position within those markets;
 Significant features of the legal, regulatory and macro-economic environment that influence
the entity and the markets in which the entity operates;
 The entity's main product and services, business processes and distribution methods; and
 The entity's structure and its economic model.

Objectives and strategies

Disclosure of objectives and strategies are most useful when they enable users of the financial reports
to understand the priorities for action as well as the resources that must be managed to deliver results
management's explanations about how success will be measured and over what period of time is
should be assessed may also be useful. For example, how management intends to address market
trends and the threats and opportunities those market trends represent provides users of the financial
reports with insight that may shape their expectation about the entity's future performance. Discussion
of the relationship between objectives strategies, management actions and executive remuneration is
also helpful.

Resources, risk and relationships

Management commentary that includes a clear description of the most important resources, risks and
relationships that management believes affect the entity's long-tern value and how those resources,
risk and relationships are managed provides useful information for users of the financial reports.

Resources
Disclosure about resources depends on the nature of the entity and the industry in which the entity
operates. Management commentary should set out the critical financial and nonfinancial resources
available to the entity and how those resources are used in meeting management's stated objectives for
the entity. Analysis of the adequacy of the entity's capital structure, financial arrangements (whether
or not recognized in the statement of financial position), liquidity and cash flows, as well as plans to
address any identified inadequacies or surplus resources, are examples of disclosures that can provide
useful information.

Risks
Disclosure of an entity's principal risk exposures, it plans and strategies for bearing or mitigating
those risks, and the effectiveness of its risk management strategies, help users to evaluate the entity's
risk as well as its expected outcomes. It is important that management distinguish the principal risks
and uncertainties facing the entity, rather than listing all possible risks and uncertainties. Management
should disclose its principal strategic, commercial, operational and financial risks, being those that
may significantly affect the entity's strategies and development of the entity's value. The description

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of the principal risks facing the entity should cover both exposures to negative consequences and
potential opportunities.
Management commentary provides useful information when it discusses the principal risks and
uncertainties necessary to understand management's objectives and strategies for the entity both when
they constitute a significant external risk to the entity and when the entity's impact on other parties
through its activities, products or services affects its performance.

Relationships
Management provides information useful to users of the financial reports when it identifies the
significant relationships the entity has with stakeholders, how those relationships are likely to affect
the performance and the value of the entity, and how those relationships are managed. This type of
disclosure helps users of the financial reports to understand, for example, whether a single customer,
or a small group of principal customers, represents a significant portion of an entity's business and
whether that entity and its investors may be exposed to substantial risk if that customer takes its
business to a competitor.

Results and prospects

Management commentary should include a clear description of the entity's financial and non-financial
performance, the extent to which that performance may be indicative of future performance and
management's assessment of the entity's prospects. Useful disclosure in that area can help users to
make their own assessment about the assumptions and judgments used by management in preparing
the financial statements.
Results
Explanations of the performance and development of the entity during the period and its position and
the end of the period provide users of the financial reports with insight into the main trends and
factors affecting the business, those explanations are useful when they describe the relationship
between the entity's results, management's objectives and management's strategies for achieving those
objectives. Discussion and analysis of significant changes in financial position, liquidity and
performance compared with those of the previous period(s) can help users to understand the extent to
which past performance may be indicative of future performance.

Prospects
An analysis of the prospects of the entity, including targets for financial and non -financial measures,
helps users of the financial reports to understand how management intends to implement its strategies
for the entity over the long term., when targets are quantified, management should explain the risks
and assumptions necessary for users to assess the likelihood of achieving targets.
Performance measures and indicators
The disclosure of performance measures and indicators (both financial and nonfinancial) that are used
by management to assess progress against its stated objectives can help users of the financial reports
assess the degree to which goals and objectives are being achieved performance measures are
quantified measurements that reflect the critical success factors of entity. Indicators can be narrative
evidence describing how the business is managed or quantified measures that provide indirect
evidence of performance.
The performance measures and indicators that are most important to understanding an entity are those
management uses to manage that entity. The performance measures and indicators will usually reflect
the industry in which the entity operates. Comparability is enhanced if the performance measures and
indicators are acceptable and used widely, either within an industry or more generally. Consistency
reporting of performance measures and indicators increase the comparability of management
commentary over time. However, management should consider whether the performance measures
and indicators used in the previous period continue to be relevant as strategies and objectives change,

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management might decide that the performance measure and indicators presented in the previous
period management commentary are no longer relevant, when management changes the performance
measures and indicators used; the changes should be identified and explained.
If information from the financial statements has been adjusted for inclusion in management
commentary, that fact should be disclosed, if financial performance measures that are not required or
defined by IFRSs are included within management commentary, those measures should be defined
and explained and when possible, reconciled to measures presented in the financial statements.

INTEGRATED REPORTING
Integrated reporting (IR) in corporate communication is a "process that results in communication,
most visibly a periodic “integrated report”, about value creation over time. An integrated report is a
concise communication about how an organization’s strategy, governance, performance and prospects
lead to the creation of value over the short, medium and long term."
It means the integrated representation of a company’s performance in terms of both financial and
other value relevant information. Integrated Reporting provides greater context for performance data,
clarifies how value relevant information fits into operations or a business, and may help make
company decision making more long-term. While the communications that result from IR will be of
benefit to a range of stakeholders, they are principally aimed at providers of financial capital
allocation decisions.

ELEMENTS OF AN INTERGRATED REPORT

 Organizational overview and the external environment
 Opportunities and risks
 Strategy and resource allocation
 Business model
 Future outlook

ORGANISATIONAL OVERVIEW AND THE EXTERNAL ENVIRONMENT

What does the organisation aim to do? Who are the major stakeholders? Where is it located? How is it
structured? What external events will affect if most?

Fairly obviously the organisation’s mission, stakeholder analysis, organisation chart and a PESTEL
analysis would be relevant to this section of the IR. Think of this section as setting the context of the
organisation and providing some background detail.

OPPORTUNITIES AND RISKS

These must cover both internal and external matters. The traditional SWOT analysis usually
categorises opportunities and threats (risks) as external, but it is essential to also look internally. A
weakness (for example arising from gaps in new product development) is a risk to future revenues.
Similarly a strong brand name creates greater opportunities for future revenue streams. Historically,
the board of companies would tend to emphasise a company’s opportunities, but investors cannot
make an informed decision about an investment without an appreciation of the associated risk. Some
risks can be quantified (for example, by sensitivity analysis) but it is unlikely that quantified amounts
would appear in an IR. A qualitative indication should be provided about both internal and external
risks. The report should also mention how the risks are being managed and mitigated.

STRATEGY AND RESOURCE ALLOCATION

Does the organisation intend to develop new products, set up new factories or expand to new markets?
Perhaps it intends to move up-market to escape the fierce competition it currently faces at the lower

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end. This section of the IR can make extensive use of Porter’s generic strategies, Ansoff’s Matrix and
the value chain. In the UK at the moment many supermarket chains are having to reassess their long
term strategies in response to cheaper foreign supermarkets that have opened. In addition there is a
change of shopping habits because many more customers now prefer to go more frequently to local
stores rather than once a week to a very large store on the edge of town. It would be valuable to
investors to be told how their company is going to respond to these changes in the market, how much
it might cost to achieve the new strategies and by when the strategic shifts should be achieved.

BUSINESS MODEL
An organisation’s business model is 'its system of transforming inputs, through its business activities,
into outputs and outcomes that aims to fulfil the organisation’s strategic purposes and create value
over the short, medium and long term' (IIRC). The value chain is particularly relevant here: it
explicitly sets out inputs, processes and outputs and requires organisations to understand how value is
added so that profits can be made. If a company does not understand where it adds value then the
company is existing in a temporary state of good fortune. It is making profits now, but does not
understand why, so chance of continued success must low.

Inputs are the major inputs such as raw material or human resources. Outputs are the key products and
services. The business activities include not just the manufacturing process, but also how the company
innovates, carries out its marketing, what its after-sales services are, how it delivers its goods and how
it acquires, trains and retains staff.

FUTURE OUTLOOK
An integrated report should answer the question: What challenges and uncertainties is the organisation
likely to encounter in pursuing its strategy, and what are the potential implications for its business
model and future performance? (IIRC)

PESTEL and a five forces analysis are likely to be particularly relevant here. For example, if you were
a stakeholder in a conventional television company you should want to know how the company will
address challenges from internet-based companies such as Netflix.

SELF REVIEW QUESTIONS (ANSWERS PROVIDED AFTER THE QUESTIONS)

QUESTION 1

The following trial balance was extracted from the books of Savanna Ltd as at 30 September 2017:

Sh. “000” Sh. “000”

Land 20,100
Buildings 42,600
Plant and machinery 216,600
Accumulated depreciation: Buildings 6,390
Plant and machinery 127,710
Revenue 180,030
Cost of sales 65,670
Inventory (30 September 2017) 6,450
Distribution costs 6,690
Administrative expenses 11,340
Income tax 8,580
Investment property at fair value (1 October 2016) 20,340

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 Finance cost 7,020
8% redeemable preference shares 15,000
10% debentures 30,000
Intangible assets 34,200
Trade receivables and trade payables 8,700 5,340
Ordinary shares (each share Sh.20 par value) 90,000
Share premium 6,000
Retained profit (1 October 2016 7,620
Deferred tax 8,490
Bank and cash balances 1,350 -
Investment at fair value 26,940 -
476,580 476,580

Additional information:
1. The fair value of the investment property on 30 September 2017 was Sh.20, 790,000.
2. Information relating to intangible assets was as follows:
 The intangible assets include:

Cost Accumulated
SH. “000” amortization
Sh. “000”
Development cost on software (it is to be amortised over 5 years) 25,800 15,480
Patent 15,600 -
Research costs 8,280 -
 The patent was acquired on 1 November 2014. It was determined that the patent had an
indefinite useful life when it was acquired. However, on 1 October 2016, due to a new
competitor gaining ground on the company’s technology, the patent’s estimated fair value was
established to be Sh.13,500,000 with an estimated useful life of 3 years.
 The research costs were incurred during the year in developing new software which was not
successful.
3. The following details are relevant to the property, plant and equipment:
 Buildings are depreciated at 2 ½% per annum on straight line basis.
 Plant and machinery are depreciated on a straight line basis over 10 years.
 Depreciation for the current year has been provided.
 On 30 September 2017, the land and buildings were revalued to Sh.25,500,000 and
Sh.45,600,000 respectively. The new values are to be included in the accounts for the financial
year ended 30 September 2017.
4. Savanna Ltd is also a sales agent for Majani Ltd and it entitled to a sales commission of 10% on
the sales made on behalf of Majani Ltd. The net proceeds obtained from the sales (after deducting
the commission) are remitted to majani Ltd. During the financial year ended 30 September 2017,
Savanna Ltd sold goods worth Sh.20, 700,000 on behalf of majani Ltd.This amount was included
in the sales revenues disclosed in the above trial balance. Savanna Ltd. had not remitted the net
sales proceeds to Majani Ltd.
5. Inventory as at 30 September 2017 included partially damaged and slow moving goods. The cost
of these goods was Sh.450,000 and they were eventually sold in October 2017 for Sh.128,400.
6. Finance costs comprised:
Sh. “000”
Interest on debentures 3,000

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 Interim dividends paid on ordinary shares 4,440
Dividends paid on redeemable preference shares 1,200
Investment income from tax exempt companies (1,620)
7,020

7. The corporation tax rate is 30%

8. The balance on the income tax in the trial balance represents the amount paid for the year. The tax
expense for the year is estimated to be Sh.7, 770,000 inclusive of an increase in deferred tax
liability of Sh.1, 020,000.
Required:
The following statements in a format suitable for publication:
(a) Comprehensive income statement for the year ended 30 September 2017.
(b) Statement of changes in equity for the year ended 30 September 2017.
(c) Statement of financial position as at 30 September 2017.

QUESTION 2
The following trial balance relates to Apple Ltd as at 31 March 2017:
Sh. ‘000’ Sh.’000’
Ordinary shares of Sh.10 par value - 100,000
Share premium - 40,000
Retained earnings (1 April 2016) - 22,400
Land and buildings at cost (Land Sh.40 million) 120,000 -
Plant and equipment at cost 189,000 -
Accumulated depreciation: 1 April 2016: Buildings - 40,000
Plant and equipment - 49,000
Inventories (31 March 2017) 87,400 -
Trade receivables 84,400 -
Bank balance - 13,600
Deferred tax - 12,400
Trade payables - 70,200
Revenue - 1,100,000
Cost of sales 823,000 -
Distribution costs 43,000 -
Administrative expenses 61,800 -
Dividends paid 40,000 -
Bank interest 1,400 -
Current tax - 2,400
1,450,000 1,450,000

Additional information:
1. On 1 April 2016, the company’s directors decided that land and buildings should be revalued at
their market values. At that date, an independent expert valued land at Sh.24 million and buildings
at Sh.70 million and these valuations were accepted by the directors. The remaining useful life of
buildings on that date was 14 years. The company does not make a transfer to retained earnings
for excess depreciation.
2. Plant and equipment is depreciated at 20% per annum using the reducing balance method and
time apportioned as appropriate. Depreciation for the year is yet to be accounted for.
3. Directors’ remuneration amounting to Sh.11 million should be provided for and is classified as
administrative cost.

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 4. Income tax provision of Sh.54.4 million is required for the year ended 31 March 2017. As at that
date, deferred tax liability amounted to sh.18.8 million. The movement in deferred tax should be
taken to profit or loss. The balance on the current tax in the trial balance represents over/under
provision of tax liability for the year ended 31 March 2016.
5. On 1 July 2016, the company made a rights issue of 1 share for every 4 shares at sh.24 each
immediately before this issue, the stock market value of the shares was sh.40 each.
Required:
(a) Statement of comprehensive income for the year ended 31 March 2017.
(b) Statement of changes in equity as at 31 March 2017.
(c) Statement of financial position as at 31 March 2017.

QUESTION 3
Baraza group has prepared the following financial statements:

Statement of profit or loss for the year ended 30 April 2015:

Sh. ‘million’ Sh. ‘million’

Revenue 25,725
Cost of sales (17,150)
Gross profit 8,575
Investment income 50
Gain on sale of subsidiary 295
8,920
Expenses:
Administration expenses 1,480
Distribution costs 3,915
Finance cost 340 (5,735)
Profit before tax 3,185
Income tax expense (1,010)
Profit for the period 2,175

Attributable to: Parent 2,045

Non-controlling interest 130
2,175

Statement of financial position as at:

30 April 2015 30 April 2014
Sh. Sh. Sh. Sh.
‘million’ ‘million’ ‘million’ ‘million’
Assets:
Non-current assets:
Property, plant and equipment 2,730 2,600
Goodwill 120 240
Financial assets at fair value 70 45
2,920 2,885
Current assets:

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Inventory 3,115 4,210
Receivables 1,770 2,395
Cash in hand 355 5,240 295 6,900
Total assets 8,160 9,785

Capital and liabilities:

Ordinary share capital (Sh.10 par value) 1,500 1,500
Revaluation reserve:
Property, plant and equipment 750 850
Financial assets 5 -
Retained profits 2,830 1,685
Shareholders' funds attributable to parent 5,085 4,035
Shareholders' funds attributable to non-controlling
interest 940 1,360
6,025 5,395

Non-current liabilities:
8% loan stock - 1,000
Obligations under finance lease 200 240
Deferred tax 320 480
520 1,720
Current liabilities:
Bank overdraft 30 615
Payables 1,405 1,890
Obligations under finance lease 140 120
Current tax 40 1,615 45 2,670
Total capital and liabilities 8,160 9,785

Additional information;
1. During the year, the group sold Salama Limited, a 75% held subsidiary. The following assets and
liabilities were available in Salama Ltd. as at the date of sale:
Sh. ‘million’
Property, plant and equipment 660
Inventory 965
Receivables 560
Cash in hand 140
Payables 405
Current tax 20

Salama Limited was acquired several years ago at a total cost of Sh.900 million when the net
assets were Sh. 1,000 million. On the date of disposal, the goodwill of Salama Limited was 80%
impaired.
2. The group also sold some items of plant during the year at Sh. 125 million. The book value of the
items of plant was given as Sh.65 million.
3. The group purchased other items of property, plant and equipment at a total cost of Sh. 1,215
million of which Sh.300 million was by means of finance leases.
4. The current liability figure under finance leases at the end of the year included accrued interest at
the beginning of the year of Sh. 10 million and at the end of the year of Sh. 10 million.
5. Depreciation charge includes Sh.45 million for the assets of the subsidiary before disposal.

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Required;
Group statement of cash flows for the year ended 30 April 2015.

ANSWERS TO SELF REVIEW QUESTIONS

ANSWER 1
a) Comprehensive income statement
Savanna ltd
Income statement for the year ended 30 September 2017
Sh. ‘000’
Revenue (w1) 159,330
Cost of sales (w2) 65,991.6
Gross profit 93,338.4
Distribution costs (6,690)
Administrative expenses (w3) (31,380)
Commission received 910% ×20,700,000) 2,070
Commission non-value of investments property
(20,790,000 – 20,340,000) 450
Investment income 1,620
Finance costs (3,000,000 + 1,200,000) (4,200)
Profit before tax 55,208.4
Less: Tax expenses (7,770)
Profit for the year 47,438.4
b) Statement of changes in equity
Savanna Ltd
Statement of changes in equity for the year ended 30 September 2017
Share capital Share Premium Revaluation Retained profits
Sh. ‘000’ Sh. ‘000’ Sh. ‘000’ Sh. ‘000’
At 1 October 2016 90,000 6,000 - 7,620
Profit for the year - - - 47,438.4
Interim dividend paid - - - (4,440)
Revaluation gain (W1) - - 14,790 -
90,000 6,000 14,790 50,618.4

Working
W1
Revaluation gain
Sh. ‘000’
Land (25,500-20,100) 5,400
Buildings 45,600-(42,600-6,390) 9,390
14,790

c) Statement of financial position

Savanna Ltd
Statement of financial position as at 30 September 2017
Sh. ‘000’ Sh. ‘000’
Non-current assets
Property, plant and equipment (w4) 159,990
Intangible assets (w5) 14,160

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Investment property 20,790
Investments 26,940
221,880
Current assets
Inventory (6,450-321.6) 6,128.4
Trade receivables 8,700
Tax receivable (w6) 1,830
Bank and cash balance 1,350 18,008.4
Total assets 239,888.4
Equity and liabilities:
Capital and reserves
Ordinary shares 90,000
Returned earnings 50,618.4
Share premium 6,000
Revaluation reserve 14,790
161,408.4
Non-current liabilities
10% debentures 30,000
8% redeemable preference shares 15,000
Deferred tax (w7) 9,510 54,540
Current liabilities
Trade payables 5,340
Account due to Majani Ltd. (20,700-2,070) 18,630 23,970
Total capital employed 239,888.4

Workings
W1
Sales revenue
Sh. ‘000’
Reported in trial balance 180,030
Less: Sales for majani Ltd (20,700)
159,330

W2
Sales revenue
Sh. ‘000’
Reported in trial balance 65,670
Add: Cost of damaged stock 9450,000 -128,400) 321.6
65,991.6

W3
Administrative expenses

Sh. ‘000’
Reported balance 11,340
25,800,000 5,160
Amortization development costs 5 8,280
Research costs
13,500,000 4,500
Amortization of patents 3

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Loss on revaluation of patent (15,600 – 13,500) 2,100
31,380

W4
Property, plant and equipment account
Sh. ‘000’ Sh. ‘000’
Balance b/d (20,100 + 42,600 +
216,600) = 279,300 Balance c/d 159,990
Less: Depreciation (6,390 + 127,710) =
(134,100) 145,200
Revaluation of land 5,400
Revaluation of buildings 9,390 -
159,990 159,990
W5
Intangible assets
Sh. ‘000’
Balance b/d 25,920
Amortization on development costs (5,160)
Loss on revaluation (2,100)
Amortization on patents (4,500)
14,160

W6
Tax receivable account
Sh. ‘000’ Sh. ‘000’
Cash 8,580 Income tax expenses 7,770
Deferred tax 1,020 Balance c/d 1,830
9,600 9,600

W7
Deferred tax account
Sh. ‘000’ Sh. ‘000’
Balance b/d 8,490
Balance c/d 9,510 Tax receivable a/c 1,020
9,510 9,510
ANSWER 2
(a) Statement of comprehensive income
Apple Ltd
Statement of Comprehensive income for the year ended 31 March 2017
Sh. ‘000’
Revenue
Cost of sales 1,100,000
Gross of profit (856,000)
Expenses 244,000
Distribution costs (43,000)
Administrative expenses (72,800)
Finance costs (1,400)
Profit before tax 126,800
Income tax expense (54,400 – 2,400 + 6,400) (58,400)

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 Profit for the year 68,400
Other comprehensive income:
Revaluation gain on land and buildings 14,000
Total comprehensive income for the year 82,400

(b) Statement of changes in equity

Apple Ltd
Statement of changes in equity as at 31 March 2017
Share capital Share Revaluation Retained Total
Sh. ‘000’ premium reserve earnings Sh. ‘000’
Sh. ‘000’ Sh. ‘000’ Sh. ‘000’
Balances 1.4.2016 80,000 12,000 - 22,400 114,400
Share issue 20,000 28,000 - - 48,000
Revaluation - - 14,000 - 14,000
Profit for the year - - - 68,400 68,400
Dividends paid - - - (40,000) (40,000)
Balance 31.3.2016 100,000 40,000 14,000 50,800 204,800

(c) Statement of financial position

Apple Ltd
Statement of financial position as at 31 March 2017
Sh. “000 Sh. “000”
Non-current assets
Land and buildings (24,000 + 65,000) 89,000
Plant and equipment 112,000
201,000
Current assets
Inventories 87,400
Trade receivables 84,400 171,800
Total assets 372,800
Equity and liabilities
Equity
Ordinary share capital 100,000
Share premium 40,000
Revaluation reserve 14,000
Retained earnings 50,800
204,800
Non-current liabilities
Deferred tax 18,800
Current liabilities
Trade payables 70,200
Bank overdraft 13,600
Accrued directors remuneration 11,000
Current tax 54,400 149,200
Total equity and liabilities 372,800

Workings
W1

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Land and buildings
Sh. “000”
Carrying amount 1.4.2016 (120,000 – 40,000) 80,000
Revaluation as at that date (24,000 + 70,000) 94,000
Revaluation surplus 14,000
Depreciation on buildings = (70,000 ÷ 14) 5,000
Carrying amount of buildings = (70,000 – 5,000) 65,000

W2
Plant and equipment
Sh. “000”
Carrying amount (189,000 – 49,000) 140,000
Depreciation 20% ×140,000 (28,000)
Carrying amount as at 31 march 2017 112,000

W3
Cost of sales
Sh. “000”
As per trial balance 823,000
Add: depreciation: Plant 28,000
Buildings 5,000
856,000

W4
Deferred tax
Sh. 000
Balance b/d 12,400
Balance c/d 18,800
Increase charged to profit and loss account 6,400

W5
Administrative costs
Sh.000
As per trial balance 61,800
add: Directors remuneration 11,000
72,800

W6
(1 + 0.25) x = 100,000
100,000
1.25x = 100,000 X= 1.25
= 80,000

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 ANSWER 3
Baraza Group Cash Flow Statement for the year ended 30th April 2015
Sh. “m” Sh. “m”
Cash flow from operating activities
Profit before tax 3,185
Adjusted for; depreciation expense(w2a) 260
Impairment loss(w1b) 90
Finance cost 340
Less investment income (50)
Less gain on disposal of Salama(w1c) (295)
Gain on sale of plant (125-65) (60)
Cash flow before working capital adjustments 3470
Decrease in inventory (w3a) 130
Decrease in trade receivable (w3b) 65
Decrease in trade payables (w3c) (80)
Cash flows from operations 3,585
Less tax paid(w4) (1155)
Interest paid(w5) (340)
Net cash flows from operating activities 2,090

Cash flow from investing activities

Cash proceeds on sale of plant(w2c) 125
Net cash proceeds on sale of Salama(w1d) 1610
Investing income 50
Purchase of PPE(w2a) (915)
Purchase of financial assets at farm value (w7a) (20)
Net cash flows from investing activities 850

Cash flows from financing activities

Dividends paid-to holding company shareholders(w6a) (900)
to N.C.I shareholders(w6b) (75)
Repayment of 8% loan stock (1000)
Repayment of obligations under finance lease(w8) (320)
Net cash out flows from financing activities (2,295)
Net changes in cash & cash equivalents 645
Add: cash and cash equivalents at beginning/start (295-615) (320)
Cash & cash equivalents at end (355-30) 325

Workings
W1
(a) Unimpaired goodwill
Goodwill on acquisition –impairment loss (80%)
Goodwill = purchase consideration-group’s share of net assets acquired
= sh900million - (75%×1,000m) = 900m - 750m = 150m

Impaired goodwill=150m-(80%×150m) =30m

Alternatively: 20%×150m = 30m

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(b) Impairment loss for the group
Good will accont
Sh.m Sh.m
Balance b/d 240 Unimpaired goodwill disposed 30
Impairment loss 90
Goodwill acquired xxx Balance c/d 120
240 240

c) Cash proceeds on sale of salama

Sh. “m”
Cash proceeds (balancing figure) 1,750
Less group share of net assets disposed
75% (660+965+560+140-405-20) (1425)
Less : unimpaired goodwill disposed (30)
Gain on sale of subsidiary 295

d) Net cash inflow on disposal of Salama

Sh. “m”
Cash proceeds 1,750
less: Cash/bank balance in salama (140)
add: bank overdraft in salama __-___
Net cash inflow 1610

W2
(a)Property plant and equipment reconciliation
PPE account
Sh “m” Sh “m”
Balance b/d 2,600 PPE for salama 660
Purchase -Finance lease 300 Disposal (NBV) 65
-Cash (1,215-300) 915 Revaluation 100
Revaluation surplus - Reserve devaluation 260
Depreciation expense(bal. fig) 2,730
___ Balance c/d 3,815
3,815
(b)
Revaluation Reserve PPE account
Sh “m” Sh “m”
PPE balancing figure 100 Balance b/d 850
-
Balance c/d 750 -
850 850
(c)
Disposal account
Sh. “m” Sh. “m”
PPE N.B.V 65 Cash proceeds 125
Gain on disposal 60 Loss on disposal xx
125 125

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W3
Increase/Decrease in working capital
a) Inventory
Inventory account
Sh “m” Sh “m”
Balance b/d 4,210 For subsidiary disposed 965
For subsidiary acquired Decrease (Bal. fig) i.e. (cash 130
Increase (Bal. fig) inflow) 3,115
i.e.(cash outflow) __xx__ Balance c/d 4,210
4,210

b) Trade Receivables
Trade Receivables account
Sh “m” Sh “m”
Balance b/d 2,395 For subsidiary disposed 560
For subsidiary acquired Decrease → Bal fig
Increase → Bal fig. (cash inflow) 65
(cash outflow) _____ Balance c/d 1,770
2,395 2,395

c) Trade payables
Payables account
Sh. “m” Sh. “m”
For disposed subsidiary 405 Balance b/d 1,890
Decrease (bal fig) For subsidiary acquired
(cash outflow) 80 Increase (Bal. fig) ____
Balance c/d 1,405 (cash inflow) 1,890
1,890

W4
Tax paid
Tax account
Sh.m Sh.m
For subsidiary disposed 20 Bal b/d – Deferred tax 480
Bank/cash 1,155 Current tax 45
For subsidiary acq.
Bal c/d – Deferred tax 320 Expense for the year 1,010
Current tax 40 ____
1,535 1,535

Alternatively
Tax paid = Balance b/d + Balance for subsidiary acquired + Expense for the year – Balance for
subsidiary disposed – Balance c/d

W5
Interest paid (Note 4)

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 Interest Payable account
Sh.m Sh.m
Bank/cash 340 Balance b/d 10
Balance c/d 10 Expense for the year 340
350 350

W6
Dividend paid
a) Dividend paid to holding company shareholders
Group statement of changes in equity
Sh.m
Group retained earnings b/d 1,685
Add profit attributable to parents shareholders 2,045
Less: dividend paid to holding company shareholders (Bal fig) (900)
Group retained earnings c/d 2,830

b) Paid to non-controlling interest shareholders

NCI account
Sh.m Sh.m
NCI for subsidiary disposed Balance b/d 1,360
(25%×1,900) 475 Profit attributable to N.C.I 130
Cash paid (Bal fig) 75
Balance c/d 940 ____
1,490 1,490

W7
Financial assets at fair value
Fixed assets at Fair Value account
Sh.m Sh.m
Balance b/d 45
Revenue Surplus 5
Purchase – Cash paid 20 Balance c/d 70
70 70

Revenue Reserve account

Sh.m Sh.m

Balance b/d -
Balance c/d 5 Fixed assets at fair value (Bal. fig) 5
5 5

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W8
Finance lease obligations
Finance Lease obligation account
Sh.m Sh.m
Cash paid 320 Balance b/d
Balance c/d Non-current 240
Non-current 200 Current (120-10) 110
Current (140-10) 130 PPE (Note 3) 300
650 650

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 TOPIC 4
ACCOUNTING AND REPORTING OF FINANCIAL
INSTRUMENTS
CHAPTER KEY OJECTIVES
To be able to understand the following;-
- Nature and scope of financial instruments
- Equity and financial liabilities
- Recognition and de-recognition of financial instruments
- Hedge accounting
- Other disclosures

NATURE AND SCOPE OF FINANCIAL INSTRUMENTS

Financial instrument is a contract that gives rise to a financial asset of one entity and a financial
liability or equity instrument of another entity. With references to assets, liabilities and equity
instruments, the statement of financial position immediately comes to mind.

Key terms
Financial instrument
It is any contract that gives rise to both a financial asset of one entity and a financial liability or equity
instrument of another entity.

Financial asset
It is any asset that is:
- Cash
- An equity instrument of another entity
- A contractual right to receive cash or another financial asset from another entity; or to exchange
financial instruments with another entity under conditions that are potentially favorable to the
entity

Financial liability
It is any liability that is:

A contractual obligation:
- To deliver cash or another financial asset to another entity, or
- To exchange financial instruments with another entity under conditions that is potentially
unfavorable.

Equity instrument
It is any contract that evidences a residual interest in the assets of an entity after deducting all of its
liabilities.

Fair value
It is the price that would be received to sell an asset or paid to transfer a liability in an orderly
transaction between market participants at the measurement date.

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 Examples of financial assets include:
- Trade receivables
- Options
- Shares (when held as an investment)

Examples of financial liabilities include:

- Trade payables
- Debenture loans payable
- Redeemable preference (non-equity) shares

IAS 32 makes it clear that the following items are not financial instruments.
- Physical assets, e.g. inventories, property, plant and equipment, leased assets and intangible assets
(patents, trademarks etc.)
- Prepaid expenses deferred revenue and most warranty obligations
- Liabilities or assets that is not contractual in nature

Contingent rights and obligations meet the definition of financial assets and financial liabilities
respectively, even though many do not qualify for recognition in financial statements. This is because
the contractual rights or obligations exist because of a past transaction or event (e.g. assumption of a
guarantee).

LIABILITIES AND EQUITY

The main principle of IAS 32 is that financial instruments should be presented according to their
substance, not merely their legal form. In particular, entities which issue financial instruments should
classify them (or their component parts) as either financial liabilities, or equity.

The classification of a financial instrument as a liability or as equity depends on the following;-

- The substance of the contractual arrangement on initial recognition.
- The definitions of a financial liability and an equity instrument

How should a financial liability be distinguished from an equity instrument? The critical feature of a
liability is an obligation to transfer economic benefit. Therefore a financial instrument is a financial
liability if there is a contractual obligation on the issuer either to deliver cash or another financial asset
to the holder or to exchange another financial instrument with the holder under potentially
unfavorable conditions to the issuer.
Where the above critical feature is not met, then the financial instrument is an equity instrument.
IAS 32 explains that although the holder of an equity instrument may be entitled to a pro rata share of
any distributions out of equity, the issuer does not have a contractual obligation to make such a
distribution. For instance, a company is not obliged to pay a dividend to its ordinary shareholders.
Although substance and legal form are often consistent with each other, this is not always the case. In
particular, a financial instrument may have the legal form of equity, but in substance it is in fact a
liability. Other instruments may combine features of both equity instruments and financial liabilities.

For example, many entities issue preference shares which must be redeemed by the issuer for a fixed
(or determinable) amount at a fixed (or determinable) future date. Alternatively, the holder may have
the right to require the issuer to redeem the shares at or after a certain date for a fixed amount. In such
cases, the issuer has an obligation. Therefore the instrument is a financial liability and should be
classified as such.

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The distinction between redeemable and non-redeemable preference shares is important. Most
preference shares are redeemable and are therefore classified as a financial liability.

Compound financial instruments

Some financial instruments contain both a liability and an equity element. In such cases, IAS 32
requires the component parts of the instrument to be classified separately, according to the substance
of the contractual arrangement and the definitions of a financial liability and an equity instrument.

One of the most common types of compound instrument is convertible debt. This creates a primary
financial liability of the issuer and grants an option to the holder of the instrument to convert it into an
equity instrument (usually ordinary shares) of the issuer. This is the economic equivalent of the issue
of conventional debt plus a warrant to acquire shares in the future.

Although in theory there are several possible ways of calculating the split, IAS 32 requires the
following method.
- Calculate the value for the liability component.
- Deduct this from the instrument as a whole to leave a residual value for the equity component.

The reasoning behind this approach is that an entity's equity is its residual interest in its assets amount
after deducting all its liabilities.

The sum of the carrying amounts assigned to liability and equity will always be equal to the carrying
amount that would be ascribed to the instrument as a whole.

Interest, dividends, losses and gains

Interest, dividends, losses and gains relating to a financial instrument (or component part) classified as
a financial liability should be recognised as income or expense in profit or loss.

Distributions to holders of a financial instrument classified as an equity instrument (dividends to

ordinary shareholders) should be debited directly to equity by the issuer. These will appear in the
statement of changes in equity.

Transaction costs of an equity transaction should be accounted for as a deduction from equity, usually
debited to the share premium account.

RECOGNITION AND DERECOGNITION OF FINANCIAL INSTRUMENTS

Initial recognition
A financial asset or financial liability should be recognised in the statement of financial position when
the reporting entity becomes a party to the contractual provisions of the instrument.

Notice that this is different from the recognition criteria in the Conceptual Framework and in most
other standards. Items are normally recognised when there is a probable inflow or outflow of
resources and the item has a cost or value that can be measured reliably.

Derecognition
Derecognition is the removal of a previously recognised financial instrument from an entity's
statement of financial position.

An entity should derecognise a financial asset when:

- The contractual rights to the cash flows from the financial asset expire; or

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- It transfers substantially all the risks and rewards of ownership of the financial asset to another
party.

An entity should derecognize a financial liability when it is extinguished – ie when the obligation
specified in the contract is discharged or cancelled or expires.

It is possible for only part of a financial asset or liability to be derecognized. This is allowed if the part
comprises:
- Only specifically identified cash flows; or
- Only a fully proportionate (pro rata) share of the total cash flows.

For example, if an entity holds a bond it has the right to two separate sets of cash inflows: those
relating to the principal and those relating to the interest. It could sell the right to receive the interest
to another party while retaining the right to receive the principal.

On derecognition, the amount to be included in net profit or loss for the period is calculated as
follows:

Sh.
Carrying amount of asset/liability (or the portion of asset/liability) transferred
Less proceeds received/paid X
Difference to profit or loss X
X

NOTE
Where only part of a financial asset is derecognized, the carrying amount of the asset should be
allocated between the part retained and the part transferred based on their relative fair values on the
date of transfer. A gain or loss should be recognised based on the proceeds for the portion transferred.

Classification of financial assets

On recognition, IFRS 9 requires that financial assets are classified as measured at either:
- Amortised cost
- Fair value through other comprehensive income; or
- Fair value through profit or loss

Classification basis
The IFRS 9 classification is made on the basis of both:
- The entity's business model for managing the financial assets, and
- The contractual cash flow characteristics of the financial asset.

A financial asset is classified as measured at amortised cost where:

- The objective of the business model within which the asset is held is to hold assets in order to
collect contractual cash flows
- The contractual terms of the financial asset give rise on specified dates to cash flows that are
solely payments of principal and interest on the principal outstanding

An application of these rules means that equity investments may not be classified as measured at
amortised cost and must be measured at fair value. This is because contractual cash flows on specified

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 dates are not a characteristic of equity instruments. They are held at fair value with changes going
through profit or loss unless the investment is not held for trading and the entity makes an irrevocable
election at initial recognition to recognise it at fair value through other comprehensive income, with
only dividend income recognised in profit or loss.

A financial asset must be classified as measured at fair value through other comprehensive income
(unless designated at inception as measured at fair value through profit or loss) where:

- The objective of the business model within which the asset is held is achieved by both collecting
contractual cash flows and selling financial assets; and
- The contractual terms of the financial asset give rise on specified dates to cash flows that are
solely payments of principal and interest.

Classification of financial liabilities

On recognition, IFRS 9 requires that financial liabilities are classified as measured either:
- At fair value through profit or loss, or
- At amortised cost.
A financial liability is classified at fair value through profit or loss if:
o It is held for trading, or
o Upon initial recognition it is designated at fair value through profit or loss.

Derivatives are always measured at fair value through profit or loss

Financial instruments
Financial instruments are initially measured at the fair value of the consideration given or received

(ie, cost) plus (or minus in the case of financial liabilities) transaction costs that are directly
attributable to the acquisition or issue of the financial instrument.

The exception to this rule is where a financial instrument is designated as at fair value through profit
or loss (this term is explained below). In this case, transaction costs are not added to fair value at
initial recognition.

The fair value of the consideration is normally the transaction price or market prices. If market prices
are not reliable, the fair value may be estimated using a valuation technique

Subsequent measurement of financial assets – debt instruments

After initial recognition, IFRS 9 requires an entity to measure financial assets at amortised cost, fair
value through other comprehensive income or fair value through profit or loss based on:
- The entity's business model for managing the financial assets
- The contractual cash flow characteristics of the financial asset

A financial asset is measured at amortised cost if both of the following conditions are met:
- The asset is held within a business model whose objective is to hold assets in order to collect
contractual cash flows.
- The contractual terms of the financial asset give rise on specified dates to cash flows that are solely
payments of principal and interest on the principal amount outstanding.

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After initial recognition, all financial assets other than those held at fair value through profit or loss
should be re-measured to either fair value or amortised cost.

IFRS 9 allows the option to initially measure a financial asset at fair value through profit or loss
where a mismatch would otherwise arise between the asset and a related liability. In this case, the
asset will also be subsequently measured at fair value through profit or loss.

A financial asset or liability at fair value through profit or loss meets either of the following
conditions.

It is classified as held for trading. A financial instrument is classified as held for trading if it is:
- Acquired or incurred principally for the purpose of selling or repurchasing it in the near term
- Part of a portfolio of identified financial instruments that are managed together and for which
there is evidence of a recent actual pattern of short-term profit-taking.
Upon initial recognition it is designated by the entity as at fair value through profit or loss.

Financial assets at amortised cost

Assets held at amortised cost are measured using the effective interest method.
Amortised cost of a financial asset or financial liability is the amount at which the financial asset or
liability is measured at initial recognition minus principal repayments, plus or minus the cumulative
amortization of any difference between that initial amount and the maturity amount, and minus any
write-down for impairment or un-collectability.

The effective interest method is a method of calculating the amortised cost of a financial instrument
and of allocating the interest income or interest expense over the relevant period.

The effective interest rate is the rate that exactly discounts estimated future cash payments or receipts
through the expected life of the financial instrument to the net carrying amount

Example
Amortised cost
On 1 January 2011 Abacus Co purchases a debt instrument for its fair value of Sh.1, 000. The debt
instrument is due to mature on 31 December 2015. The instrument has a principal amount of Sh.1,
250 and the instrument carries fixed interest at 4.72% that is paid annually. The effective rate of
interest is 10%.

How should Abacus Co account for the debt instrument over its five year term?

Answer
Abacus Co will receive interest of Sh.59 (1,250×4.72%) each year and Sh.1,250 when the instrument
matures.

Abacus must allocate the discount of Sh.250 and the interest receivable over the five year term at a
constant rate on the carrying amount of the debt. To do this, it must apply the effective interest rate of
10%. The following table shows the allocation over the years:

Amortised cost Profit or loss: Interest received Amortised

at beginning of Interest income during year cost
year for year (@10%) (cash inflow) at end of year

Page 173
 Sh. Sh. Sh. Sh.
2011 1,000 100 (59) 1,041
2012 1,041 104 (59) 1,086
2013 1,086 109 (59) 1,136
2014 1,136 113 (59) 1,190
2015 1,190 119 (1,250+59) –

Each year the carrying amount of the financial asset is increased by the interest income for the year
and reduced by the interest actually received during the year.

Equity instruments
After initial recognition equity instruments are measured at either fair value through profit or loss
(FVTPL) or fair value through other comprehensive income (FVTOCI).

If equity instruments are held at FVTPL no transaction costs are included in the carrying amount.

Equity instruments can be held at FVTOCI if:

They are not held for trading (i.e. the intention is to hold them for the long term to collect dividend
income)

An irrevocable election is made at initial recognition to measure the investment at FVTOCI.

Equity instruments
After initial recognition equity instruments are measured at either fair value through profit or loss
(FVTPL) or fair value through other comprehensive income (FVTOCI).

If equity instruments are held at FVTPL no transaction costs are included in the carrying amount.
Equity instruments can be held at FVTOCI if:

 They are not held for trading (ie the intention is to hold them for the long term to collect
dividend income)
 An irrevocable election is made at initial recognition to measure the investment at FVTOCI
 If the investment is held at FVTOCI, all changes in fair value go through other
comprehensive income.

Only dividend income will appear in profit or loss.

Illustration
In February 2017 a company purchased 20,000 Sh.1 listed equity shares at a price of Sh.4 per share.

Transaction costs were Sh.2, 000. At the year end of 31 December 2017, these shares were trading at
Sh.5.50.

A dividend of 20c per share was received on 30 September 2017.

Show the financial statement extracts at 31 December 2017 relating to this investment on the basis
that:
a) The shares were bought for trading (conditions for FVTOCI have not been met)

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 b) Conditions for FVTOCI have been met

Answer
(a)

Sh.
Statement of profit or loss
Investment income (20,000 ×(5.5 – 4.0)) 30,000
Dividend income (20,000×20c) 4,000
Transaction costs (2,000)

Statement of financial position

Investments in equity instruments (20,000 × 5.5) 110,000

(b)
Sh.
Statement of profit or loss
Dividend income 4,000
Other comprehensive income
Gain on investment in equity instruments
(20,000×5.5) – (20,000×4) 30,000
Statement of financial position
Investments in equity instruments
((20,000×5.5) + 2,000) 112,000
Subsequent measurement of financial liabilities
After initial recognition all financial liabilities should be measured at amortised cost, with the
exception of financial liabilities at fair value through profit or loss. These should be measured at fair
value, but where the fair value is not capable of reliable measurement, they should be measured at
cost.

Illustration
Galaxy Co issues a bond for Sh.503, 778 on 1 January 2012. No interest is payable on the bond, but it
will be held to maturity and redeemed on 31 December 2014 for Sh.600, 000. The bond has not been
designated as at fair value through profit or loss. The effective interest rate is 6%.
Required;-
Calculate the charge to profit or loss in the financial statements of Galaxy Co for the year ended 31
December 2012 and the balance outstanding at 31 December 2012.

Answer
The bond is a 'deep discount' bond and is a financial liability of Galaxy Co. It is measured at
amortised cost. Although there is no interest as such, the difference between the initial cost of the
bond and the price at which it will be redeemed is a finance cost. This must be allocated over the term
of the bond at a constant rate on the carrying amount. This is done by applying the effective interest
rate.

The charge to profit or loss is Sh.30, 226 (503,778×6%).

The balance outstanding at 31 December 2012 is Sh.534, 004 (503,778 + 30,226).

Page 175
 DERIVATIVES
All derivatives in scope of IFRS 9, including those linked to unquoted equity investments, are
measured at fair value. Value changes are recognised in profit or loss unless the entity has elected to
apply hedge accounting by designating the derivative as a hedging instrument in an eligible hedging
relationship.

Embedded derivatives
An embedded derivative is a component of a hybrid contract that also includes a non-derivative host,
with the effect that some of the cash flows of the combined instrument vary in a way similar to a
stand-alone derivative. A derivative that is attached to a financial instrument but is contractually
transferable independently of that instrument, or has a different counterparty, is not an embedded
derivative, but a separate financial instrument.

The embedded derivative concept that existed in IAS 39 has been included in IFRS 9 to apply only to
hosts that are not financial assets within the scope of the Standard. Consequently, embedded
derivatives that under IAS 39 would have been separately accounted for at FVTPL because they were
not closely related to the host financial asset will no longer be separated. Instead, the contractual cash
flows of the financial asset are assessed in their entirety, and the asset as a whole is measured at
FVTPL if the contractual cash flow characteristics test is not passed (see above).

The embedded derivative guidance that existed in IAS 39 is included in IFRS 9 to help preparers
identify when an embedded derivative is closely related to a financial liability host contract or a host
contract not within the scope of the Standard (e.g. leasing contracts, insurance contracts, contracts for
the purchase or sale of a non-financial items).

IFRS 9 does not allow reclassification:

- For equity investments measured at FVTOCI, or
- Where the fair value option has been exercised in any circumstance for a financial assets or financial
liability.

HEDGE ACCOUNTING
The hedge accounting requirements in IFRS 9 are optional. If certain eligibility and qualification
criteria are met, hedge accounting allows an entity to reflect risk management activities in the
financial statements by matching gains or losses on financial hedging instruments with losses or gains
on the risk exposures they hedge.

The hedge accounting model in IFRS 9 is not designed to accommodate hedging of open, dynamic
portfolios. As a result, for a fair value hedge of interest rate risk of a portfolio of financial assets or
liabilities an entity can apply the hedge accounting requirements in IAS 39 instead of those in IFRS 9.

In addition when an entity first applies IFRS 9, it may choose as its accounting policy choice to
continue to apply the hedge accounting requirements of IAS 39 instead of the requirements of Chapter
6 of IFRS 9.

Qualifying criteria for hedge accounting

A hedging relationship qualifies for hedge accounting only if all of the following criteria are met:

- The hedging relationship consists only of eligible hedging instruments and eligible hedged items.

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 - At the inception of the hedging relationship there is formal designation and documentation of the
hedging relationship and the entity’s risk management objective and strategy for undertaking the
hedge.
- The hedging relationship meets all of the hedge effectiveness requirements (see below)

Hedging instruments
Only contracts with a party external to the reporting entity may be designated as hedging instruments.

A hedging instrument may be a derivative (except for some written options) or non-derivative
financial instrument measured at FVTPL unless it is a financial liability designated as at FVTPL for
which changes due to credit risk are presented in OCI. For a hedge of foreign currency risk, the
foreign currency risk component of a non-derivative financial instrument, except equity investments
designated as FVTOCI, may be designated as the hedging instrument.

IFRS 9 allows a proportion (e.g. 60%) but not a time portion (eg the first 6 years of cash flows of a 10
year instrument) of a hedging instrument to be designated as the hedging instrument. IFRS 9 also
allows only the intrinsic value of an option, or the spot element of a forward to be designated as the
hedging instrument. An entity may also exclude the foreign currency basis spread from a designated
hedging instrument.

IFRS 9 allows combinations of derivatives and non-derivatives to be designated as the hedging

instrument.

Combinations of purchased and written options do not qualify if they amount to a net written option at
the date of designation.

Hedged items
A hedged item can be a recognised asset or liability, an unrecognized firm commitment, a highly
probable forecast transaction or a net investment in a foreign operation and must be reliably
measurable. [IFRS 9 paragraphs 6.3.1-6.3.3]

An aggregated exposure that is a combination of an eligible hedged item as described above and a
derivative may be designated as a hedged item.

The hedged item must generally be with a party external to the reporting entity, however, as an
exception the foreign currency risk of an intragroup monetary item may qualify as a hedged item in
the consolidated financial statements if it results in an exposure to foreign exchange rate gains or
losses that are not fully eliminated on consolidation. In addition, the foreign currency risk of a highly
probable forecast intragroup transaction may qualify as a hedged item in consolidated financial
statements provided that the transaction is denominated in a currency other than the functional
currency of the entity entering into that transaction and the foreign currency risk will affect
consolidated profit or loss. [IFRS 9 paragraphs 6.3.5 -6.3.6]

An entity may designate an item in its entirety or a component of an item as the hedged item. The
component may be a risk component that is separately identifiable and reliably measurable; one or
more selected contractual cash flows; or components of a nominal amount.

A group of items (including net positions is an eligible hedged item only if:
- it consists of items individually,

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- eligible hedged items; the items in the group are managed together on a group basis for risk
management purposes; and
- in the case of a cash flow hedge of a group of items whose variabilities in cash flows are not expected
to be approximately proportional to the overall variability in cash flows of the group:
 it is a hedge of foreign currency risk; and
 the designation of that net position specifies the reporting period in which the forecast
transactions are expected to affect profit or loss, as well as their nature and volume.

For a hedge of a net position whose hedged risk affects different line items in the statement of profit
or loss and other comprehensive income, any hedging gains or losses in that statement are presented
in a separate line from those affected by the hedged items.

Accounting for qualifying hedging relationships

There are three types of hedging relationships:
Fair value hedge: a hedge of the exposure to changes in fair value of a recognised asset or liability or
an unrecognized firm commitment, or a component of any such item, that is attributable to a particular
risk and could affect profit or loss (or OCI in the case of an equity instrument designated as at
FVTOCI).

For a fair value hedge, the gain or loss on the hedging instrument is recognised in profit or loss (or
OCI, if hedging an equity instrument at FVTOCI and the hedging gain or loss on the hedged item
adjusts the carrying amount of the hedged item and is recognised in profit or loss. However, if the
hedged item is an equity instrument at FVTOCI, those amounts remain in OCI. When a hedged item
is an unrecognized firm commitment the cumulative hedging gain or loss is recognised as an asset or a
liability with a corresponding gain or loss recognised in profit or loss.

If the hedged item is a debt instrument measured at amortised cost or FVTOCI any hedge adjustment
is amortised to profit or loss based on a recalculated effective interest rate. Amortization may begin as
soon as an adjustment exists and shall begin no later than when the hedged item ceases to be adjusted
for hedging gains and losses.

Cash flow hedge: a hedge of the exposure to variability in cash flows that is attributable to a
particular risk associated with all, or a component of, a recognised asset or liability (such as all or
some future interest payments on variable-rate debt) or a highly probable forecast transaction, and
could affect profit or loss.
For a cash flow hedge the cash flow hedge reserve in equity is adjusted to the lower of the following
(in absolute amounts):
- the cumulative gain or loss on the hedging instrument from inception of the hedge; and
- the cumulative change in fair value of the hedged item from inception of the hedge.
The portion of the gain or loss on the hedging instrument that is determined to be an effective hedge is
recognised in OCI and any remaining gain or loss is hedge ineffectiveness that is recognised in profit
or loss.

If a hedged forecast transaction subsequently results in the recognition of a non-financial item or

becomes a firm commitment for which fair value hedge accounting is applied, the amount that has
been accumulated in the cash flow hedge reserve is removed and included directly in the initial cost or
other carrying amount of the asset or the liability. In other cases the amount that has been
accumulated in the cash flow hedge reserve is reclassified to profit or loss in the same period(s) as the
hedged cash flows affect profit or loss.

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When an entity discontinues hedge accounting for a cash flow hedge, if the hedged future cash flows
are still expected to occur, the amount that has been accumulated in the cash flow hedge reserve
remains there until the future cash flows occur; if the hedged future cash flows are no longer expected
to occur, that amount is immediately reclassified to profit or loss.
A hedge of the foreign currency risk of a firm commitment may be accounted for as a fair value hedge
or a cash flow hedge.

Hedge of a net investment in a foreign operation (as defined in IAS 21), including a hedge of a
monetary item that is accounted for as part of the net investment, is accounted for similarly to cash
flow hedges:
- the portion of the gain or loss on the hedging instrument that is determined to be an effective
hedge is recognised in OCI; and
- The ineffective portion is recognised in profit or loss.

The cumulative gain or loss on the hedging instrument relating to the effective portion of the hedge is
reclassified to profit or loss on the disposal or partial disposal of the foreign operation.

Hedge effectiveness requirements

In order to qualify for hedge accounting, the hedge relationship must meet the following effectiveness
criteria at the beginning of each hedged period:

there is an economic relationship between the hedged item and the hedging instrument;
the effect of credit risk does not dominate the value changes that result from that economic
relationship; and the hedge ratio of the hedging relationship is the same as that actually used in the
economic hedge

Rebalancing and discontinuation

If a hedging relationship ceases to meet the hedge effectiveness requirement relating to the hedge ratio
but the risk management objective for that designated hedging relationship remains the same, an
entity adjusts the hedge ratio of the hedging relationship (i.e. rebalances the hedge) so that it meets the
qualifying criteria again.

An entity discontinues hedge accounting prospectively only when the hedging relationship (or a part
of a hedging relationship) ceases to meet the qualifying criteria (after any rebalancing). This includes
instances when the hedging instrument expires or is sold, terminated or exercised. Discontinuing
hedge accounting can either affect a hedging relationship in its entirety or only a part of it (in which
case hedge accounting continues for the remainder of the hedging relationship).

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 TOPIC 5
CONSOLIDATED SEPARATE FINANCIAL STATEMENTS

TOPIC KEY OBJECTIVES

1.Understand the types of group structures
2.Be able to explain what consolidation is
3.Understand how to prepare the consolidated statement of financial position
4.Understand the accounting for non-controlling interest (NCI) during consolidation
5. Explain the goods in transit within a group.
6.Explain the treatment of cash in transit within a group
7.Be able to understand what intercompany balances are and how to eliminate them
8.Understand the treatment errors in the books of account
9.Know the treatment unrealized profits during consolidation
10.The treatment of upward sales stream
11.The treatment of downstream transactions
12. Understand how revaluation gain in the books of the subsidiary on acquisition is accounted for.
13.What happens when there is an acquisition of a subsidiary during its accounting period
15.How do you treat Pre-acquisition losses of a subsidiary
16.Understand the equity method of accounting for associates
17.How do you treat associate's losses
18.What are jointly controlled entities
19.Explain the different forms of disposal of investment in a subsidiary (partial and full disposal)
20.Understand the treatment of foreign subsidiaries

INTRODUCTION
Most parent companies present their own individual accounts and their group accounts in a single
package. The package typically comprises the following;
1. Parent company financial statements, which will include investments in subsidiary undertakings
as an asset in the statement of financial position and income from subsidiaries (dividends) in the
income statement.
2. Consolidated statement of financial position
3. Consolidated statement of profit or loss and other comprehensive income
4. Consolidated statement of cash flows.

Key definitions
Group accounting
Group accounting is bringing together separate entities into one reporting entity.
The main objective of preparing group accounts is to present the financial statement of the parent
company and its subsidiary companies as if they existed as a single economic entity.

Parent company/holding
A holding company refers to the company that controls one or more other entities.

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Subsidiary
A subsidiary refers to an entity that is controlled by the parent company i.e. where the parent controls
more than 50% of the shareholdings.
IFRS 10 defines a subsidiary as “An entity that is controlled by another entity. The control means that
the parent company can govern the financial and operating policies of its subsidiaries to gain benefits
from the operations of subsidiary. Control can be gained if more than 50% of the voting rights are
acquired by the parent. This is usually done by purchasing more than 50% of the shares of subsidiary.
An investor controls an investee if and only if the investor has all the following:
(a) Power over the investee;
(b) Exposure, or rights, to variable returns from its involvement with the investee; and
(c) The ability to use its power over the investee to affect the amount of the investor’s returns.

Group
It refers to the parent and all its subsidiary companies

Control
This refers to the power to govern financial and operating policies of an entity so as to obtain benefits
from its activities.
As per IAS27 control is presumed to exist when the investor controls more than 50% of the voting
power of the investee company
-There are circumstances when control exists, when the investor controls more than 50% or less they
include:
- If the investor has power to participate in the operating policies/financial policies in the investee
company.
- If the investor has power to appoint or remove a majority of the members of BOD in the investee
company.

Non-controlling interest (NCI)

Non-controlling interest represents the portion which remains not acquired by the parent in a
subsidiary company i.e. it’s the portion attributable to the minority shareholders.
For the parent to consolidate for the operations of a subsidiary the share of the NCI must be taken into
consideration in the consolidated financial statement (with their percentage).

Associates
It is an investee company where the parent controls 20% but not exceeding 49% of the shareholdings.

Joint venture
A joint venture is an entity in which the parent company controls 50% of the shareholding.

A joint arrangement
A joint arrangement is an arrangement of which two or more parties have joint control. Joint control is
the contractually agreed sharing of control of an arrangement, which exists only when decisions about
the relevant activities require the unanimous consent of the parties sharing control.
Joint arrangement can exist in two different forms as set out by IFRS 11:
• joint operation
• joint venture

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Simple investment
A simple investment is an investee company in which the parent controls less than 20% of the
shareholding.

GROUP STRUCTURES
For the parent company to consolidate for the operations of the investee companies it should first
determine the group structure and shareholding.
There are three types of group structures. Namely;-
1. Horizontal group structure
2. Vertical group structure
3. Mixed group structure

Horizontal group structure

It exists where the parent company has a direct control in one or more investee companies.

Example
H Ltd acquires 80%, 50% and 40% of A Ltd, B Ltd and C Ltd respectively.
Required:
Show the group structure and shareholding for consolidation purposes.

H LTD

80% 50% 40%

A LTD B LTD C LTD

Shareholdings
In A Ltd In B Ltd In C Ltd
H Ltd = 80% H Ltd = 50% H Ltd = 40%
NCI = 20%
100%

NOTE
A is a subsidiary B is a joint venture C is an associate

Vertical group structure

A vertical group structure exists where subsidiary company has a direct control in another subsidiary
company (sub-subsidiary)

Example
H Ltd acquired 80% of S Ltd and S Ltd acquired 70% of B Ltd.
Required:
Show the group structure and shareholding for consolidation purposes.

H ltd

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 80%

S ltd-subsidiary

70%

B ltd-sub-subsidiary

Shareholding
In S Ltd In B Ltd
H = 80% H Ltd 80%×70% = 56%
NCI = 20% NCI = 44%
100% 100%

The indirect control by then parent in the sub-subsidiary company is known as the arithmetic interest

Mixed group structure

Exist where both the parent and the subsidiary company controls the subsidiary directly.

Example:
H ltd acquired 80% of S Ltd and 20% of Q Ltd. S Ltd also acquired 40% of Q Ltd.

H ltd

80%

S Ltd 20%

40%

Q Ltd

Shareholding
In S ltd In Q Ltd
Holding company = 80% Direct control = 20%
NCI = 20 % Indirect control(0.8×0.4) = 32%
100% NCI = 48%
100%

CONSOLIDATION
Consolidation is the process of adjusting and combining financial information from the individual
financial statements of a parent undertaking and its subsidiary undertakings to prepare consolidated
financial statements that present financial information for the group as a single economic entity.

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Consolidation process
The financial statements of a parent and its subsidiaries are combined on a line-by-line basis by
adding together like items of assets, liabilities, equity, income and expenses.

The following steps are then taken, in order that the consolidated financial statements should show
financial information about the group as if it was a single entity.

1. The carrying amount of the parent's investment in each subsidiary and the parent's portion of
equity of each subsidiary are eliminated or cancelled
2. Non-controlling interests in the net income of consolidated subsidiaries are adjusted against group
income, to arrive at the net income attributable to the owners of the parent
3. Non-controlling interests in the net assets of consolidated subsidiaries should be presented
separately in the consolidated statement of financial position

Other matters to be dealt with include:

- Goodwill on consolidation should be dealt with according to IFRS 3
- Dividends paid by a subsidiary must be accounted for

HINT
IFRS 10 states that all intra-group balances and transactions, and the resulting unrealised profits,
should be eliminated in full. Unrealised losses resulting from intra-group transactions should also be
eliminated unless cost can be recovered.

CONSOLIDATED STATEMENT OF FINANCIAL POSITION

The statement of financial position is another term for the balance sheet. The statement lists
the assets, liabilities, and equity of an organization as of the report date.

The preparation of a consolidated statement of financial position, in a very simple form, consists of
two procedures:

1. Take the individual accounts of the parent company and each subsidiary and cancel out items
which appear as an asset in one company and a liability in another.
2. Add together all the uncancelled assets and liabilities throughout the group

Items requiring cancellation may include:

- The asset 'shares in subsidiary companies' which appears in the parent company's accounts will
be matched with the liability 'share capital' in the subsidiaries' accounts.
- There may be intra-group trading within the group. For example, H Co may sell goods on credit
to S Co. S Co would then be a receivable in the accounts of H Co, while H Co would be a payable
in the accounts of S Co.

Illustration
Ongayo Ltd. regularly sells goods to its one subsidiary company, S Ltd., which it has owned since S
Ltd's incorporation. The statement of financial position of the two companies on 31 December 2016 is
as given below.

Statement of Financial Position as at 31 December 2016

Ongayo Ltd. S Ltd.

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 Sh. Sh.
Assets
Non-current assets
Property, plant and equipment 35,000 45,000
Investment in 40,000 Sh.1 shares in S Ltd at cost 40,000
75,000
Current assets
Inventories 16,000 12,000
Receivables: S Ltd. 2,000 -
Other 6,000 9,000
Cash at bank 1,000 -
Total assets 100,000 66,000
Equity and liabilities
Equity
40,000 Sh.1 ordinary shares - 40,000
70,000 Sh.1 ordinary shares 70,000 -
Retained earnings 16,000 19,000
86,000 59,000
Current liabilities
Bank overdraft - 3,000
Payables: Ongayo Co. - 2,000
Payables: Other 14,000 2,000
- -
Total equity and liabilities 100,000 66,000

Required;-
Prepare the consolidated statement of financial position of Ongayo Co at 31 December 2016.

Answer

Key point 1
The cancelling items are:
1.Ongayo Ltd's asset 'investment in shares of S Co' (Sh.40,000) cancels with S Co's liability 'share
capital' (Sh.40,000)

2. Ongayo Ltd's asset 'receivables: S Ltd (Sh.2, 000) cancels with S Ltd's liability 'payables: Ongayo
Ltd (Sh.2, 000)

Key point 2
Parent subsidiary company relationship is a very strong one. The entities within this relationship
should never place claims against each other i.e. the intra owings between companies of a group are
fictitious.

The remaining assets and liabilities are added together to produce the following consolidated
statement of financial position.

NOTE

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To consolidate is to put together financial statements of two or more entities through addition.

Ongayo Ltd.
Consolidated Statement of Financial Position as at 31 December 2016
Sh. Sh.
Assets
Non-current assets
Property, plant and equipment 80,000
Current assets
Inventories 28,000
Receivables 15,000
Cash at bank 1,000 44,000
Total assets 124,000
Equity and liabilities
Equity
70,000 Sh.1 ordinary shares 70,000
Retained earnings 35,000 105,000

Current liabilities
Bank overdraft 3,000
Payables 16,000 19,000
Total equity and liabilities 124,000

Ongayo’s Ltd's bank balance is not netted off with S Ltd's bank overdraft. To offset one against the
other would be less informative and would conflict with the principle that assets and liabilities should
not be netted off.

The share capital in the consolidated statement of financial position is the share capital of the
parent company alone. This must always be the case, no matter how complex the consolidation,
because the share capital of subsidiary companies must always be a wholly cancelling item.

Part cancellation
An item may appear in the statements of financial position of a parent company and its subsidiary, but
not at the same amounts.

The parent company may have acquired shares in the subsidiary at a price greater or less than their par
value. The asset will appear in the parent company's accounts at cost, while the liability will appear in
the subsidiary's accounts at par value. This raises the issue of goodwill, which is dealt with later in
this chapter.

Even if the parent company acquired shares at par value, it may not have acquired all the shares of the
subsidiary (so the subsidiary may be only partly owned). This raises the issue of non-controlling
interests, which is also dealt with later in this chapter.

The inter-company trading balances may be out of step because of goods or cash in transit.

One company may have issued loan stock of which a proportion only is taken up by the other
company.

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Illustration
The following question illustrates the techniques needed to deal with items mentioned above. The
procedure is to cancel as far as possible. The remaining uncancelled amounts will appear in the
consolidated statement of financial position.

Uncancelled loan stock will appear as a liability of the group.

Uncancelled balances on intra-group accounts represent goods or cash in transit, which will appear in
the consolidated statement of financial position.

The statements of financial position of P Ltd. and of its subsidiary S Ltd. have been made up to 30
June. P Ltd. has owned all the ordinary shares and 40% of the loan stock of S Ltd. since its
incorporation.

Statement of Financial Position as at 30 June

P Ltd. S Ltd.
Sh. Sh.
Assets
Non-current assets
Property, plant and equipment 120,000 100,000
Investment in S Ltd, at cost
80,000 ordinary shares of Sh.1 each 80,000 -
Sh.20,000 of 12% loan stock in S Ltd. 20,000 -
220,000 100,000
Current assets
Inventories 50,000 60,000
Receivables 40,000 30,000
Current account with S Ltd. 18,000
Cash 4,000 6,000
112,000 96,000
Total assets 332,000 196,000
Equity and liabilities
Equity
Ordinary shares of Sh.1 each, fully paid 100,000 80,000
Retained earnings 95,000 28,000
195,000 108,000
Non-current liabilities
10% loan stock 75,000 -
12% loan stock - 50,000
Current liabilities

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 Payables 47,000 16,000
Taxation 15,000 10,000
Current account with P Ltd. - 12,000
62,000 38,000
Total equity and liabilities 332,000 196,000

The difference on current account arises because of goods in transit.

Required;-
Prepare the consolidated statement of financial position of P Ltd.

Answer
P Ltd.
Consolidated Statement of Financial Position as at 30 June
Sh. Sh.
Assets
Non-current assets
Property, plant and equipment (120,000 + 100,000) 220,000
Current assets
Inventories (50,000 + 60,000) 110,000
Goods in transit (18,000 - 12,000) 6,000
Receivables (40,000 + 30,000) 70,000
Cash (4,000 + 6,000) 10,000
196,000
Total assets 416,000
Equity and liabilities
Equity
Ordinary shares of Sh.1 each, fully paid (parent) 100,000
Retained earnings (95,000 + 28,000) 123,000 223,000

Non-current liabilities
10% loan stock 75,000
12% loan stock (50,000×60%) 30,000 105,000

Current liabilities
Payables (47,000 + 16,000) 63,000
Taxation (15,000 + 10,000) 25,000 88,000
Total equity and liabilities 416,000

Key points
The uncancelled loan stock in S Co becomes a liability of the group

The goods in transit is the difference between the current accounts (Sh.18, 000 – Sh.12, 000)

The investment in S Co's shares is cancelled against S Co's share capital.

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The only loan stock which can be acknowledged in the statement of financial position is loan stock from
third parties i.e. 60%. The 40% intra owing should be eliminated.

Accounting for Non-controlling interest (NCI) in the books of the parent company
The total assets and liabilities of subsidiary companies are included in the consolidated statement of
financial position, even in the case of subsidiaries which are only partly owned. A proportion of the
net assets of such subsidiaries in fact belong to investors from outside the group (non-controlling
interests).

NCI is accounted for in the consolidated financial statement using either of the following methods.
1. Fair value method (full method)
2. Partial method

Fair value method

Under this approach the NCI is to be recognized in the consolidated financial statement after taking
into consideration the goodwill attributable to both the parent and the minority shareholders.

The share of NCI will be as follows;-

The share of NCI:

Sh.
Share of net assets (% NCI) xxx
Share of preference share capital (% NCI) xxx
Share of goodwill (% NCI) xxx
xxx

Partial method
Under this approach the NCI are not recognized with their share of goodwill and therefore the value
attributable to NCI will be determined as follows;

Sh.
Share of net Assets (% NCI) xxx
Share of preference share capital (% NCI) xxx
xxx

Goodwill format
Sh. Sh.
Cost of investment xxx
NCI investment valuation xxx
Less: share of Net assets xxx
Equity shares xxx
Retained earnings xxx (xxx)
Goodwill xxx

Illustration

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C Ltd acquired 90% of the ordinary shares of D Ltd on 1st January 2017 for sh.1400 million when the
net assets of D Ltd were sh.1, 500 million. On 1st January 2017 the fair value of the NCI was Sh.155
million.
Required:
Calculate goodwill on acquisition of D Ltd using both the partial method and full method.

Answer
HINT
The non-controlling interest is 10%

Using partial method

Sh. million
Cost of investment 1,400
Less share of net asset acquired
Net asset (1,500×90%) 1,350
Goodwill 50

Full method (fair value) method

Holding company NCI
Sh. million Sh. million
Cost of investment /fair value 1400 155
Less: share of net asset
Holding company (1,500×90%) (1350) -
Non-controlling interest(1,500×10%) - (150)
50 5

Total goodwill (50 + 5) = 55

NOTE:
To calculate the goodwill using full method either of the following must be provided:
- NCI must be stated at the fair value on the date of acquisition.
- There must be goodwill attributable to the NCI that had been recognized in the previous
consolidated financial statement.
- Market prices of the ordinary shares of the subsidiary are stated to be attributable to the NCI.

Illustration
A Ltd acquired 80% of ordinary shares of B Ltd on 1/1/2017 for Sh.1750 million when the total net
assets of B Ltd were 2000 million. On 1/1/2017 the market price of ordinary shares of A Ltd and B
Ltd were sh.200 and sh.112.5 each respectively. B Ltd has issued 20 million ordinary shares of sh. 10
each.
Required:
Calculate the value of goodwill on acquisition of B using full method.

Answer
Goodwill = cost of investment -share of net Assets acquired

Holding Non-
company controlling

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 interest
Sh.m Sh.m
Cost of investment/FV 1,750 450
Fair value of NCI(20%×20M)×sh112.5
Less: share of net Asset
HCO (80%×2,000) (1,600) -
NCI (20% ×2,000) - (400)
150 50

Total goodwill on consolidation (150 + 50) = 200M

Accounting treatments of goodwill

IFRS 3 states that purchased positive goodwill should be capitalized and subjected to an annual
impairment review.
The net goodwill (after impairment) should be treated as a non-current asset in consolidated statement
of financial position (COSFP).

Deferred consideration
Sometimes the purchase consideration may include some deferred consideration which does not
become payable until later date.

When computing the cost of investment the amount of deferred consideration should be discounted to
its present value at the date of acquisition.

The difference between the deferred consideration at the acquisition date and the date when its
payable should be treated as an interest expense.
This interest should be charged against the profit of the parent company.

Illustration
P Ltd acquired 80% of ordinary shares of S Ltd on 1/1/2015 when the fair value of net assets of S was
Sh.90 million. P Ltd paid Sh.30 million in cash immediately and issued 1 million new ordinary shares
to the purchase consideration. The market value of P Ltd.’s and S Ltd.’s ordinary shares on 1/1/2015
was sh.40 and sh25 respectively.

Additionally P Ltd agreed to pay sh.14, 641,000 on 31/12/2018 provided that the earnings of S Ltd
increased at annual rate of 15% per annum in each of 4 years under consideration. P Ltd cost of
capital is 10% per annum and the fair of NCI at acquisition date was sh.20m.
Required:
Calculate the value of goodwill on date of acquisition

Answer

Cost of investment
Sh. million
Cash 30
Ordinary shares [1m ×240) 40
Deferred consideration
14,641,000 (1.1))-4 10
Total cost of investment 80

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Goodwill
Holding Company Non-Controlling Interest
Sh. million
Sh. million
Cost of investment/Fair value 80 20
Less;
Share of net asset
HCO (80% × 90) (72) -
NCI (20% × 90) - (18)
8 2

Total goodwill=8 + 2=10

Goodwill and Pre-acquisition profits

Any Pre-acquisition retained earnings of a subsidiary company are not aggregated with the parent
company's retained earnings in the consolidated statement of financial position. The figure of
consolidated retained earnings comprises the retained earnings of the parent company plus the post-
acquisition retained earnings only of subsidiary companies. The post-acquisition retained earnings are
simply retained earnings now less retained earnings at acquisition.

The subsidiary may also have share premium or revaluation surplus balances at the acquisition
date. These will be brought into the goodwill calculation along with other Pre-acquisition reserves.
Any post-acquisition movement on these balances will be split between group and NCI.

Illustration
Goodwill and Pre-acquisition profits
Sing Ltd. acquired the ordinary shares of Wing Ltd. on 31 March when the draft statements of
financial position of each company were as follows.
Sing Ltd.
Statement of financial position as at 31 March
Sh.
Assets
Non-current assets
Investment in 50,000 shares of Wing Co at cost 80,000
Current assets 40,000
Total assets 120,000
Equity and liabilities
Equity
Ordinary shares 75,000
Retained earnings 45,000
Total equity and liabilities 120,000

Wing Ltd.
Statement of financial position as at 31 March
Sh.
Current assets 60,000
Equity
50,000 ordinary shares of Sh.1 each 50,000

Page 192
 Retained earnings 10,000
60,000

Required;-
Prepare the consolidated statement of financial position as at 31 March.

Answer

The technique to adopt here is to produce a new working: 'Goodwill'. A proforma working is set out
below.

Goodwill
Sh. Sh.
Consideration transferred X
Net assets acquired as represented by
Ordinary share capital X
Share premium X
Retained earnings on acquisition X (X)
Goodwill XX

Sh. Sh.
Consideration transferred 80,000
Net assets acquired as represented by
Ordinary share capital 50,000
Retained earnings on acquisition 10,000 (60,000)
Goodwill 20,000
Sing Ltd.
Consolidated statement of financial position as at 31 march
Sh.
Assets
Non-current assets
Goodwill arising on consolidation (W) 20,000
Current assets (40,000 + 60,000) 100,000
Total assets 120,000
Equity and liabilities
Ordinary shares(parent only) 75,000
Retained earnings(note 1) 45,000
Total equity and liabilities 120,000

Note1;
Retained earnings of the subsidiary have been omitted from the groups retained earnings since they
were Preacquisition earnings.

Goodwill and non-controlling interest

If Sing Co had paid Sh.70, 000 for 40,000 shares in Wing Co, the goodwill working would be as
follows:
Sh.

Page 193
 Consideration transferred 70,000
Non-controlling interest (60,000×20%) 12,000
Net assets acquired (60,000)
Goodwill 22,000
Impairment of goodwill
Goodwill arising on consolidation is subjected to an annual impairment review and impairment may
be expressed as an amount or as a percentage. The double entry to write off the impairment is:

DEBIT Group retained earnings

CREDIT Goodwill

However, when NCI is valued at fair value the goodwill in the statement of financial position
includes goodwill attributable to the NCI. In this case the double entry will reflect the NCI proportion
based on their shareholding as follows.

DEBIT Group retained earnings

DEBIT Non-controlling interest
CREDIT Goodwill

OTHER IMPORTANT ADJUSTMENTS

Adjustments made when preparing consolidated statement of financial position are;-

Goods in transit
One entity may have sold goods to the other entity but at the end of financial period the other entity
may not have received the goods.
Goods in transit should be adjusted in the books of the entity that is supposed to receive them.
The receiving entity should record the goods in transit as per the provisions of IAS2 i.e. at the lower
of cost and Net realizable value.

Entries in the books for the goods in transit,

Debit: Group inventory
Credit: Group creditors

Cash in transit
Arises when one entity has remitted some money to another entity but had not been received at the
end of the year.
Cash in transit is adjusted by adding it to the cash/bank balance in the books of the entity that is
supposed to receive it.

Entries in the books for cash in transit,

Debit: Group cash and cash equivalents
Credit: Group debtors.

Intercompany balances
Intercompany balances arise when group members owe each other at the end of financial period.
For consolidation purposes inter-company balances should be eliminated in full by;
Debit;-Group payables account
Credit;-Group receivable account

Errors in the books of Account

Page 194
Errors in the books of accounts are adjusted in the books of the entity that made the errors.

Unrealized profits
Unrealized profit arises when goods sold to a group member remained unsold at the end of the
financial period.
To avoid profit overstatement, unrealized profits should be eliminated during/on consolidation.
However the elimination of unrealized profit depends on the sales stream.

Upward sales stream

This arises when the subsidiary is the one selling to the parent company. In this case the UPCI
(increased profit on closing inventory) will be eliminated by:

DR: Retained earnings (% HCO)

DR: Non-controlling interest (% NCI)
CR: Group inventory A/C

Downstream transactions
Downstream transactions arise when the parent company in the one selling to the subsidiary.
Unrealised profit on closing inventory will be eliminated by:
DR. Retained earnings
With the total
CR. Group inventory value of UPCI (unrealized profit on closing inventory)

UPCI = Profit margin ×Unsold inventory

Illustration
Scenario 1
H Ltd sold goods to its subsidiary S Ltd at sh.200 million at profit margin of 20%. S Ltd had sold ¾ of
these goods at the end of the year.

Scenario 2
H Ltd sold goods worth sh.2400 to its subsidiary S Ltd. S ltd had sold ¼ of these goods at the end of
the year. H Ltd had marked up these goods at 20%.
Scenario 3
H Ltd sold goods to its subsidiary at Sh.2400. these goods had cost H Ltd sh.2000. The subsidiary
held 1/5 of these goods at the end of the year.
Required:
For each of the scenarios above calculate the unrealized profit on closing inventory.(UPCI)

Answer
Scenario 1
UPCI=profit margin × unsold inventory

¼×200 × 20% = Sh.10m

Scenario 2
Calculate the margin first
Margin =20/100+ 20 = 20/120 =1/6
240 ×¾ × 1/6 = sh.300m

Page 195
Scenario 3
𝑠𝑒𝑙𝑙𝑖𝑛𝑔 𝑝𝑟𝑖𝑐𝑒−𝑐𝑜𝑠𝑡 2,400−2,000 1 1
400 ×1/5 = sh.80m or = 𝑠𝑒𝑙𝑙𝑖𝑛𝑔 𝑝𝑟𝑖𝑐𝑒
= 2,400
= 6×2400×5=sh80m

Unrealized profit on sale of fixed asset (UPFA)

UPFA arises when a group member transfers an item of fixed asset to another group member and
recognizes a profit on such a transfer.
Since the asset is not meant for re-sale the profit recognized should be eliminated on consolidation.

Formula
UPFA = Transfer value of Asset × Profit margin

Eliminated by:
DR: Retained earnings account
With the value of UPFA
CR: Property plant and equipment

Unrealised profit on fixed assets (UPFA) leads to depreciation overcharge which should be adjusted
for by:
DR: Property plant and equipment
With the excess depreciation
CR. Retained Earnings

Depreciation overcharge will be:

Depreciation overcharge = Unrealized Profit on Fixed Asset × Depreciation rate

Illustration
Intra-group sale of non-current assets
P Co owns 60% of S Co and on 1 January 2001 S Co sells plant costing Sh.10, 000 to P Co for Sh.12,
500. The companies make up accounts to 31 December 2011 and the balances on their retained
earnings at that date are:
Sh.
P company after charging depreciation 27,000
S company including profit on sale of plant 18,000

The rate of depreciation is 10%.

Required;-
Show the working for consolidated retained earnings.

Answer

P Co S Co
Sh. Sh.
Per question 27,000 18,000
Disposal of plant
Profit (2,500)
Depreciation overcharge: (10%×Sh. 2,500) 250
15,750

Share of S Co: (Sh.15, 750×60%) 9,450

Page 196
 36,450
Notes
1. The NCI in the retained earnings of S Co is 40% × Sh.15, 750 = Sh.6, 300.
2. The profit on the transfer less related depreciation of Sh.2, 250 (2,500 – 250) will be deducted from
the carrying amount of the plant to write it down to cost to the group.

3. Depreciation overcharge = depreciation amount × depreciation rate.

Revaluation gain in the books of the subsidiary on acquisition

Revaluation arises whenever there is a difference between the fair value and the net book value
(NBV) of an asset:

With revaluation gain;

DR: Group property plant and equipment account
CR: Revaluation reserve account

Revaluation gain leads to depreciation undercharge which should be adjusted for by:
DR: retained earning account
CR: Group PPE
Depreciation undercharge = Revaluation gain × Depreciation rate

Key Workings
1. Retained earnings account(R/E)
2. Cost of control (COC)
3. Non-controlling interest account (NCI)

Retained earnings account

It is prepared in order to determine the aggregate profit for the parent company and all its investee
companies.
Retained earnings is prepared as follows (same as profit A/C)
Retained earnings account
Sh. Sh.
Unrealised profit on closing inventory xxx Retained earnings b/d : holding
Unrealised profit on fixed assets xxx company xxx
Depreciation undercharge xxx Subsidiary xxx
Impairment loss xxx Post-acquisition retained earnings-
Pre-acquisition profit of the subsidiary Associate xxx
Retained earnings attributable to NCI xxx Joint venture xxx
To statement of financial position (Bal figure) xxx Depreciation overcharge xxx
xxx Negative goodwill xxx
xxx xxx

The phrase ‘Pre-acquisition’ is used to refer to the profit on the date of acquisition.

Cost of control Account (COC)

This account is prepared in order to determine the value of goodwill arising on acquisition the
subsidiary; however it is only applicable when the parent is using the partial method. The cost of
control account is prepared as follows;-
Cost of control account

Page 197
 Sh. Sh.
Cost of investment in Share of net Assets
-Ordinary shares xxx -Ordinary share capital (%HCO) xx
-Preference shares xxx -Preference share capital (%HCO) xx
Goodwill(negative) xx -Share premium (% HCO) xx
-Retained earnings (% HCO) xx
-Reserves (% HCO) xx
-Debentures (at par) xx
- Goodwill (positive) xx
xx xx

Non-controlling interest (NCI)

The non-controlling interest account is prepared in order to determine either profit or capital
attributable to the minority shareholders.
To determine capital attributable to Non-controlling interest: Prepare NCI Account as follows:

Non-controlling interest
Sh. Sh.
Unrealised profit on closing inventory xx Share of net Assets
Depreciation undercharge (% NCI) xx Ordinary share capital (% NCI) xx
Preference share capital(% NCI) xx
Impairment loss Share premium (% NCI) xx
(if full method) xx Retained earnings (% NCI) xx
Consolidated statement of financial position Reserves (% NCI) xx
xx Goodwill (Full method) xx
- Depreciation overcharge (% NCI) xx
xx xx

Illustration
Non-controlling interest
P Ltd. has owned 75% of the share capital of S Ltd. since the date of S Ltd's incorporation. Their
latest statements of financial position are given below.

Statement of Financial Position

P Co S Co
Sh. Sh.
Assets
Non-current assets
Property, plant and equipment 50,000 35,000
30,000 Sh.1 ordinary shares in S Co at cost 30,000
80,000
Current assets 45,000 35,000
Total assets 125,000 70,000
Equity and liabilities
Equity
Sh.1 ordinary shares 80,000 40,000
Retained earnings 25,000 10,000
105,000 50,000
Current liabilities 20,000 20,000

Page 198
Total equity and liabilities 125,000 70,000

Required;-
Prepare the consolidated statement of financial position

Answer
All of S Ltd's net assets are consolidated despite the fact that the company is only 75% owned. The
amount of net assets attributable to non-controlling interests is calculated as follows;-
Sh.
Non-controlling share of share capital (25%×Sh.40,000) 10,000
Non-controlling share of retained earnings (25%×Sh.10,000) 2,500
12,500

Of S Ltd's share capital of Sh.40, 000, Sh.10, 000 is included in the figure for non-controlling interest,
while Sh.30, 000 is cancelled with P Ltd's asset 'investment in S Ltd'.

The consolidated statement of financial position can now be prepared.

P group
Consolidated statement of financial position
Sh. Sh.
Assets
Property, plant and equipment(50,000+35000) 85,000
Current assets(45,000+35,000) 80,000
Total assets 165,000
Equity and liabilities
Equity attributable to owners of the parent
Share capital 80,000
Retained earnings Sh.(25,000 + (75%×Sh.10,000)) 32,500 112,500
Non-controlling interest 12,500
125,000
Current liabilities(120,000+20,000) 40,000
Total equity and liabilities 165,000

Profit determination
For profit determinations adjust and share the profit after tax in the subsidiary company as follows:

NCI profit share

Reported PAT in the subsidiary xxx
Les: UPCI (If upstream) xxx
Less: Depreciation undercharge (if any) xxx
Less: Impairment loss (if full method) xxx
Add: Depreciation overcharge xxx
Adjusted profit xxx

Page 199
NCI’s share = Adjusted profit×% NCI

Acquisition of a subsidiary during its accounting period

The subsidiary company's accounts to be consolidated will show the subsidiary's profit or loss for the
whole year. For consolidation purposes, however, it will be necessary to distinguish between:
 Profits earned before acquisition
 Profits earned after acquisition
Practically, a subsidiary company's profit may not accrue evenly over the year; for example, the
subsidiary might be engaged in a trade, such as toy sales, with marked seasonal fluctuations.
Nevertheless, the assumption can be made that profits accrue evenly whenever it is impracticable to
arrive at an accurate split of pre- and post-acquisition profits.

Once the amount of Pre-acquisition profit has been established the appropriate consolidation workings
(goodwill, retained earnings) can be produced.

It is worthwhile to summarize what happens on consolidation to the retained earnings figures

extracted from a subsidiary's statement of financial position.

Illustration
The accounts of S Co, a 60% subsidiary of P Co, show retained earnings of Sh.20, 000 at the end of
the reporting period, of which Sh.14, 000 were earned prior to acquisition. The figure of Sh.20, 000
will be distributed as follows in the consolidation process;-

Sh.
Non-controlling interests working: their share of post-acquisition retained
earnings(40%×6,000) 2,400
Goodwill working: Pre-acquisition retained earnings 14,000
Consolidated retained earnings working: group share of post-acquisition retained
earnings (60%×Sh.6,000) 3,600
20,000

Note;
All pre acquisition earnings are taken to the goodwill calculation.

Illustration
Hinge Ltd. acquired 80% of the ordinary shares of Singe Ltd. on 1 April 2015. On 31 December 2014
Singe Ltd's accounts showed a share premium account of Sh.4, 000 and retained earnings of Sh.15,
000. The statements of financial position of the two companies at 31 December 2015 are set out
below as below. Neither company has paid any dividends during the year. NCI should be valued at
full fair value. The market price of the subsidiary's shares was Sh.2.50 prior to acquisition by the
parent.
There has been no impairment of goodwill.
Statement of Financial Position as At 31 December 2015
Hinge Co Singe Co
Sh. Sh.
Assets
Non-current assets
Property, plant and equipment 32,000 30,000
16,000 ordinary shares of Sh.0.50 each in Singe Ltd. 50,000 -

Page 200
 82,000 -
Current assets 85,000 43,000
Total assets 167,000 73,000

Equity and liabilities

Equity
Ordinary shares of Sh.1 each 100,000 -
Ordinary shares of Sh.0.50 each - 10,000
Share premium account 7,000 4,000
Retained earnings 40,000 39,000
147,000 53,000
Current liabilities 20,000 20,000
Total equity and liabilities 167,000 73,000
Required;-
Prepare the consolidated statement of financial position of Hinge Co at 31 December 2015.

Answer
Singe Co has made a profit of Sh.24, 000 (Sh.39, 000 – Sh.15, 000) for the year. In the absence of any
direction to the contrary, this should be assumed to have arisen evenly over the year; Sh.6, 000 in the
three months to 31 March and Sh.18, 000 in the nine months after acquisition. The company's pre-
acquisition retained earnings are therefore as follows;-
Sh.
Balance at 31 December 2014 15,000
Profit for three months to 31 March 2015 6,000
Pre-acquisition retained earnings 21,000
The balance of Sh.4, 000 on share premium account is all Pre-acquisition.

The consolidation workings can now be drawn up.

Workings
W1
Goodwill
Sh. Sh.
Consideration transferred 50,000
NCI (Sh.2.50 ×4,000)-note 1 below 10,000
Net assets acquired represented by
Ordinary share capital 10,000
Retained earnings (Pre-acquisition) 21,000
Share premium 4,000 (35,000)
Goodwill at acquisition 25,000

Note 1
NCI=

Number of shares=10,000/0.5 × 20% = 4,600 shares

Therefore NCI at acquisition =2.50 × 4,000=10,000

W2

Page 201
Retained earnings
Hinge Ltd. Singe Ltd.
Sh. Sh.
Per question 40,000 39,000
Pre-acquisition (21,000)
18,000
Share of Singe: (Sh.18, 000×80%) 14,400
Retained earnings at reporting date 54,400

W3
NCI at reporting date
Sh.
NCI at acquisition 10,000
Share of post-acquisition retained earnings (18,000×20%) 3,600
13,600

Hinge Co.
Consolidated Statement of Financial Position as At 31 December 2015
Sh. Sh.
Assets
Property, plant and equipment 62,000
Goodwill (w1) 25,000
Current assets 128,000
Total assets 215,000
Equity and liabilities
Equity
Ordinary shares of Sh.1 each 100,000
Share premium account 7,000
Retained earnings (w2) 54,400 161,400
Non-Controlling interest (w3) 13,600
175,000
Current liabilities 40,000
Total equity and liabilities 215,000

Pre-acquisition losses of a subsidiary

Illustration of the entries arising when a subsidiary has Pre-acquisition losses

Suppose P Ltd. acquired all 50,000 Sh.1 ordinary shares in S Co for Sh.20, 000 on 1 January 2011
when there was a debit balance of Sh.35, 000 on S Ltd's retained earnings. In the years 2011 to 2014 S
Co makes profits of Sh.40, 000 in total, leaving a credit balance of Sh.5, 000 on retained earnings at
31 December 2014. P Ltd's retained earnings at the same date are Sh.70, 000

Goodwill
Sh. Sh.
Consideration transferred 20,000
Net assets acquired as represented by
Ordinary share capital 50,000
Retained earnings-note 1 below (35,000) (15,000)

Page 202
 Goodwill 5,000

Note 1
Debit balance in retained earnings is a loss hence the subtraction.

Retained earnings
Sh. Sh.
At the end of the reporting period 70,000 5,000
Pre-acquisition loss – 35,000
Post-acquisition retained earnings 70,000 40,000
S Co – Share of post-acquisition retained earnings (40,000×100%)
40,000
110,000

Note 1

(35,000) 5,000

Post-acquisition profit which will move the debit balance of 35000 (loss of 35000) to a profit of 5000
=40,000

PREPARATION OF CONSOLIDATED INCOME STATEMENT

When preparing a consolidated income statement the parent company should combine its operations
with those of subsidiary company on line by line basis as if they belong under one economic entity.
However all intercompany transaction between the parent and subsidiary should be eliminated.

Format of Consolidated Income Statement

H group
Consolidated income statement
For the year ended 31/12/xxxx
Sh.
Sales (excluding intra-group sales) xxx
Cost of sales (excluding intra-group) (xxx)
Gross profit xxx
Administrative expenses (xxx)
Selling and distribution (xxx)
Impairment loss (xxx)
Operating profit (PBIT) xxx
Finance cost (interest) (xxx)
Share of associate’s PAT xxx
Share of Joint venture PAT xxx
Profit before Tax xxx

Page 203
 Income Tax (xxx)
Profit After Tax xxx
Attributable to NCI xxx
Attributable to parent (HCO) xxx
xxx

Intra-group trading
The consolidated figures for sales revenue and cost of sales should represent sales to and purchases
from, outsiders. An adjustment is therefore necessary to reduce the sales revenue and cost of sales
figures by the value of intra-group sales during the year.
Unrealised profits on intra-group trading should be excluded from the figure for group profits. This
will occur whenever goods sold at a profit within the group remain in the inventory of the purchasing
company at the year end. The best way to deal with this is to calculate the unrealised profit on unsold
inventories at the year end and reduce consolidated gross profit by this amount. Cost of sales will be
the balancing figure.

Pre-acquisition profits
When considering examples which include Pre-acquisition profits in a subsidiary, the figure for
profits brought forward should include only the group share of the post-acquisition retained profits. If
the subsidiary is acquired during the accounting year, it is therefore necessary to apportion its
profit for the year between Pre-acquisition and post-acquisition elements. This can be done by simple
time apportionment (i.e. assuming that profits arose evenly throughout the year) but there may be
seasonal trading or other effects which imply a different split than by time apportionment.

With a mid-year acquisition, the entire statement of profit or loss of the subsidiary is split between
Pre-acquisition and post-acquisition amounts. Only the post-acquisition figures are included in the
consolidated statement of profit or loss.

Illustration
The following information relates to Kikomi Ltd. and its subsidiary Sarova Ltd. for the year to 30
April 2017
Kikomi Ltd. Sarova Ltd.
Sh. ‘000’ Sh. ‘000’
Sales revenue 1,100 500
Cost of sales (630) (300)
Gross profit 470 200
Administrative expenses (105) (150)
Dividend from Sarova Ltd. 24 -
Profit before tax 389 50
Income tax expense (65) (10)
Profit for the year 324 40

Kikomi Ltd. Sarova Ltd.

Sh.’000’ Sh. ‘000’
Dividends paid 200 30
Profit retained 124 10
Retained earnings b/f 460 48
Retained earnings c/f 584 58

Page 204
Additional information;-
1. The issued share capital of the group was as follows;
Kikomi Ltd.: 5,000,000 ordinary shares of Sh.1 each.
Sarova Ltd.:1,000,000 ordinary shares of Sh.1 each.
2. Kikomi Ltd. purchased 80% of the issued share capital of Sarova Ltd. on November 2016. At that
time, the retained earnings of Lamlash stood at Sh.52, 000.
Required:
Prepare the Kikomi group consolidated statement of profit or loss for the year to 30 April 2017, and
extracts from the statement of changes in equity showing group retained earnings and the non-
controlling interest.

Answer
Kikomi Group
Consolidated Statement of profit or loss
For the year to 30 April 2017
Sh. ‘000’
Sales revenue (1,000 + (500 × 6/12) 1,350
Cost of sales (630 + (300 ×6/12) (780)
Gross profit 570
Administrative expenses (105 + (150× 6/12) (180)
Profit before tax 390
Income tax expense (65 + (10 × 6/12) (70)
Profit for the year 320
Profit attributable to:
Owners of the parent 316
Non-controlling interest (w1) 4
320

NOTE;
We are just combining the parents’ items with the pro-rated items. The pro ration is on time basis.

Statement of Changes in Equity

Retained Non-controlling
earnings interest
Sh. ‘000’ Sh. ‘000’
Balance brought forward 1 May 2016 460 -
Added on acquisition of subsidiary (w2) - 210
Dividends paid – per Question/(30,000 – 24,000) (200) (6)
Total comprehensive income for the year (w1) 316 4
Balance carried forward 30 April 2017 576 208

Workings
W1
Non-controlling interests
Sh. ‘000’
In Sarova Ltd. (20%×40) ×6/12 4

W2
Added on acquisition of subsidiary

Page 205
 Sh. ‘000’
Share capital 1,000
Retained earnings 52
1,052

Non-controlling share 20% of 1,052 - 210

Illustration
Mantas acquired 80% of the issued share capital of Rochas on 1 January, 2017.
Their respective Statements of Comprehensive Income for the year ended 31 December, 2017 are as
follows:

Mantas Rochas
Sh. Sh.
Revenue 26,000 12,000
Cost of sales and expenses (10,000) (7,000)
Profit from operations 16,000 5,000
Dividend from subsidiary 2,000 -
Profit before tax 18,000 5,000
Income tax expense (6,000) (1,500)
Profit after tax 12,000 3,500

Dividends of sh.5, 000 and sh.2, 500 respectively have been proposed.
Required;-
Prepare the Consolidated Statement of Profit or Loss and Other Comprehensive Income of Mantas
Group for the year ended 31 December, 2017.

Answer

NOTE
1. Rochas is a subsidiary of Mantas
2. The subsidiary was a member of the group for a whole year.

Mantas Group Consolidated Statement of Comprehensive Income for the year ended 31
December, 2017.

Sh.
Revenue(26 000+ 12,000) 38,000
Cost of sales and expenses (10000 + 7000) (17,000)
Profit before tax 21,000
Income tax expense(6000 +1,500) (7,500)
Profit after tax 13,500 *
NCI (20% ×3,500) (700)
12,800
Dividend Mantas only (5,000)
7,800

Page 206
Illustration
On 1 July 2018 Serebwa Ltd. acquired 60,000 of the 100,000 shares in Pembe Ltd., its only
subsidiary. The draft statements of profit or loss and other comprehensive income of both companies
at 31 December 2018 are shown below:
Serebwa Ltd. Pembe Ltd.
Sh.000
Sh.000
Revenue 43,000 26,000
Cost of sales (28,000) (18,000)
Gross profit 15,000 8,000
Other income – dividend received from Pebble 2,000 -
Distribution costs (2,000) (800)
Administration costs (4,000) (2,200)
Finance costs (500) (300)
Profit before tax 10,500 4,700
Income tax expense (1,400) (900)
Profit for the year 9,100 3,800
Other comprehensive income
Gain on property revaluation (Note (i)) - 2,000
Investment in equity instrument 200 -
Total comprehensive income for the year 9,300 5,800

Additional information:
1. At the date of acquisition the fair values of Pembe’s assets were equal to their carrying amounts
with the exception of a building which had a fair Sh.1 million in excess of its carrying amount. At
the date of acquisition the building had a remaining useful life of 20 years. Buildings depreciation
is charged to administrative expenses. The building was revalued again at 31 December 2018 and
its fair value had increased by an additional Sh.1 million.
2. Sales from Serebwa to Pembe were Sh.6 million during the post-acquisition period. All of these
goods are still held in inventory by Pembe. Serebwa Ltd. marks up all sales by 20%.
3. Despite the property revaluation, Serebwa Ltd. has concluded that goodwill in Pembe Ltd, has
been impaired by sh.500,000.
4. It is Serebwa Ltd’s policy to value the non-controlling interest at full (fair) value.
5. Income and expenses can be assumed to have arisen evenly throughout the year

Required;-
Prepare the consolidated statement of profit or loss and other comprehensive income for the year
ended 31 December 2018.

Answer
Serebwa
60,000
100,000
×100=60% therefore Pembe is a subsidiary for 6 months.

Pembe
Serebwa Group
Consolidated Statement of Profit or Loss and Other Comprehensive income
Sh. ‘000’

Page 207
Revenue (43,000 + (26,000×6/12) – 6,000 (w1) 50,000
Cost of sales (28,000 + (18,000 × 6/12) – 6,000 + 1,000 (w1)) (32,000)
Gross profit 18,000
Distribution costs (2,000 + 800×6/12)) (2,400)
Administrative expenses (4,000 + (2,200×6/12) + 25 (w2) + 500 impairment) (5,625)
Finance costs (500 + (300 × 6/12)) (650)
Profit before tax 9,325
Income tax expense (1,400 + (900 ×6/12)) (1,850)
Profit for the year 7,475
Other comprehensive income:
Gain on property revaluation (post-acquisition) 1,000
Investment in equity instrument 200
Total comprehensive income for the year 8,675
Profit attributable to:
Owners of the parent 6,925
Non-controlling interest (W3) 550
7,475
Total comprehensive income attributable to:
Owners of the parent 7,725
Non-controlling interest (550 + (1,000 ×40%) 950
8,675

Workings
W1
Unrealized profit
Remove intercompany trading:
DR. Revenue Sh.6m/CR. Cost of sales Sh.6m
Unrealized profit = 6,000 × 20/120 = 1,000 – add to cost of sales

W2
Movement on fair value adjustment
The fair value adjustment of Sh.1m will be depreciated over the remaining life of the building.
The amount to be charged at 31 December is:
1,000,000
/20 × 6/12 = 25,000
40% of this (10,000) will be charged to the NCI.

W3
Non-controlling interest – share of profit for the year
Sh.000
Share of post-acquisition profit (3,800 × 6/12×40%) 760
Movement on fair value adjustment (25 ×40%) (10)
Share of goodwill impairment (500×40%) (200)
550

ACCOUNTING FOR ASSOCIATES

IAS 28 requires all investments in associates to be accounted for in the consolidated accounts using
the equity method, unless the investment is classified as 'held for sale' in accordance with IFRS 5 in
which case it should be accounted for under IFRS 5.

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An investor is exempt from applying the equity method if:

It is a parent exempt from preparing consolidated financial statements under IFRS 10, or

All of the following apply:

The investor is a wholly-owned subsidiary or it is a partially owned subsidiary of another entity

and its other owners, including those not otherwise entitled to vote, have been informed about, and do
not object to, the investor not applying the equity method.

The investor's securities are not publicly traded.

It is not in the process of issuing securities in public securities markets.

The ultimate or intermediate parent publishes consolidated financial statements that comply with
International Financial Reporting Standards.

Under IAS 28 an investment in an associate should not be excluded from equity accounting when an
investee operates under severe long-term restrictions that significantly impair its ability to transfer
funds to the investor. Significant influence must be lost before the equity method ceases to be
applicable.

The use of the equity method should be discontinued from the date that the investor ceases to have
significant influence.

From that date, the investor shall account for the investment in accordance with IFRS 9 Financial
instruments. The carrying amount of the investment at the date that it ceases to be an associate shall
be regarded as its cost on initial measurement as a financial asset under IFRS 9

If an investor issues consolidated financial statements (because it has subsidiaries), an investment in

an associate should be either:
 Accounted for at cost, or
 In accordance with IFRS 9 (at fair value) in its separate financial statements.

If an investor that does NOT issue consolidated financial statements (i.e. it has no subsidiaries) but
has an investment in an associate this should similarly be included in the financial statements of the
investor either at cost, or in accordance with IFRS 9.

The equity method

Many of the procedures required to apply the equity method are the same as are required for full
consolidation. In particular, intra-group unrealised profits must be excluded.

Consolidated Statement of Profit or Loss

The basic principle is that the investing company (X Co) should take account of its share of the
earnings of the associate, Y Co, whether or not Y Co distributes the earnings as dividends. X Co
achieves this by adding to consolidated profit the group's share of Y Co's profit after tax.

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HINT
The difference between this treatment and the consolidation of a subsidiary company's results is that If Y
Co were a subsidiary X Co would take credit for the whole of its sales revenue, cost of sales etc. and would
then make a one-line adjustment to remove any non-controlling share.

Under equity accounting, the associate's sales revenue, cost of sales and so on is NOT amalgamated
with those of the group. Instead the group share only of the associate's profit after tax for the year is
added to the group profit.

Consolidated Statement of Financial Position

A figure for investment in associates is shown which at the time of the acquisition must be stated at
cost. At the end of each accounting period the group share of the retained reserves of the associate is
added to the original cost to get the total investment to be shown in the consolidated statement of
financial position.

Illustration
P Ltd, a company with subsidiaries, acquires 25,000 of the 100,000 Sh.1 ordinary shares in A Ltd. for
Sh.60, 000 on 1 January 2018. In the year to 31 December 2018, A Ltd. earns profits after tax of
Sh.24, 000, from which it pays a dividend of Sh.6, 000.

How will A Ltd's results be accounted for in the individual and consolidated accounts of P Ltd. for the
year ended 31 December 2018?

Answer
Group structure
P Ltd
25
/100 =25% falls in between 20%-49%. Therefore A is an associate.

A Ltd

In the individual accounts of P Ltd, the investment will be recorded on 1 January 2018 at cost. Unless
there is an impairment in the value of the investment (see below), this amount will remain in the
individual statement of financial position of P Ltd permanently. The only entry in P Ltd's individual
statement of profit or loss will be to record dividends received. For the year ended 31 December 2018,
P Ltd will:

Debit cash (25%×6,000) Sh.1, 500

Credit income from shares Sh.1, 500

In the consolidated financial statements of P Ltd equity accounting principles will be used to account
for the investment in A Co. Consolidated profit after tax will include the group's share of A Ltd's
profit after tax (25%×Sh.24,000 = Sh.6,000). To the extent that this has been distributed as dividend,
it is already included in P Ltd's individual accounts and will automatically be brought into the
consolidated results. That part of the group's share of profit in the associate which has not been
distributed as dividend (Sh.4, 500) will be brought into consolidation by the following adjustment.

DEBIT Investment in associates Sh.4, 500

CREDIT Share of profit of associates Sh.4, 500

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The asset 'Investment in associates' is then stated at Sh.64,500, being cost plus the group share of
post-acquisition retained profits.

Illustration
The following consolidation schedule relates to the P Ltd. Group, consisting of the parent company,
an 80% owned subsidiary (S Ltd) and an associate (A Ltd) in which the group has a 30% interest.

Consolidation Schedule
Group P Ltd. S Ltd. A Ltd.
Sh.000 Sh.000 Sh.000 Sh.000
Sales revenue 1,400 600 800 300
Cost of sales (770) (370) (400) (120)
Gross profit 630 230 400 180
Administrative expenses (290) (110) (180) (80)
340 120 220 100
Interest receivable 30 30 - -
370 150 220 100
Interest payable (20) - (20) -
Share of profit of associate (57 ×30%) 17 - - -
367 150 200 100
Income tax expense
Group (145) (55) (90)
Associate - - - (43)
Profit for the year 222 95 110 57
Non-controlling interest (110 ×20%) (22)
200

HINT
Group sales revenue, group gross profit and costs such as depreciation etc. include the sales revenue,
gross profit and costs of parent and subsidiary companies.

The group share of the associated profits is credited to group profit or loss. If the associated company
has been acquired during the year, it would be necessary to deduct the Pre-acquisition profits
(remembering to allow for tax on current year profits).

The non-controlling interest will only apply to subsidiaries as well as associated companies.

The consolidated income statement/profit and loss will be as below;-

Sh.000
Sales revenue(600+800) 1,400
Cost of sales(370+400) (770)
Gross profit 630
Other income: Interest receivable(30+0) 30
Administrative expenses(110+180) (290)
Finance costs(20+0) (20)
Share of profit of associate(30%×57) 17
Profit before tax 367

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 Income tax expense(55+90) (145)
Profit for the year 222

Profit attributable to:

Owners of the parent 200
Non-controlling interest(20%×10) 22
222

NOTE
In the consolidated statement of financial position the investment in associates should be shown as:
- Cost of the investment in the associate; plus
- Group share of post-acquisition profits; less
- Any amounts paid out as dividends; less
- Any amount written off the investment
The consolidated statement of financial position will contain an asset 'Investment in associates'. The
amount at which this asset is stated will be its original cost plus the group's share of any post-
acquisition profits which have not been distributed as dividends.

Illustration
On 1 January 2016 the net tangible assets of A Ltd amount to Sh.220, 000, financed by 100,000 Sh.1
ordinary shares and revenue reserves of Sh.120, 000. P Ltd, a company with subsidiaries, acquires
30,000 of the shares in A Co for Sh.75, 000. During the year ended 31 December 2016 A Ltd's profit
after tax is Sh.30, 000, from which dividends of Sh.12, 000 are paid.

Show how P Ltd's investment in A Ltd would appear in the consolidated statement of financial
position at 31 December 2016.

Answer
Group structure
P Ltd

30,000
100,000
×100 = 30% therefore A is an associate

A Ltd

Consolidated statement of financial position as at 31 December 2016 (extract)

Sh.
Non-current assets
Investment in associated company
Cost 75,000
Group share of post-acquisition retained profits
(30%×Sh.(30,000-12,000)×30%) 5,400
80,400

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Illustration
Below are the draft accounts of Parent Co and its subsidiaries and of Associate Co. Parent Co
acquired 40% of the equity capital of Associate Co three years ago when the latter's reserves
stood at Sh.40, 000.

Summarized statements of financial position

Parent Co Associate Co
and subsidiaries
Sh.000 Sh.000
Tangible non-current assets 220 170
Investment in Associate at cost 60 –
Loan to Associate Co 20 –
Current assets 100 50
Loan from Parent Co – (20)
400 200
Share capital (Sh.1 shares) 250 100
Retained earnings 150 100
400 200

Summarized Statements of Profit or Loss

Parent Co Associate Co
and subsidiaries
Sh.000
Sh.000
Profit before tax 95 80
Income tax expense (35) (30)
Net profit for the year 60 50

Required;-
Prepare the summarized consolidated accounts of Parent Co.

Notes
1. Assume that the associate's assets/liabilities are stated at fair value.
2. Assume that there are no non-controlling interests in the subsidiary companies.

Answer

Parent co
Consolidated statement of profit or loss
Sh.000
Profit before tax of the parent(parent) 95
Share of profits of associated company (50 × 40%) 20
Profit before tax 115
Income tax expense (35)
Profit attributable to the members of Parent Co 80

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 Parent co
Consolidated statement of financial position
Sh.000
Assets
Tangible non-current assets 220
Investment in associate (see note) 84
Loan to associate 20
Current assets 100
Total assets 424
Equity and liabilities
Share capital 250
Retained earnings (W) 174
Total equity and liabilities 424

Note
Investment in associate Sh.000
Cost of investment 60
Share of post-acquisition retained earnings (w1) 24
84

Working
W1
Parent and Associate
Subsidiaries Sh.'000
Sh.'000
Per question 150 100
Pre-acquisition 40
Post-acquisition 60
Group share in associate (Sh.60×40%) 24
Group retained earnings 174

Upstream and downstream transactions

Upstream' transactions are, for example, sales of assets from an associate to the investor.
Downstream transactions are, for example, sales of assets from the investor (parent) to an associate.

Profits and losses resulting from 'upstream' and 'downstream' transactions between an investor
(including its consolidated subsidiaries) and an associate are eliminated to the extent of the investor's
interest in the associate. This is very similar to the procedure for eliminating intra-group transactions
between a parent and a subsidiary. The important thing to remember is that only the group's share is
eliminated.

Illustration
Downstream transaction
A Co, a parent with subsidiaries, holds 25% of the equity shares in B Co. During the year, A Co
makes sales of Sh.1, 000,000 to B Co at cost plus a 25% mark-up. At the year end, B Co has all these
goods still in inventories.

Page 214
Answer
A Co has made an unrealised profit of Sh.200, 000 (1,000,000×25/125) on its sales
to the associate. The group's share (25%) of this must be eliminated:

25% × 200,000=50,000
DEBIT Cost of sales (consolidated profit or loss) Sh.50, 000
CREDIT Investment in associate (consolidated statement of financial position) Sh.50, 000.

Because the sale was made to the associate, the group's share of the unsold inventory forms part of the
investment in the associate at the year end. If the associate had made the sale to the parent, the
adjustment would have been:

DEBIT Cost of sales (consolidated profit or loss) Sh.50,000

CREDIT Inventories (consolidated statement of financial position) Sh.50,000

Associate's losses
When the equity method is being used and the investor's share of losses of the associate equals or
exceeds its interest in the associate, the investor should discontinue including its share of further
losses. The investment is reported at nil value. After the investor's interest is reduced to nil, additional
losses should only be recognised where the investor has incurred obligations or made payments on
behalf of the associate (for example, if it has guaranteed amounts owed to third parties by the
associate).

DETAILED ILLUSTRATION (SUBSIDIARY AND ASSOCIATE)

The statements of financial position of Nthingu Ltd. and its investee companies, Ochoi Ltd. and
Maina Ltd., at 31 December 2015 are shown below.

Statements of Financial Position as At 31 December 2015

Nthingu Ltd Ochoi Ltd Maina Ltd.
Sh.000 Sh.000 Sh.000
Non-current assets
Freehold property 1,950 1,250 500
Plant and machinery 795 375 285
Investments 1,500 - -
4,245 1,625 785
Current assets
Inventory 575 300 265
Trade receivables 330 290 370
Cash 50 120 20
955 710 655

Total assets 5,200 5,200 1,440

Equity and liabilities

Equity
Share capital – sh.1 shares 2,000 1,000 750
Retained earnings 1,460 885 390
3,460 1,885 1,140

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Non-current liabilities
12% loan stock 500 100 -
Current liabilities
Trade payables 680 350 300
Bank overdraft 560 - -
1,240 350 300

Total equity and liabilities 5,200 2,335 1,440

Additional information
1. Nthingu Ltd., acquired 600,000 ordinary shares in Ochoi Ltd. on 1 January 2010 for sh.1, 000,000
when the retained earnings of Ochoi Ltd. were Sh.200, 000.
2. At the date of acquisition of Ochoi Ltd., the fair value of its freehold property was considered to
be Sh.400, 000 greater than its value in Ochoi Ltd’s statement of financial position. Ochoi Ltd.,
had acquired the property in January 2010 and the buildings element (comprising 50% of the total
value) is depreciated on cost over 50 years.
3. Nthingu Ltd. acquired 225,000 ordinary shares in Maina Ltd. on 1 January 2014 for sh.500,000
when the retained earnings of Maina Ltd. were sh.150,000.
4. Ochoi Ltd., manufactures a component used by both Nthingu Ltd. and Maina Ltd. Transfers are
made by Ochoi Ltd., at cost plus 25%, Nthingu Ltd held sh.100,000 inventory of these
components at 31 December 2015. In the same period Nthingu Ltd., sold goods to Maina Ltd. of
which Maina Ltd. had Sh.80, 000 in inventory at 31 December 2015. Nthingu Ltd., had marked
these goods up by 25%.
5. The goodwill in Ochoi Ltd., is impaired and should be fully written off. An impairment loss of
Sh.92, 000 is to be recognized on the investment in Maina Ltd.
6. Non-controlling interest is valued at full fair value. Ochoi Ltd., shares were trading at sh.1.60 just
prior to the acquisition by Nthingu Ltd.

Required;-
Prepare the consolidated statement of financial position at 31 December 2015.

ANSWER
Nthingu Group
Consolidated Statement of Financial Position as At 31 December 2015
Sh. 000
Non-current assets
Freehold property (w2) 3,570
Plant and machinery (795 + 375) 1,170
Investment in associate (w7) 475.20
5,215.20
Current assets
Inventory (w3) 855
Receivables (330 + 290) 620
Cash (50 + 120) 170
1,645

Total assets 6,860.20

Equity and liabilities

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 Equity
Share capital 2,000.00
Retained earnings (w8) 1,792.20
3,792.20
Non-controlling interest (w9) 878.00
4,670.20
Non-current liabilities
12% loan stock (500 + 100) 600.00
Current liabilities (680 + 560 + 350) 1,590.00
Total equity and liabilities 6,860.20

Workings
W1
Group structure Nthingu Ltd

1.1.2010 60% 30% 1.1.2014

(6 years ago) (2 years ago)

Maina Ltd.
Ochoi Ltd. associate
Subsidiary
W2
Freehold property
Sh.000
Nthingu Ltd. 1,950
Ochoi Ltd. 1,250
Fair value adjustment(revaluation upwards) 400
Additional depreciation (400 x 50% ÷ 40)×6 years (2010 – 2015) (30)
3,570

W3
Inventory
Sh.000
Nthingu Ltd. 575
Ochoi Ltd. 300
UPS (100 × 25/125) (w4) (20)
855

HINT
UPS is the unrealised profit on stock. Use profit margin when given the selling price
And also use mark up when given cost.

W4

Page 217
Unrealized profit (UPS)
Sh.000
25
On sales by P to J (parent co) 100× /125 20.0
On sales by J to S (associate) 80 × 25/125×30% 4.8

W5
Fair value adjustments
Difference at Difference now
acquisition Sh.000
Sh.000
Property 400 400
Additional depreciation: (200 × 6/40) - (30)
Charge Sh.30,000 to retained earnings 400 370

W6
Goodwill
Sh.000 Sh.000
Nthingu Ltd.
Consideration transferred 1,000
Non-controlling interest (400×sh.1.60) 640
Net assets acquired:
Share capital 1,000
Retained earnings 200
Fair value adjustment 400 (1,600)
Goodwill at acquisition 40
Impairment loss (40)
Goodwill at reporting date 0

W7
Investment in associate
Sh.000
Cost of investment 500
Share of post-acquisition profit (390 – 150)×30% 72
Less unrealised profit(UPS) (4.80)
Less impairment loss (92)
475.20

W8
Retained earnings
Nthingu Ochoi Maina Ltd.
Ltd. Ltd
Sh.000 Sh.000 Sh.000
Retained earnings per question 1,460.0 885.0 390.0
Adjustments
Unrealized profit (w4) (4.8) (20.0) -
Fair value adjustments (w5) - (30.0) -
Impairment loss (P) - (40.0) -
- 795.0 390.0

Page 218
 Less pre-acquisition reserves - (200.0) (150.0)
1,455.20 595.0 240.0
Ochoi Ltd: 60% ×595 357.00
Maina Ltd: 30% ×240 72.00
Impairment loss Maina Ltd. (92.00)
1,792.20

Non-controlling interest at reporting date

Sh.000
NCI at acquisition (w6) 640
Share of post-acquisition retained earnings (595 ×40%) 238
878

JOINTLY CONTROLLED ENTITIES

A joint arrangement is an arrangement of which two or more parties have joint control.
A joint arrangement has the following characteristics:
 the parties are bound by a contractual arrangement, and
 the contractual arrangement gives two or more of those parties joint control of the arrangement.
A joint arrangement is either a joint operation or a joint venture.

Key definitions
Joint arrangement is an arrangement of which two or more parties have joint control
Joint control is the contractually agreed sharing of control of an arrangement, which exists only
when decisions about the relevant activities require the unanimous consent of the parties sharing
control
Joint operation is a joint arrangement whereby the parties that have joint control of the arrangement
have rights to the assets, and obligations for the liabilities, relating to the arrangement
Joint venture is a joint arrangement whereby the parties that have joint control of the arrangement
have rights to the net assets of the arrangement
Joint venturer is a party to a joint venture that has joint control of that joint venture
Party to a joint arrangement is an entity that participates in a joint arrangement, regardless of
whether that entity has joint control of the arrangement
Separate vehicle is a separately identifiable financial structure, including separate legal entities or
entities recognised by statute, regardless of whether those entities have a legal personality

IFRS 11 Joint Arrangements outlines the accounting by entities that jointly control an arrangement.
Joint control involves the contractually agreed sharing of control and arrangements subject to joint
control are classified as either a joint venture (representing a share of net assets and equity accounted)
or a joint operation (representing rights to assets and obligations for liabilities, accounted for
accordingly).

Types of joint arrangements

Joint arrangements are either joint operations or joint ventures:
- A joint operation is a joint arrangement whereby the parties that have joint control of the
arrangement have rights to the assets, and obligations for the liabilities, relating to the
arrangement. Those parties are called joint operators.

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- A joint venture is a joint arrangement whereby the parties that have joint control of the
arrangement have rights to the net assets of the arrangement. Those parties are called joint
venturers.

Classifying joint arrangements

The classification of a joint arrangement as a joint operation or a joint venture depends upon the rights
and obligations of the parties to the arrangement. An entity determines the type of joint arrangement
in which it is involved by considering the structure and form of the arrangement, the terms agreed by
the parties in the contractual arrangement and other facts and circumstances.

Regardless of the purpose, structure or form of the arrangement, the classification of joint
arrangements depends upon the parties' rights and obligations arising from the arrangement.

A joint arrangement in which the assets and liabilities relating to the arrangement are held in a
separate vehicle can be either a joint venture or a joint operation.

A joint arrangement that is not structured through a separate vehicle is a joint operation. In such cases,
the contractual arrangement establishes the parties' rights to the assets, and obligations for the
liabilities, relating to the arrangement, and the parties' rights to the corresponding revenues and
obligations for the corresponding expenses.

Financial statements of parties to a joint arrangement

1. Joint operations
A joint operator recognizes in relation to its interest in a joint operation:
- its assets, including its share of any assets held jointly;
- its liabilities, including its share of any liabilities incurred jointly;
- its revenue from the sale of its share of the output of the joint operation;
- its share of the revenue from the sale of the output by the joint operation;
- and its expenses, including its share of any expenses incurred jointly.

A joint operator accounts for the assets, liabilities, revenues and expenses relating to its involvement
in a joint operation in accordance with the relevant IFRSs.

The acquirer of an interest in a joint operation in which the activity constitutes a business, as defined
in IFRS 3 Business Combinations, is required to apply all of the principles on business combinations
accounting in IFRS 3 and other IFRSs with the exception of those principles that conflict with the
guidance in IFRS 11.
These requirements apply both to the initial acquisition of an interest in a joint operation, and the
acquisition of an additional interest in a joint operation (in the latter case, previously held interests are
not re-measured).

A party that participates in, but does not have joint control of, a joint operation shall also account for
its interest in the arrangement in accordance with the above if that party has rights to the assets, and
obligations for the liabilities, relating to the joint operation.

2. Joint ventures
A joint venturer recognizes its interest in a joint venture as an investment and shall account for that
investment using the equity method in accordance with IAS 28 Investments in Associates and Joint
Ventures unless the entity is exempted from applying the equity method as specified in that standard.

Page 220
A party that participates in, but does not have joint control of, a joint venture accounts for its interest
in the arrangement in accordance with IFRS 9 Financial Instruments unless it has significant influence
over the joint venture, in which case it accounts for it in accordance with IAS 28

DISPOSAL OF INVESTMENT IN A SUBSIDIARY (PARTIAL AND FULL

DISPOSAL)
Treatment for disposals of subsidiary varies on account of whether control or significant influence is
retained or lost. Following treatments are applicable depending on type of disposal;
1. Full sale of shares in associate or subsidiary (full disposal)
2. Sale of shares in subsidiary such that control retained/remains subsidiary (Partial disposal)
3. Sale of shares in a subsidiary leaving investment as an associate (Partial disposal)
4. Disposal of shares in a subsidiary leaving it a simple or ordinary investment.

1. Full sale of shares in associate or subsidiary (full disposal)

Profit or loss on disposal is calculated as;
Sh.
Proceeds xxx
Add: NCI up to disposal xxx
Less: Net Assets of subsidiary up to disposal date (xxx)
Goodwill (xxx)
Profit or loss xxx / (xxx)

Rules for consolidation

If the disposal is mid of the year then NCI and Net Assets need to be calculated till the date of
disposal.

Dividends paid must be deducted in calculating Net Assets.

Goodwill recognized prior disposal is original goodwill less any impairment to date.

HINT
In the holding company’s own accounts, the gain/loss on disposal is the difference between the original
costs of investment.

Group reporting
- The gain or loss in the consolidated statements is calculated by getting the difference between sale
proceeds from the disposal of investments and the holding company’s share of net identifiable assets at
the date of disposal and goodwill not impaired and dividends disposed.
- The subsidiary should be consolidated up to the date of disposal i.e. the fraction of the year for which it
was owned by the group.
- The Non-controlling interest (NCI) in the consolidated statements should be based on the fraction
consolidated during the year.
- In the consolidated statement of financial position, the subsidiary will no longer be part of the group
and therefore it will not be consolidated. Similarly there will also be no Non-controlling interest (NCI)
in the subsidiary.

Illustration
The statement of financial position of Sam Ltd and Shem Ltd as at 31st December 2011 was as
follows:

Page 221
 Sam Ltd Shem Ltd
Sh.m Sh.m
Investment in Shem Ltd 82.5 -
Other assets 257.5 100,
340 100
Ordinary Share Capital 200 60
Retained Earnings 140 40
340 100

Sam Ltd had acquired 75% shareholding in Shem Ltd on 1st January 2003 when retained earnings in
Shem Ltd were Sh. 10m. The whole investment was disposed off on 31st December 2011 for sh.115
m. A Ltd has not accounted for the sale of investment in its books.
Required;
Prepare statement of financial position as at 31st December 2011

Answer
Step 1
Compute gain or loss on disposal (in the books of Sam Ltd)

Gain/loss on disposal = sale proceeds – cost of investment

Sh.m
Sale proceeds 115
Cost of investment (82.5)
Gain on disposal 32.5

Step 2
Compute gain or loss on disposal (in the consolidated income statement)

Sh.m Sh.m
Sale proceeds 115
Net identifiable assets
Ordinary Share Capital 60
Retained Earnings 40
100
Groups share of Net Assets 75% ×100 75
Group share of Net Assets disposed 100% ×75 (75)
Good will disposed
82,500 – 75% ×(60+ 10) (30)
Gain on disposal 10

Sam Ltd
Statement of Financial Position
As at 31st December 2011

Page 222
 Sh.m
Other assets (257.5 + 115) 372.5
Ordinary Share Capital 200
Retained Earnings (140 + 32.5) 172
372.5

2. Sale of shares in subsidiary such that control is still retained/remains subsidiary (Partial
disposal)

Treatment in the holding Company’s books

The gain or Loss on disposal to be reported in the holding company’s own account is determined as
follows:

Sales proceeds xx
Less cost of investment sold (xx)
Profit/Loss on disposal xx

HINT
In the group accounts the group should report a gain/loss on disposal. The gain/loss on disposal will be
reported in either the consolidated Profit and Loss account or in the consolidated statement changes in
equity.

IAS 27 recommends that if the subsidiary still remains a subsidiary after disposal, the gain/loss on
disposal should be reported on the statement of changes in equity.

For all other disposals the gain/loss is reported in the consolidated income statement.

The computation of the gain/loss is calculated as follows:

Sales proceeds xx
Add: Fair value of any remaining investments (N) xx
xx
Less: Share of Net Asset sold xx
Unimpaired good will sold xx (xx)
Profit/Loss on disposal xx

In a case where a subsidiary is sold in between the year and still remaining as a subsidiary at the end
of the year, the only change is ordinary shareholding on Non-controlling interest.

In the Consolidated statement of income, the Non-controlling interest will be calculated as follows
a) Non-controlling interest in the profit of the subsidiary from the beginning of the year to the date
of disposal of the shares plus
b) Non-controlling interest in the profits of the subsidiary from the date of disposal up to the end of
the year.
In the Consolidated Statement of Financial Position, the Non-controlling interest will be based on the
percentage as at date the statement of financial position.

3. Sale of shares in a subsidiary leaving investment as an associate (Partial disposal)

Page 223
In this case, the subsidiary should be consolidated as a subsidiary from the beginning of the year to
the date of disposal and thereafter to be allocated for an associate.
The trading reserves of the subsidiary should be split into two parts and dealt with as follows;
(a) The part covering the period from the beginning of the year to the date of disposal should be
consolidated normally in the income statement as a subsidiary with the trading reserves of the
holding company.
(b) The part covering the period from the date of disposal to the end of the year should be
incorporated in the income statement as an associate.
In the Consolidated Statement of Financial Position, the company should be allocated for as an
associate i.e. it is only the net investment in the associate that will appear as a Non-Current Asset
using the equity.

Illustration
The following are the financial statements Agano Ltd and Bomba Ltd as at 31st December 2011

Statement of Financial Position

Agano Ltd Bomba Ltd
Sh.m Sh.m
Investment in B ltd 165 -
Others assets 515 200
680 200
Ordinary Share Capital 400 120
Retained Earnings 280 80
680 200

Income statement
Agano Ltd Bomba Ltd
Sh.m Sh.m
Sales 600 400
Cost of sales (380) (240)
Gross profit 220 160
Administration expenses (60) (50)
Distribution costs (40) (30)
Profit before tax 120 80
Taxation (42) (28)
Profit after tax 78 52
Dividend paid 20 -
Retained Earnings for the year 58 52
Retained Earnings b/d 222 28
Retained Earnings c/d 280 80

A Ltd acquired 75% shareholding in B Ltd on 1st January 2013 when the retained profit was sh. 20m
A Ltd has not accounted for the disposal in its books.
Required:
Prepare consolidated statement of income and the statement of financial position if;-
(i)Agano Ltd sold 20% of its shareholding in Bomba Ltd for Sh. 54,000 on 30th September 2017.
(Scenario 1)

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(ii) Agano Ltd disposed 2/3 of its shares in Bomba Ltd on 30th September 2017 for sh. 135,000.
(Scenario 2)

Answer
SCENARIO 1
Sale of shares in subsidiary such that control retained/remains subsidiary
(i)A. Ltd sold 20% of its shareholding in B.Ltd for Sh. 54,000 on 30th September 2011.
Before disposal After disposal
Agano Ltd Agano Ltd
Disposes off 80% × 75% = 60%

20% of its shareholding

Bomba Ltd Bomba Ltd

Gain / Loss in Agano Ltd’s books

Sh.m Sh.m
Sale proceeds 54
Net identifiable assets
Ordinary Share Capital 120
Retained earnings b/d 28
148
For the year (9/15×52,000) 39
187
Group share of net assets (75%×187,000) 140.25
Group share of net assets disposed (20%×140,250) (28.05)
Good will disposed 20% x 60,000 (12)
Gain on disposal 13.95

Agano Ltd and its subsidiary

Consolidated incomes statement for the year ended 31st December 2011
SH
Sales (600+ 400) 1,000
Cost of sales (380 + 240) (620)
Gross profit 380
Administration expenses (60+ 50) (110)
Distribution costs (40+ 30) (70)
Operating profit 200
Gain on disposal 13.95
Profit Before Tax 213.95
Taxation (42+ 28) (70)
Profit After Tax 143.95
NCI share of subsidiary Profit After Tax
25% × (52 ×9/12) + 40% × (52× 3/12) (14.95)
Profit Attributable to Ordinary Shareholders 129
Dividends paid (20)
Profit for the year 109
Retained Earnings b/d (222 + 75% ×(28 – 20) 228

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 Retained Earnings c/d 337

Agano Ltd and its subsidiary

Consolidated incomes statement of financial position
As at 31st December 2011
Sh.m
Other assets (515+ 200 + 54) 769
Goodwill 60,000 – 12,000 48
817
Ordinary Share Capital 400
Retained Earnings 337
Non-Controlling Interest (40%×(120 + 80) 80
817

SCENARIO 2
(ii) A Ltd disposed 2/3 of its shares in B Ltd on 30th September 2011 for sh. 135,000.

Before disposal After disposal

Agano ltd Agano Ltd
75% -disposes 2/3 1
/3 ×75% = 25%

Bomba Ltd Bomba Ltd

Gain/loss to be reported by A Ltd on disposal

Sh.m
Sale proceeds 135
Cost of investment disposed 2/3×165 (110)
Gain on disposal 25

Gain/loss on disposal to be reported in CIS

Sh.m Sh.m
Sale proceeds 135
Net identifiable assets
Ordinary Share Capital 120
Retained earnings b/d 28
For the year (52 ×9/12) 39
187
Group share of net assets 75% ×187 140.25
Group share of net asset disposed 2/3 × 140.25 (93.5)
Goodwill disposed 2/3 ×60 (40)
Gain on disposal 1.5

Net investment in associate

Cost of investment 1/3×165 55
Add: group share of associate post – acquisition profits
25% x (80– 20) 15

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 70

Agano Ltd and its investee company

Consolidated incomes statement for the year ended 31st December 2011
Sh.m

Sales (600,000 + 9/12 × 400) 900

Cost of sales (380 + 9/12 × 240) (560)
Gross profit 340
Administration expenses (60 + 9/12 ×50) (97.5)
Distribution costs (40 + 9/12 × 30) (62.5)
180
Gain on disposal 1.5
181.5
Group share of associate Profit Before Tax (25% × 80 × 3/12) 5
186.5
Taxation: Group (42 + 28 ×9/12) (63)
Associate (25%×28 × 3/12) (1.75)
Profit after tax 121.75
Non-controlling interest (25% × 52 × 9/12) (9.75)
Profit attributable to ordinary shares 112
Dividends paid (20)
Profit for the year 92
Retained earnings b/d 228
Retained earnings c/d 320

Agano Ltd and its subsidiary

Consolidated incomes statement of financial position
As at 31st December 2011
Sh.m
Other assets (515 + 135) 650
Net investment in associate 70
Total assets 720

Ordinary Share Capital 400

Retained earnings Total equity 320
720

4. Disposal of shares in a subsidiary leaving it a simple or ordinary investment.

Treat the company as a subsidiary up to the date of disposal thereafter show income dividends
receivable or received in the income statement and reflect the dividends receivable as a current asset.
In the consolidated balance sheet the remaining investment is valued at fair value

Profit or loss on disposal is calculated as;

Sh.
Proceeds xxx
Add: Fair Value of Interest retained xxx
Add: NCI xxx

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 Less:
Net Assets of subsidiary up to disposal date (xxx)
Goodwill (xxx)
Profit or loss xxx / (xxx)

FOREIGN SUBSIDIARIES
A parent company may operate a foreign subsidiary due to various reasons.
For consolidation purposes the parent company should translate the operations of the foreign
subsidiary.

IAS 21 The Effects of Changes in Foreign Exchange Rates outlines how to account for foreign
currency transactions and operations in financial statements, and also how to translate financial
statements into a presentation currency. An entity is required to determine a functional currency (for
each of its operations if necessary) based on the primary economic environment in which it operates
and generally records foreign currency transactions using the spot conversion rate to that functional
currency on the date of the transaction.

Objective of IAS 21
The objective of IAS 21 is to prescribe how to include foreign currency transactions and foreign
operations in the financial statements of an entity and how to translate financial statements into a
presentation currency. The principal issues are which exchange rate(s) to use and how to report the
effects of changes in exchange rates in the financial statements.

Key definitions
Functional currency: the currency of the primary economic environment in which the entity
operates. (The term 'functional currency' was used in the 2003 revision of IAS 21 in place of
'measurement currency' but with essentially the same meaning.)

Presentation currency: the currency in which financial statements are presented.

Exchange difference: the difference resulting from translating a given number of units of one
currency into another currency at different exchange rates.

Foreign operation: a subsidiary, associate, joint venture, or branch whose activities are based in a
country or currency other than that of the reporting entity.

Basic steps for translating foreign currency amounts into the functional currency
Steps apply to a stand-alone entity, an entity with foreign operations (such as a parent with foreign
subsidiaries), or a foreign operation (such as a foreign subsidiary or branch).
1. the reporting entity determines its functional currency
2. the entity translates all foreign currency items into its functional currency
3. the entity reports the effects of such translation in accordance with paragraphs 20-37 [reporting
foreign currency transactions in the functional currency] and 50 [reporting the tax effects of exchange
differences].

Foreign currency transactions

A foreign currency transaction should be recorded initially at the rate of exchange at the date of the
transaction (use of averages is permitted if they are a reasonable approximation of actual).

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At each subsequent balance sheet dates:
 foreign currency monetary amounts should be reported using the closing rate
 non-monetary items carried at historical cost should be reported using the exchange rate at the
date of the transaction
 Non-monetary items carried at fair value should be reported at the rate that existed when the fair
values were determined.

Exchange differences arising when monetary items are settled or when monetary items are translated
at rates different from those at which they were translated when initially recognised or in previous
financial statements are reported in profit or loss in the period, with one exception. The exception is
that exchange differences arising on monetary items that form part of the reporting entity's net
investment in a foreign operation are recognised, in the consolidated financial statements that include
the foreign operation, in other comprehensive income; they will be recognised in profit or loss on
disposal of the net investment.

As regards a monetary item that forms part of an entity's investment in a foreign operation, the
accounting treatment in consolidated financial statements should not be dependent on the currency of
the monetary item. Also, the accounting should not depend on which entity within the group conducts
a transaction with the foreign operation. If a gain or loss on a non-monetary item is recognised in
other comprehensive income (for example, a property revaluation under IAS 16), any foreign
exchange component of that gain or loss is also recognised in other comprehensive income.

Translation from the functional currency to the presentation currency

The results and financial position of an entity whose functional currency is not the currency of a
hyperinflationary economy are translated into a different presentation currency using the following
procedures:
 assets and liabilities for each balance sheet presented (including comparatives) are translated at
the closing rate at the date of that balance sheet. This would include any goodwill arising on the
acquisition of a foreign operation and any fair value adjustments to the carrying amounts of assets
and liabilities arising on the acquisition of that foreign operation are treated as part of the assets
and liabilities of the foreign operation;
 income and expenses for each income statement (including comparatives) are translated at
exchange rates at the dates of the transactions; and
 all resulting exchange differences are recognised in other comprehensive income.
Special rules apply for translating the results and financial position of an entity whose functional
currency is the currency of a hyperinflationary economy into a different presentation currency.

Where the foreign entity reports in the currency of a hyperinflationary economy, the financial
statements of the foreign entity should be restated as required by IAS 29 Financial Reporting in
Hyperinflationary Economies, before translation into the reporting currency.

The requirements of IAS 21 regarding transactions and translation of financial statements should be
strictly applied in the changeover of the national currencies of participating Member States of the
European Union to the Euro – monetary assets and liabilities should continue to be translated the
closing rate, cumulative exchange differences should remain in equity and exchange differences
resulting from the translation of liabilities denominated in participating currencies should not be
included in the carrying amount of related assets.

Disposal of a foreign operation

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When a foreign operation is disposed of, the cumulative amount of the exchange differences
recognised in other comprehensive income and accumulated in the separate component of equity
relating to that foreign operation shall be recognised in profit or loss when the gain or loss on disposal
is recognised.

Tax effects of exchange differences

These must be accounted for using IAS 12 Income Taxes.

Disclosure
 The amount of exchange differences recognised in profit or loss (excluding differences arising on
financial instruments measured at fair value through profit or loss in accordance with IAS 39)

 Net exchange differences recognised in other comprehensive income and accumulated in a

separate component of equity, and a reconciliation of the amount of such exchange differences at
the beginning and end of the period.
 When the presentation currency is different from the functional currency, disclose that fact
together with the functional currency and the reason for using a different presentation currency.

 A change in the functional currency of either the reporting entity or a significant foreign operation
and the reason therefor.
When an entity presents its financial statements in a currency that is different from its functional
currency, it may describe those financial statements as complying with IFRS only if they comply with
all the requirements of each applicable Standard (including IAS 21) and each applicable
Interpretation.

Convenience translations
Sometimes, an entity displays its financial statements or other financial information in a currency that
is different from either its functional currency or its presentation currency simply by translating all
amounts at end-of-period exchange rates. This is sometimes called a convenience translation. A result
of making a convenience translation is that the resulting financial information does not comply with
all IFRS, particularly IAS 21. In this case, the following disclosures are required:
 Clearly identify the information as supplementary information to distinguish it from the
information that complies with IFRS
 Disclose the currency in which the supplementary information is displayed
 Disclose the entity's functional currency and the method of translation used to determine the
supplementary information

Factors to be considered in choosing the presentation current

 Whether the activities of the foreign operation are carried out as an extension of the reporting
entity or are being carried out with significant degree of autonomy.
 Whether the transactions with the reporting entity are high or low proportion of the foreign
operation’s activities.
 Whether cash flows from the activities of the foreign operation directly affects the cash flows of
the reporting entity or not.

Whether foreign operations is able to borrow and service its own debts independently

HINT
Functional currency
This is the currency of the primary economic environment in which the entity operates. The primary

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economic environment is normally the one in which it primarily generates and expends cash.

Presentation currency
This is the currency in which the financial statements are presented. An entity may present its
financial statements in any currency. If the presentation currency differs from the entity’s functional
currency, it will translate its results and financial position into the presentation currency.

Illustration
Watamu Limited acquired 36 million shares of Songoro Limited on 1 April 2008. Galole Limited is a
foreign subsidiary whose currency is the Falanga (Fn)

The following statements of financial position relate to Watamu Limited and Songoro Limited as at
31 March 2017
Watamu Songoro

Non-current assets:
Property, plant and Equipment 200 800
Investment in Songoro Limited 60 -
260 800
Current assets
Inventories 250 300
Trade receivables 200 280
Cash 60 50
510 630
Total assets 1,260 1,430
Equity
Ordinary shares of Sh 10/Fn 10 300 400
Revaluation reserve - 60
Retained earnings 350 340
650 800

Non-current liabilities
Long term borrowings 200 250
Deferred tax 60 100
260 350
Current liabilities
Trade payables 250 200
Current tax 70 80
Bank overdraft 303 -
50 280
Total equity and liabilities 1260 1,430

Additional information:

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1. Watamu Limited acquired the shares in Songoro Limited when the retained profits of
SongoroLimited were Fn 260 million. It is the policy of the group to value non-controlling
interest on the basis of net identifiable tangible assets. By 1 April 2009, all the goodwill in
Songoro Limited had been written off.
2. During the year ended 31 March 2010, Songoro Limited sold goods to Watamu Limited and
reported a profit mark-up of a third. The inventory of Watamu Limited included goods valued at
sh. 10 million purchased from Songoro Limited. (The exchange rate was Sh.1=Fn.5). Watamu
Limited had sent a cheque of Sh.10 million to Songoro Limited to clear the inter-group balance
which had not been received by Songoro Limited as at 31 March 2010.
3. Songoro Limited acquired some property on 1 April 2009 for Fn 250 million and took a loan to
finance this acquisition. The buildings had an estimated useful life of 25 years with depreciation
being on the straight-line method. The buildings were professionally valued at Fn 300 million on
31 March 2010. This is already reflected in the financial statements. The policy of the group is to
show buildings at depreciated historical cost.
4. Songoro Limited operates with a significant degree of autonomy from Watamu Limited.
5. The relevant exchange rates are as follows:
Details Sh.1=Fn
1 April 2008 6
31 March 2009 5.5
31 March 2010 5
Weighted average for the year ended 31 March 2010 5.2

Required:
The consolidated statement of financial position as at 31 March 2010. (Apply the requirements of IAS
21[The Effects of Changes in Foreign Exchange rates])

Answer
Hamisi Limited
Consolidated statement of financial position as at 31 March, 2010
Non-Current assets Sh. ‘000’ Sh. ‘000’
Property plant and equipment 778
Current assets
Inventory 307.5
Trade receivable 246
Cash (60 + 10+10) 80 633.5
Total assets 1,411.50

Ordinary share capital 300

Retained profits 360.95
660.95
Non-controlling interest 14.55

Shareholders’ funds 675.5

Non-current liabilities
Long term borrowings 250

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 Differed tax 80 330
Current liabilities
Trade payables 290
Current tax 86
Bank overdraft 30 406
Total equity and liabilities 1,411.50

Workings:
W1
Translated statement of financial position of Songoro Ltd
Fn ‘million’ Exchange rate Sh. ‘million’
Property plant and equipment (800-60) 740 5 148
Inventory 300 5 60
Trade receivables 280 5 56
Cash 50 5 10
1,370 274
OSC 400 6 67
Retained earnings: Pre-acquisition 260 6 43
Post-acquisition 80 Balance figure 38
740 148
Long term borrowings 250 5 50
Differed tax 100 5 20
Trade payables 200 5 40
Current tax 80 5 16
1,370 274
36 𝑚𝑖𝑙𝑙𝑖𝑜𝑛 36
Shareholding = 400 = 0𝑟 90%
𝑚𝑖𝑙𝑙𝑖𝑜𝑛 40
10
1
UPCI = × 10𝑚 = 2.5𝑚
4

W2
Items in the statement of financial position
PPE Inventory Trade Borro Deferred Trade Curr
rec. wing tax pay tax
Sh. ‘m’ Sh. ‘m’ Sh. ‘m’ Sh. ‘m’ Sh. ‘m’ Sh. ‘m’ Sh. ‘m’
Watamu Ltd 630 250 200 200 60 250 70
Songoro Ltd 148 60 56 50 20 40 16
UPCI (2.5)
Cash in transit (10)
778 307.5 246 250 80 290 86

W3
Goodwill on acquisition

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 Fn ‘million’
Investment cost (120 ×6) 720
Net assets on acquisition (90% × 660) (594)
Goodwill on acquisition 126
Goodwill on local currency (shilling) ÷ 6 21

The goodwill is completely written off so it will be charged in the retained profits

W4
Retained profits
Sh. ‘million’
Hamisi Ltd 350
Share of post-acquisition profits of Galole Ltd (90% ×38) 34.2
Les: UPCI (90% ×2.5) (2.25)
Impairment of goodwill (21)
360.95

W5
Non-controlling interest
Sh. ‘million’
Net assets of Galole Ltd 148
Less UPCI (2.5)
145.5
Share of NCI at 10% 14.55
Alternatively:
Non-controlling interest is net assets 10% ×148 14.8
Non-controlling interest in UPCI 10% × 2.5 (2.5)
14.55

SELF REVIEW QUESTIONS (ANSWERS ARE AFTER THE QUESTIONS)

QUESTION 1
Mwanzo Ltd., Safari Ltd and Upya Ltd operate in the clothing industry.

The following information relates to the financial position of the three companies as at 30 September
2017:
Mwanzo Ltd. Safari Ltd. Upya Ltd.
Sh. “000” Sh. “000” Sh. “000”
Non-current assets:
Property, plant and equipment 7,960 4,600 2,680
Patents 500 840 -
Investments in: Safari Ltd. 5,000
Upya Ltd. 1,600

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 Others 300 400 120
15,360 5,840 2,800
Current assets:
Inventories 1,140 800 600
Trade receivables 840 760 800
Bank - 300 240
1,980 1,860 1,640
Total assets 17,340 7,700 4,440
Equity and liabilities:
Equity and reserves:
Ordinary shares of Sh.20 each 4,000 2,000 1,000
Reserves: Share premium 2,000 1,000 200
Revenue reserves 9,000 3,800 2,400
15,000 6,800 3,600
Non-current liabilities:
Deferred tax 400 - 160
Current liabilities:
Trade payables 1,500 900 560
Current tax 280 - 120
Bank overdraft 160 - -
1,940 900 680
Total equity and liabilities 17,340 7,700 4,440

Additional information:
1. Mwanzo Ltd acquired its investments as shown below:

Company Number of shares Cost of investment Retained earnings

acquired Sh. “000” Sh. “000”
Safari Ltd. 80,000 5,000 1 October 2015
Upya ltd. 20,000 1,600 1 October 2016

2. At the date of the acquisition, the fair value of Safari Ltd’s net assets were equal to their book
values, with the exception of land that had a fair value of Sh.400,000 in excess of its book value.
3. On 1 September 2017, Mwanzo Ltd processed an invoice for Sh.100,000 in respect of an agreed
allocation of management fee to Safari Ltd. As at 30 September 2017, Safari Ltd had not
accounted for this transaction prior to this, the current accounts between the two companies had
been agreed at Safari Ltd owing Sh.140, 000 to Mwanzo Ltd (included in trade receivables and
trade payables respectively).
4. During the year ended 30 September 2017, Upya Ltd sold goods to Mwanzo Ltd at a selling price
of Sh.280, 000, which gave Upya Ltd a profit of 40% on cost. Mwanzo Ltd had half of these
goods in inventory as at 30 September 2017.
5. The fair value of the non-controlling interest (NCI) in Safari Ltd was Sh.1, 500,000.
Required:
Group statement of financial position as at 30 September 2017.

QUESTION 2

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The following financial statements relate to Hema Ltd and its investment companies Shuka Ltd and
Ajabu Ltd for the year ended 30 April 2017.
Income statement for the year ended 30 April 2017
Hema Ltd. Shuka Ltd. Ajabu Ltd
Sh. ‘million’ Sh. ‘million’ Sh. ‘million’
Revenue 1,200 600 300
Cost of sales (650) (250) (100)
Gross profit 550 350 200
Investment income 70 - 1
Distribution cost (100) (40) (30)
Administrative expense (130) (90) (50)
Finance cost (40) (20) (20)
Profit before tax 350 200 101
Income tax expense (70) (50) (31)
Profit for the year 280 150 70
Dividends paid (50) (50) (30)
Retained profit for the year 230 100 40
Retained profit brought forward 480 275 160
Retained profit carried forward 710 375 200

Statement of financial position as at 30 April 2017

Hema Ltd. Shuka Ltd. Ajabu Ltd
Sh. ‘million’ Sh. ‘million’ Sh. ‘million’
Asset:
Non-current assets:
Property, plant and equipment 1,250 800 650
Intangible assets 200 70 80
Investments 850 50 20
2,300 920 750
Current assets:
Inventory 200 75 60
Trade and other receivables 300 90 80
Financial assets at fair value 30 20 10
Cash and cash equivalents 150 40 40
680 225 190
Total assets 2,980 1,145 940
Equity and liabilities
Equity:
Ordinary share capital 1,000 200 200
Share premium 300 50 50
Revaluation reserve 200 50 50
Retained profits 710 375 200
2,210 675 500
Non-current liabilities:
10% loan stock 500 200 200
Current liabilities:
Trade and other payables 250 250 220
Current tax 20 20 20
270 270 240

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 Total equity and liabilities 2,980 1,145 940

Additional information:
1. Hema Ltd acquired the investments in other companies as follows:
Date Shareholding Cost of Revaluation Retained
purchase reserve profits
Sh. ‘million’ Sh. ‘million’ Sh. ‘million’
Shuka Ltd. 1 May 2014 80% 300 20 80
Ajabu Ltd. 1 May 2015 40% 200 25 150

Hema Ltd also invested in half of the 10% loan stock in Shuka Ltd.
2. The fair value of the non-controlling interest in Shuka Ltd was sh.75 million on 1 May 2014.
3. During the year ended 30 April 2017, Hema Ltd sold goods to Shuka Ltd and Ajabu Ltd as
follows:
Selling price Mark up % of goods
Sh. “million” % Held in stock
Shuka Ltd. 100 25 50
Ajabu ltd. 50 25 Nil

4. On 1 may 2016, Hema Ltd sold Shuka Ltd an item of plant for Sh.200 million reporting a 25%
profit on cost of the plant. The group charges depreciation at 20% per annum on cost of plant.
5. All the goodwill of the two companies in which Hema Ltd has invested are estimated to be
impaired by 60% to the year ended 30 April 2017. 20% of the impairment relates to the current
year.
6. Trade receivables and trade payables included Sh.50 million due from Shuka Ltd to Hema Ltd
and Sh.10 million due from Ajabu Ltd to hema Ltd.
7. All dividends and interest had been paid by the end of the year.
Required:
(a) Consolidated income statement for the year ended 30 April 2017.
(b) Statement of changes in equity for the year ended 30 April 2017.
(c) Consolidated statement of financial position as at 30 April 2017.

QUESTION 3
The following information was extracted from the financial statements of A Ltd, B Ltd and C Ltd for
the year ended 30 September 2016:
Statement of financial position as at 30 September 2016:
A Ltd. B Ltd. C Ltd.
Sh. “million” Sh. “million” Sh. “million”
Non-current assets:
Property, plant and equipment 950 750 450
Investments 700 - -
Intangible assets 200 150 100

Current assets:
Inventories 250 200 120
Trade receivables 220 170 80
Financial assets at fair value 180 130 120
Cash and bank balances 100 50 80

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Total assets 2,600 1,450 950

Equity and liabilities:

Equity and reserves
Ordinary share capital (Sh.10 per value) 500 200 100
Share premium 200 100 50
Retained earnings 400 350 250
Shareholders’ funds 1100 650 400

Non-current liabilities:
10% debentures 600 200 200
Deferred tax 250 100 50

Current liabilities:
Trade payables 300 250 150
Current tax 250 150 100
Proposed dividends 100 100 50
Total equity and liabilities 2,600 1,450 950

Additional information:
1. A Ltd acquired its investments as shown below:
Company Number of Cost of investment Retained Date of
shares acquired Sh. “million” earnings acquisition
Sh. “million”
B Ltd. 16 million 480 150 1October 2014
C Ltd. 3 million 120 100 1October 2015

A Ltd also invested in half of the 10% debentures of B Ltd. The fair value of the non-controlling
interest in B Ltd amounted to Sh.120 million.

2. Immediately prior to the date of its acquisition, B Ltd revalued its non-current assets in readiness
for the acquisition as shown below:

Item Carrying amount Fair value Remaining life

Sh. “million” Sh. “million” (years)
Equipment 250 290 10
Patents 150 160 5

Equipment and patents are depreciated or amortised on a straight-line basis over their remaining
useful lives respectively.
3. During the year, A Ltd sold a non-current asset to B Ltd for Sh.180 million. A Ltd marked up the
equipment at 20% on cost. B Ltd included the equipment in its non-current assets and charged
depreciation at the rate of 20% per annum on cost.
4. B Ltd sold inventories to A Ltd during the year for Sh.150 million. B Ltd marked up these goods
at 50% on cost. Half of these goods were still held by A Ltd as at the year end.

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5. A Ltd owed B Ltd Sh.100 million as at the year end with regard to the transaction in note 4 above.
The books of A Ltd however showed that it owed B Ltd only Sh.80 million. A Ltd had sent a
cheque to B Ltd on 25 September 2016 which was not received by B Ltd until 5 October 2016.
6. The group uses the full goodwill method. However, it does not amortise goodwill, instead
goodwill is assessed for impairment annually. Impairment test for the year ended 30 September
2016 revealed that none of the goodwill had suffered any impairment since acquisition.
Required:
Group statement of financial position as at 30 September 2016.

QUESTION 4
The following is an extract of the financial statements of A Ltd, B Ltd and C Ltd for the year ended
30 September 2015:

Income statement for the year ended 30 September 2015

A Ltd B Ltd C Ltd
Sh. “million” Sh. “million” Sh. “million”
Revenue 9,120 4,940 4,560
Cost of sales (3,610) (1,092) (1,064)
Gross profit 5,510 3,848 3,496
Distribution cost (665) (428) (380)
Administrative expenses (695) (170) (380)
Finance cost (65) (20) -
Profit before tax 4,085 3,230 2,736
Income tax expense (1,660) (1,078) (848)
Profit for the period 2,425 2,152 1,888
Retained profit brought forward 7,612 1,452 1,250

Statement of financial position as at 30 September 2015

A Ltd B Ltd C Ltd
Sh. “million” Sh. “million” Sh. “million”
Non-current assets:
Property, plant and equipment 6,096 4,855 2,612
Investments 4,350 50 -
10,446 4,905 2,612
Current assets:
Inventory 1,460 853 737
Accounts receivable 1,880 765 573
Cash and bank balances 1,224 187 468
4,564 1,805 1,778
Total assets 15,010 6,710 4,390
Equity and liabilities:
Capital and reserves:
Ordinary share capital 2,600 1,600 400
Share premium 1,500 300 -
Retained profit 8,237 3,604 3,138
12,337 5,504 3,538
Non-current liability
Loan from bank 650 200 -
Current liabilities:

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 Trade payables 1,463 646 382
Current tax 560 360 220
Bank overdraft - - 250
2,023 1,006 852
Total equity and liabilities 15,010 6,710 4,390

Additional information:
1. A Ltd. acquired 40%of C Ltd. on 1 October 2014 for Sh.70Q million.
2. A Ltd. also acquired 80% of the ordinary shares of B Ltd. on 1 January 2015 at a cost of Sh.3,430
million. The fair value of non-controlling interest as at this date amounted to Sh.800 million.
3. The fair value of B Ltd.'s property, plant and equipment on the date of acquisition was Sh.210
million above the book value with exactly 5 years remaining on the useful life of this property.
4. During the year ended 30 September 2015, B Ltd. sold goods to A Ltd. for Sh. 140 million. B Ltd.
marked up the goods at 16 2/3% on cost. Half of the goods remained in the stock of A Ltd. as at
the year end.
5. As at 30 September 2015. A Ltd. owed B Ltd. Sh.80 million while C Ltd. owed A Ltd. Sh.15
million.
6. Goodwill was impaired as follows:
B Ltd. 25%.
C Ltd. 10%.
Required:
Prepare the following financial statements in the books of A Ltd. for the year ended 30 September
2015:
(a) Consolidated statement of comprehensive income.
(b) Statement of changes in equity.
(c) Statement of financial position.

QUESTION 5
The following financial statements were extracted from the books of Elephant Ltd., Rhino Ltd. and
Zebra Ltd.:
Statement of financial position as at 30 September 2013:
Elephant Ltd. Rhino Ltd. Zebra Ltd.
Sh. m Sh. m Sh. m
Non-current assets
Property, plant and equipment 1,600 1,200 800
Investment in Rhino Ltd. 650 - -
Investment in Zebra Ltd -__ 600 _-_
2,250 1,800 800
Current assets
Inventories 500 400 360
Trade receivables 400 360 240
Cash and bank balances 200 240 100
1,100 1,000 700
Total assets 3,350 2,800 1,500

Equity and liabilities

Capital and reserves
Ordinary share capital (Sh.10 each) 800 400 400
Share premium 400 300 200

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Retained earnings 700 500 400
1,900 1,200 1,000
Non-current liabilities
10% loan notes 850 1,200 300
Deferred tax 200 150 100
1,050 1,350 400
Current liabilities
Trade payables 160 140 50
Provision 160 60 40
Proposed dividends 80 50 10
400 250 100
Total equity and liabilities 3,350 2,800 1,500

Income statement for the year ended 30 September 2013:

Elephant Ltd. Rhino Ltd. Zebra Ltd.

Sh. "million" Sh. “million" Sh. ”million
Revenue 3,200 1,800 1,200
Cost of sales (1,600) (600) (400)
Gross profit 1,600 1,200 800
Expenses
Administrative expenses (360) (320) (120)
Selling and distribution costs (240) (280) (80)
Finance costs (200) (100) (100)
Profit before tax 800 500 500
Taxation (300) (360) (340)
Profit after tax 500 140 160
Proposed dividends (80) (50) (10)
Retained profit for year 420 90 150
Retained profits brought forward 280 410 250
Retained profits carried forward 700 500 400

Additional information:
1. Elephant Ltd. acquired 80% of Rhino Ltd. on 1 October 2010 when the retained earnings of
Rhino Ltd. Sh.50 million. The fair values of the non-current assets of Rhino Ltd. were the same
as their book values.
2. Rhino Ltd. acquired 75% or Zebra Ltd. on 1 October 2011 when the retained earnings of Zebra
Ltd, amounted to Sh.40 million. There were no fair value adjustments in the books of Zebra Ltd:
3. The fair values of the non-controlling interest in Rhino Ltd. amounted to Sh.160 million. The
group uses the full goodwill method and amortizes goodwill arising on acquisition of a
subsidiary over a period of 5 years from the date of acquisition.
4. During the year ended 30 September 2013, Rhino Ltd. sold inventories to Elephant Ltd. for
Sh.l80 million. Rhino Ltd. marked-up the goods by 50% on cost. One-third of the goods were
still held by Elephant Ltd. as at 30 September 2013
5. Elephant Ltd. sold equipment to Rhino Ltd. during the year ended 30 September 2013 for Sh.400
million. Elephant Ltd. marked-up the equipment at 25% on cost. Rhino Ltd. includes the
equipment in its non-current assets and charges depreciation at 25% per annum on a straight line
basis. Depreciation expense is classified as a cost of sales expense.
Required:

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 (a) Consolidated statement of comprehensive income for the year ended 30 September 2013.
(b) Consolidated statement of financial position as at 30 September 2013.

ANSWERS TO SELF REVIEW QUESTIONS

ANSWER 1
Mwanzo Ltd Group
Consolidated statement of financial position as at 30 September 2017
Sh. “000” Sh. “000”
Non-current assets
Intangible assets
Goodwill 700
Patents 500 + 840 1,340 2,040

Tangible assets
Property, plant and equipment (7,960 + 4,600 + 400) 12,960
Investments – In Upya Ltd. 1,920
Others (300 + 400) 700 15,580
17,620
Current assets
Inventory (1,140 + 800 – 16) 1,924
Trade receivables (840 + 760 – 240) 1,360
Bank 300 3,584
Total assets 21,204

Equity and liabilities

Equity and reserves
Ordinary shares of Sh.20 each 4,000
Share premium 2,000
Retained earnings 10,344
16,344
Non-controlling interest 1,760
Non-current liabilities
Deferred tax 400
Current liabilities
Trade payables (1,500 + 900 – 140) 2,260
Current tax 280
Bank overdraft 160 2,700
21,204

Workings
W1
Holdings Safari Ltd Upya Ltd
Total shares 100,000 50,000
Shares acquired 80,000 20,000
% 80% 40%
Status Subsidiary Associate

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 W2

Retained earnings
Mwanzo Ltd Safari Ltd Upya Ltd
Sh. “000” Sh. “000” Sh. “000”
As per question 9,000 3,800 2,400
Less: At acquisition (2,400) (1,600)
Post-acquisition 1,400 800
Less: Management fees (100)
Balance 1,300
Share of: Safari Ltd. 80% × 1,300 1,040
Upya Ltd. 40% × 800 320
Balance c/d 10,360

Sh. “000”
Retained earnings for Mwanzo Ltd. 10,360
Balance b/f (16)
Less: Unrealised profit in inventory (W7) 10,344

W3

Goodwill on purchase of shares

Safari Ltd Upya Ltd
Sh. “000” Sh. “000” Sh. “000” Sh. “000”
Consideration 5,000 1,600
Non-controlling interest in - -
Safari Ltd 1,500 1,600
6,500
Less: Equity shares 2,000 1,000
Share premium 1,000 6,500
Fair value adjustment 400 -
Pre-acquisition reserve 2,400 (5,800) 1,600 (1,120)
Goodwill 700 2,800 ×40% 480

As goodwill for Upya Ltd is positive, it is included in the cost of investment.

W4

Non-controlling interest of B Ltd. (at proportionate net assets)

Sh. “000”
Equity shares 1,500
Post-acquisition reserves (20% ×1,300) 260
1,760

W5

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Receivables of Mwanzo Ltd
Sh. “000”
Payables of Safari Ltd 140
Management fee 100
240
W6
Investment in Upya Ltd
Sh. “000”
Cost 1,600
Post-acquisition (40%×800) 320
1,920

W7
Unrealised profit in inventory from sales by Upya Ltd to Mwanzo Ltd:
Selling price of goods sold = SH.280,000
Let cost of the goods be x
Profit = 40% on cost which is 0.4x
Profit = Selling price – cost price
0.4x = 280,000 – x
1.4x = 280,000
280,000
x= = 200,000
1.4

Cost of the goods = sh. 200,000

Profit = selling price – cost price = sh.280,000 – sh.200,000 = sh.80,000
Mwanzo Ltd had half of these goods in inventory as at 30 September 2017:
Sh.80,000 x ½ = 40,000
Mwanzo Ltd.’s share: 40% x sh.40,000 = sh.16,000

ANSWER 2
(a)Consolidated income statement

Hema Ltd and its subsidiary

Consolidated income statement for the year ended 30 April 2017
Sh. “m” Sh. “m”
Revenues (1,200+ 600 – 200) 1,600
Cost of sales (50 + 250 – 100 – 160 + 10 – 8) (642)
958
Investment (70 – 40 – 20 – 10) 0
Distribution cost (100 + 40) (140)
Administration expenses (130 + 90) (220)
Finance cost (40+ 20 – 10) (50)
Profits before tax 548
Income tax Expense (70 + 50) (120)
428
Add. Share of associate profit (40% ×70) 28
Less Goodwill impaired – S 20% x 20 4
A 20% x 30 6 (10)
Less: Non-controlling interest 20% (150 + 8) (31.6)

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Profit for the year 414.4

(b)Statement of changes in equity

Sh. m
Retained profit brought forward
- Hema 480
- Shuka 80% (275 – 80) 156
- Ajabu 40% (160 – 150) 4
640
Less: Goodwill impaired – Shuka 40%×20 8
Ajabu 40%×30 12 (20)
620
Add profit for the year 414.4
Less: Dividends (holding company only) (50)
Retained profit carried forward 984.4

(c)Consolidated statement of financial position as at 30 April 2017:

Sh. “m” Sh. “m”
Non-current assets
Property, plant equipment (1,250 + 800 – 40 + 80) 2,090
Intangible assets (200 + 70) 270
Other investments (850 + 50 – 300 – 200 – 100) 300
Goodwill (40%×25) 10
Investment in associate (W2) 202
2,872
Current assets
Inventory (200 + 75 – 10) 265
Trade and other receivables (300 + 90 – 50) 340
Financial assets at fair value (30 + 20) 50
Cash and cash equivalents (150 + 40 + 10) 200 855
3,727
Equity and Liabilities
Ordinary share capital 1,000
Share premium 300
Revaluation reserves 234
Retained profit 984.4
Non-controlling interest 138.6
2,667
Non-current liabilities
10% loan stock (500 + 200 – 100) 600
Current liabilities
Trade and other payables (250 + 250 – 50) 450
Current tax (20 + 20) 40 490
3,747

Workings
W1

Cost of control (Shuka Ltd.)

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 Sh. “m” Sh. “m”
Cost of sale 300 Ordinary share capital (80%×2,000)
Share premium 80% ×50 160
Revaluation 80% × 20 40
P & L 80% ×80 16
Goodwill 64
- 20
300 300

Non-Controlling Interest in Shuka Ltd.

Sh. “m” Sh. “m”
Fair Value 75 Ordinary share capital 20% x 2000
- Share premium 20% x 50 40
- Revaluation 20% x 20 10
- P & L 20% x 80 4
- Goodwill 16
- 5
75 75

Sh. “m” Sh. “m”

Cost of Ajabu Ltd 200 Ordinary share capital 0%×200 80
Share premium 40%×50 20
Revaluation 40%×25 10
P & L 40%×150 60
- Goodwill 30
200 200

W2
Investment in associate
Sh. “m” Sh. “m”
Cost 200 Goodwill impairment 18
60% × 30
Group share of post-acquisition
profit 40% (200 – 150) Statement of financial position
20 202
220 220

Revaluation reserve
Sh. “m” Sh. “m”
Cost of control80% x 20 16
NCI 20% x 50 10 H Ltd 200
Statement of financial position S Ltd 50
234 A 40% (50 – 25) 10
260 260

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ANSWER 3
A Limited
Consolidated statement of financial position as at 30 September 2016
Sh. “m” Sh. “m”
Non-current assets
Property, plant and equipment [950 + 750 + 40-8-30 + 6] 1,708
Intangible assets [200 + 150 + 10-2] 358
Investment in C Ltd [120 + 45 + 15] 180
Goodwill 100
2,346
Current assets
Inventories (250 + 200 – 15) 435
Trade receivables (220 + 170 – 100) 290
Financial assets at fair value (180 + 130) 310
Cash and bank balances (100 + 50 + 20) 170 1,205
3,551
Total assets
Equity and liabilities
Ordinary share capital
Share premium 500
Retained earnings 200
Shareholders’ funds 654.8
Non-controlling interest 1,354.80
156.20
Non-current liabilities
10% debentures (600 + 200 – 100)
Deferred tax (250 + 100) 700
Current liabilities 350
Trade payables (300 + 250 – 80) 470
Current tax (250 + 150) 400
Proposed dividends (100 + 100 – 80) 120 990
Total Equity and Liabilities 3,551

Workings
W1
Goodwill on acquisition of subsidiary and associate
B Ltd
Controlling Non-Controlling
Interest Interest
Sh. “m” Sh. “m”
Investment/Fair value 480 120
Net assets:
Share capital 200
Share premium 100
Retained earnings 150
Revaluation reserve 50
80%, 20% 500 (400) (100)
Goodwill 80 20

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 C Ltd
Sh. “m”
Investment in C Ltd 120
Net assets
Share capital 100
Share premium 50
Retained earnings 100
30% x 250 250 (75)
goodwill 45

W2

Retained earnings a/c

Sh.m Sh.m
Depreciation undercharge 6.4 A Ltd 400
Amortization of intangible asset 1.6 Dividends receivable:
URP on sale of NCA 30 B Ltd. 80% × 100 80
URP on inventories 12 C Ltd. 30% × 50 15
B Ltd. 80% (350 – 150) 160
C Ltd. 30% (250 – 100) 45
CBS 654.8 Depreciation overcharge 4.8
704.8 704.8

W3
Non-controlling Interest a/c
Sh. Sh.
“m” “m”
Depreciation undercharge 1.6 Fair value 120
Amortization of intangible 0.4 Retained earnings
20% (350 – 150) 40
URP on inventories 3 Depreciation overcharge 1.2
CBS 156.2
161.2 161.2

W4
Investment in C Ltd
Sh. “m” Sh. “m”
Net Assets
Share capital 100
Share premium 50
Retained earnings 250

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 400 x 30% 120
Add: Goodwill 45
Investment income (Dividends receivable) 15
Investment in C Ltd. 180

W5
Fair Value adjustment
Dr: PPE A/c 40 m
Dr: Intangible assets 10 m

Cr: Revaluation Reserve A/c 50 m

Depreciation undercharge and impairment of intangibles

40
Depreciation undercharge = 10
× 2 = 8M

Dr. Profit and Loss a/c 80% ×8 m 6.4 m

NCI 20% ×2 m 1.6 m
Cr: Property Plant and equipment 8m

W6
Amortisation of intangible (patents)
10
Amortization = 5 × 1 = Sh.2 m

Dr: P and L A/c 80%×2 m Sh.1.6 m

NCI 20% × 2m Sh. 0.4 m

Cr: Intangible Assets Sh. 2.0 m

W7
Unrealized profit on sale of non-Current Assets by A Ltd
1
URP = 6 × 180m = Sh. 30 m

Dr: P and L a/c Sh. 30 m

Cr: Non-current asset Sh.30 m

Depreciation overcharge by B Ltd

Overcharge = 20% ×30m= Sh. 6m
Dr: Non-current Assets Sh. 6 m
Cr: P & L a/c 80%×6 Sh.4.8 m
NCI 20% ×6 Sh. 1.2 m

W8
Unrealized profit on sale of non-current assets by A Ltd
1 1
URP = [3 × 150𝑚 × 2] = Sh. 15 m

Dr: P and L a/c (80% ×15) Sh. 12 m

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 NCI (20% × 15) Sh. 3 m
Cr: Inventories A/c Sh. 15 m

W9
Current Accounts
Dr: Cash A/c Sh.20 m
Trade payables Sh. 80 m
Cr: Trade receivables Sh. 100 m

ANSWER 4
a)
Consolidated statement of comprehensive income for the year ended 30 September 2015:
Sh. “m”
Revenue (9,120 + /12 ×4,940 – 140)
9
12,685
Cost of sales (3,610 + 9/12 ×1.092 – 140 + 10 + 31.5) (4,330.5)
Gross profit 8,354.5
Distribution cost (665 + 9/12 ×428) (986)
Administrative cost (695 + 9/12 ×170) (822.5)
Finance cost (65 + 9/12 x 20) (80)
Profit before tax 6,466
Less: Income tax expense (1,660 + 9/12 ×1,078) (2,468.5)
Profit after tax 3,997.5
Add share of associate profit (40%×1,888) 755.2
Less: Goodwill impaired: -25%×180 ×80% 36
-10% ×40 4 (40)
Less: Non-controlling interest
20% [(9/12×2,152) – 10 – 31.5] (314.5)
Profit for the year 4,398.2

b) Statement of financial position

A Ltd
Statement of financial position as at 30 September 2015
Sh. “m” Sh. “m”
Non-current assets
Property, plant and equipment (6,096 + 4,855 + 210 – 31.5) 11,129.5
Other investment (4,350 + 50 – 3,430 – 700) 270
Goodwill (75% ×180) 135
Investment in associate 1,451.2
12,985.7
Current assets
Inventory (1,460 + 853 – 10) 2,303
Account receivable (1,880 + 765 – 80) 2,565
Cash and bank (1,224 + 187) 1,411 6,279
19,266.7
Capital and liabilities
Ordinary share capital 2,600
Share premium 1,500
Consolidated income statement 10,210.2

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 Non-controlling interest 1,157.5
15,467.7
Non-current liability
Loan from bank (650 + 200) 850
Current liabilities
Trade payables (1,463 + 646 – 80) 2,029
Current tax (560 + 360) 920 2,949
19,266.7

Workings
W1
Cost of control account
Sh.m Sh.m
Cost of investment 3,430 Ordinary share capital (80% × 1,600) 1,280
Share premium (80% ×300) 240
Profit and loss (80% ×1,990) 1,592
Revaluation (80% ×210) 168
- Goodwill 150
3,430 3,430

Fair value of WCI 850 Ordinary share capital (20% ×1,600) 320
- Share premium (20% x 300) 60
- Profit at loss (20% x 1,990) 398
- Revaluation (20% x 210) 42
- Goodwill 30
850 850

W2
Investment in associate account
Sh.m Sh.m
Cost of investment 700 Goodwill impaired 4
Group share of profit 755.2 CSFP 1,451.2
1,455.2 1,455.2

W3
Non-controlling interest account
Sh. Sh.m
“m” Ordinary share capital (20%×1,600) 320
Dep adjustment (20% x 31.5) 6.3 Share premium (80%×300) 60
Goodwill impaired Profit and loss (20%×3,604) 720.8
25% x 180 x 20% 9 Revaluation (20%×210) 42
CSFP 1,157.5 Goodwill 30
1,172.8 1,172.8

W4
Pre-tax profit
Sh. “m”
Balance b/d 1,452
+ Profit for the period

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(3/12 ×2,152) 538
1,990

ANSWER 5
(a)Statement of comprehensive income
Elephant Ltd
Considered statement of comprehensive income
For the year ended 30th September 2013
Sh. m
Revenue (w2) 5,620
Cost of sales (w3) (2,100)
Gross profit 3,520
Less: Administrative expenses (w4) (800)
Selling and distribution cost (w5) (600)
Goodwill / Impairment (50/5 years) + (96/5 years) (29.2)
Profit from operators 2,090.8
Less Finance cost (w6) (400)
Profit before tax 1,690.8
Less: Taxation (w7) (1,000)
Profit after tax 690.8
Less: Profit attributable to NCI shareholders (w8) (92)
Profit attributable to Group shareholders 598.8
Less: Dividends Holding co. only (80)
Group retained earnings for the year 518.8
Add: Group Retained earnings b/d (w9) 654.8
Group retained earnings c/d 1,173.6

(b) Consolidated statement of financial position

Elephant Ltd
Consolidated statement of financial position as at 30th September 2013
Sh. m
Non-current assets
Property plant and equipment (w15) 3,540
Goodwill 81.6
3,621.6
Current assets
Inventories (500 + 400 -20+360) 1,240
Trade receivables (400 +360 +240) 1,000
Cash and bank balance (200 +240 +100) 540
2,780
Total assets 6401.6

Capital and reserves

Ordinary share capital 800

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 Share premium 400
Group retained earnings 1,173.6
Non-controlling interest (w9) 525.5
2,899.1
Non-current liabilities
10% loan notes (850 + 1,200 +300) 2,350
Differed tax (200 + 150 +100) 450
2,800
Current Liabilities
Trade payables (160 + 140 + 50) 350
Current tax (160 + 60 + 40) 260
Proposed dividends
Elephants 80
NCI Rhino (20% ×50) 10
NCI Zebra (25% × 10) 2.5 92.5
Total Equity and Liabilities 6,401.6

Workings
W1

Elephant Ltd

80%

Rhino Ltd

75%

Zebra Ltd

Percentage Holding
Indirect holding 80 % ×75%= 60%
N.C.I (100%-60%) 40%
100%

W2
Group revenue
Sh. m
Elephant 3,200
Rhino 1,800
Zebra 1,200
Less: Inter group sales (180)
Inter group sales (400)
5,620

W3
Group Cost of sales
Sh. m
Elephant 1,600

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 Rhino 600
Zebra 400
Less: Inter group sales (180)
Inter group sales (320)
Unrealized profit on stock 20
Less: Depreciation (20% ×80) (20)
2100

W4
Group Administration expenses

Sh. m
Elephant 360
Rhino 320
Zebra 120
800

W5
Group selling and distribution expenses
Sh. m
Elephant 240
Rhino 280
Zebra 80
600

W6
Group finance cost
Sh. m
Elephant 200
Rhino 100
Zebra 100
400

W7
Group tax
Sh. m
Elephant 300
Rhino 360
Zebra 340
1,000

W8
Profit attributable NCI shareholders
Rhino Sh. m

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Profit after tax 140
Less: unrealized profit on closing on stock (20)
Add: Depreciation overcharge 20
Adjusted PAT 140
NCI share = 20% ×140 28

Zebra
Profit after tax 160m
NCI Share 40%×160 64m
Total profits to NCI = 28m + 64 m= 92m

W9
Group retained earnings brought forward
Sh. ‘m’
Elephant 280
Rhino Ltd 80% (410 -50) 288
Zebra Ltd 60% (250 -40) 126
Less: Previous years Impairment loss (50/5yrs ×2) + (96/5 years) (39.2)
Group Retained earnings 654.8

W10
Cost of control Account (Rhino Ltd)
Sh. m Sh. m
Cost of investment 650 Ordinary share capital (80% × 400) 320
- Share premium (80% × 300) 240
- Retained earnings –Pre Acquisition
- (80% ×50) 40
- Goodwill (Balancing figure) 50
650 650

W11
Determination of goodwill attributable to NCI
Sh. m Sh. m
Fair value of Net assets 160
Less: NCI share of net assets at Book value
Share capital 400
Share premium 300
R/Earnings 50
750×20% (150)
10

W12
Cost of control Account (Zebra Ltd)
Sh.m Sh. m
Cost of investment 480 Ordinary share capital (60% × 400) 240
(80% x 600) Share premium (60% × 200) 120
Retained Earnings (60% × 40) 24
_____ Goodwill (Balancing figure) ) 96
480 480

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 50
Amortization / Impairment loss – Rhino = 5 years × 3 years=30
96
Zebra = 5 years × 2 years = 34
10
NCI –Rhino = 5 years
× 3 years= 6
74.4m

Adjustment
Unrealized profits in stock by Rhino Ltd (Note 4)
SP = 180m and unsold stock = 1/3
Mark up 50% = ½
Margin = 1/3

UPS = Margin × SP of unsold stock

= 1/3 × (180m×1/3) = 20m

Being upstream transaction

Dr. Group retained earnings acc. (80% × 20m) 16m
Dr. Non-controlling interest (20% × 20m) 4m
Cr. Group inventory account 20m

Unrealized profits on equipment sold from Elephant to Rhino (Note 5)

Selling price = 400
Mark up = 25% = ¼
Margin = 1/5
Unrealized profits = 1/5 ×400 = 80m

Dr. Group retained earnings 80m

Cr. Property plant and equipment 80m

Depreciation overcharge (Note 5)

25% × 80m = 20m

W13
Group Retained Earnings
Sh.m Sh.m
Goodwill 68.4 Elephant Ltd 700
Unrealized profit on stock 16 Rhino –post Acquisition (80%(500-50) 360
Unrealized profit 80 Zebra –Post Acquisition 60% (400-40) 216
Balance c/d (G.S.F.P) 1,173.6 Dividend Receivable (Rhino 80×50) 40
Zebra 80% (75% ×10) 6
Depreciation overcharge (80% ×20) 16
1,338 1,338

Alternatively
Group Retained Earnings
Sh. m Sh. m
Pre-Acquisition R/E Balance b/d
Rhino 80% ×50 40 Elephant Ltd 700

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 Zebra (60%×40) 24 Rhino Ltd 500
NCI Zebra Ltd 400
Rhino (20% × 500) 100 Dividend Receivable
Zebra (40% × 400) 160 Rhino 40
Goodwill w/off 68.4 Zebra 6
Unrealized profit on stock 16 Depreciation overcharge 16
Unrealized profit on equip 80
Balance c/d (G.S.F.P) 1,173.6 -
1,602 1,602

W14
Non-controlling interest
Sh.m Sh.m
Goodwill 6 Ordinary share capital
Unrealized profit on stock 4 Rhino (20% ×400) 80
Investment in Zebra (20%×600) 120 Zebra (40% ×400) 160
Balance c/d (G.S.F.P) 525.5 Share premium
Rhino (20%×300) 60
Zebra (40% ×200) 80
Retained earnings
Rhino (20%×600) 100
Zebra (40% × 400) 160
Dividend receivable from Zebra
20% ×(75%×10) 1.5
Depreciation Overcharge 4
Goodwill 10
655.5 655.5

Dr. PPE Acc. 20m

Cr. Group retained earnings (80% ×20m) 16m
Cr. Non-controlling interest (20% × 20m) 4m

W15
Group PPE account
Sh.m Sh.m
Balance b/d Unrealized profit on stock 80
Elephant 1,600 Balance c/d (G.S.F.P) 3,540
Rhino 1,200
Zebra 800
Depreciation overcharge 20 -
3,620 3,620

Page 257
 TOPIC 6
PUBLIC SECTOR ACCOUNTING
TOPIC KEY OBJECTIVES
1.Be able to define what IPSAS are
2.Know all the IPSAS
3. To understand the IPSAS of Effects of changes in foreign exchange rates.
4. To understand the IPSAS of Revenue from exchange and non-exchange transactions.
5. To understand the IPSAS of Hyperinflationary economies (ignore inflation adjusted financial statements).
6. To understand the IPSAS of Segment reports.
7. To understand the IPSAS of Related party disclosures.
8. To understand the IPSAS of Impairment of cash generating and non–cash generating assets.
9. To understand the IPSAS of Disclosure of information about the general government sector.

PROVISIONS OF INTERNATIONAL PUBLIC SECTOR ACCOUNTING

STANDARDS (IPSAS)
Introduction
IPSASs set out the objectives and operating procedures of the International Public Sector Accounting
Standards Board (IPSASB) and explains the scope and authority of the IPSASs.

The mission of the International federation of Accountants (IFAC), as set out in its constitution, is “to
serve the public interest, strengthen the accountancy profession worldwide and contribute to the
development of strong international economies by establishing and promoting adherence to high
quality professional standards, furthering the international convergence of such standards, and
speaking out on public interest issues where the profession’s expertise is most relevant.” In pursuing
this mission, IFAC established the IPSASB.

The IPSASB (formerly Public Sector Committee (PSC) is a Board of IFAC formed to develop and
issue under its own authority. International Public Sector Accounting Standards (IPSASs). IPSASs’
are high quality global financial reporting standards for application by public sector entities other than
Government Business Enterprises (GBEs).

The IPSASB’s Consultative Group is appointed by the IPSASB. The Consultative Group is a non-
voting group. It provides a means by which the IPSASB can consult with and seek advice as
necessary from a broad constituent group. The Consultative Group is chaired by the Chair of the
IPSASB. The Consultative Group by public sector entities other than Government Business
Enterprises (GBEs).

The IPSASBs’ Consultative Group is appointed by the IPSASB. The Consultative Group is a non-
voting group. It provides a means by which the IPSASB can consult with and seek advice as
necessary from a broad constituent group. The IPSASB can consult with and seek advice as necessary
from a broad constituent group. The Consultative Group is chaired by the Chair of the IPSASB. The
Consultative Group is primarily an electronic forum.

Objective of the IPSASB

The objectives of the IPSASB are to serve the public interest by developing high quality public sector
financial reporting standards and by facilitating the convergence of international and national

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standards, thereby enhancing the quality and uniformity of financial reporting throughout the world.
The IPSASB achieves its objectives by:
1. Issuing International Public Sector Accounting Standards (IPSASBs);
2. Promoting their acceptance and the international convergence to these standards; and
3. Publishing other documents which provide guidance on issues and experiences in financial
reporting in the public sector.

Scope and Authority of IPSASs

1. The IPSASB develops IPSASs which apply to the accrual basis of accounting and IPSASs which
apply to the cash basis of accounting
2. IPSASs set out recognition, measurement, presentation and disclosure requirements dealing with
transactions and events in general purpose financial statements.
3. The IPSASs are designed to apply to the general purpose financial statements for all public sector
entities. Public sector entities include national governments, regional governments (for example,
state, provincial, territorial), local governments (for example, city, town) and their component
entities (for example, departments, agencies, boards, commissions), unless otherwise stated.
4. IPSASs are not meant to apply immaterial items.
5. The IPSASB has adopted the policy that all paragraphs in IPSASs shall have equal authority, and
that the authority of a particular provision shall be determined by the language used.

General purpose Financial Standards

Financial statements issued for users that are unable to demand financial information to meet their
specific information needs are general purpose financial statements. Examples of such users are
citizens, voters, their representatives and other members of the public. The term “financial statements’
used in this preface and the standards covers al statements and explanatory material which is
identified part of the general purpose financial statements.
When the accrual basis of accounting underlies the preparation of the financial statements, the
financial statements will include the statement of financial position, the statement of financial
performance, the cash flow statement and the statement of changes in net assets/equity. When the cash
basis of accounting underlies the preparation of the financial statements, the primary financial
statement is the statement of cash receipts and payments.
In addition to preparing general purpose financial statements, an entity may prepare financial
statements for other parties (such as governing bodies, the legislature and other parties who perform
an oversight function) who can demand financial statements tailored to meet their specific information
needs. Such statements are referred to as special purpose financial statements. The IPSASB
encourages the use of IPSASs in the preparation of special purpose financial statements where
appropriate.

IPSASs for the Accrual and Cash bases

The IPSASB develops accrual IPSASs that:
Are converged with IFRSs issued by IASB by adapting them to a public sector context when
appropriate, in undertaking that process, the IPSASB attempts, wherever possible, to maintain the
accounting treatment and original text of the IFRSs unless there is a significant public sector issue
which warrants a departure; and Deals with public sector financial reporting by IASB attempts,
wherever possible, to maintain the appropriate. In undertaking that process, the IPSASB attempts,
wherever possible, to maintain the accounting treatment and original text of the IFRSs unless there is
a significant public sector issue which warrants a departure; and Deals with public sector financial
reporting issues that are either not comprehensively dealt with in existing IFRSs or for which IFRSs
are based on IFRSs, the IASB’s “Framework for the reparation and presentation of Financial

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Statements” is a relevant reference for users of IPSASs. The IPSASB has also issued comprehensive
cash Basis IPSAS that includes mandatory and encouraged disclosures sections.

Due process for the development of IPSASs

The IPSASB adopts a due process for the development of IPSASs that provides the opportunity for
comment by interested parties including IFAC members’ bodies, auditors, prepares (including finance
ministries), standard setters, and individuals. The IPSASB also consults with its Consultative Group
on major projects, technical issues, and work program priorities.
The ISPASB’s due process for projects normally, but not necessarily, includes the following steps:
a. Study of national accounting requirements and practice and an exchange of views about the issues
with national standard-setters;
b. Consideration of pronouncements issued by:
 The International Accounting Standards Board (IASB).
 National standard-setters, regulatory authorities and other authoritative bodies;
 Professional accounting bodies; and
 Other organizations interested in financial reporting in the public sector;
c. Formation of steering committee (SCs), project advisory panels (PAPs) or subcommittees to
provide input to the IPSAASB on a project;
d. Publication of an exposure draft for public comment usually for at least 4 months. This provides
an opportunity for those affected by the IPSASB’s pronouncements to present their views before
the pronouncements are finalized and approved by the IPSASB. The Exposure Draft will include
a basis for Conclusion;
e. Consideration of all comments received within the comment period on discussion documents and
Exposure Drafts, and stop make modifications to proposed standards as considered appropriate in
the light of the IPSASB’s objectives; and
f. Publication of an IPSAS which includes a basis for Conclusions that explains the steps in the
IPSASB’s due process and how the IPSASB reached its conclusions.

Benefits of adopting IPSASs

a) Improve accountability, transparency and disclosure of government activities and resources to the
public.
b) Will enable the government and the public at large to assess, performance of public sector
entities, i.e. will facilitate measurement of efficiency and effectiveness of utilization of resources
and generation of surpluses for the future use.
c) Will improve reliability of accounts and boost the confidence of external agencies such as donors
on dependability of accounts for example in credit worthiness analysis.
d) Will enhance comparability among entities and governments.
e) With reduced misuse of public funds, increased emphasis on performance management and
transparency, resources will be put to their intended use. Ultimately, this will yield improved
standards of living and sustainable economic developments.
f) Improvement in consistency in preparation and reporting of financial information. This will in
turn enable users to draw consistent conclusions given similar sets of financial statements.
g) Will improve the audit of public institutions.

Challenges in promoting the use of IPSASs

a) Sovereignty of different countries. Each government operates independently as compared to the
private sector and therefore promoting a culture of uniformity in reporting may not be acceptable
to all.
b) Different countries have different reporting requirements and procedures for the government
departments. Some government departments do not prepare financial statements for the public.

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c) Countries have different laws that apply in different government departments.
d) Challenges in resources systems and personnel to implement IPSASs.
e) Language barrier.
f) Lack of political goodwill.
g) Staff resistance

IPSAS 1: Presentation of Financial Statements

The standard provides that an entity shall prepare a complete set of general purpose financial
statements (as defined above) within six months of the reporting date. Entities are also required t6o
disclose comparative information in respect of the previous period for all amounts reported tin the
financial statements.

In addition, an entity is required to disclose by way of notes information about the key assumptions
concerning the future and other key sources of estimation uncertainty at the reporting date.

The terms ``income statement”, ``balance sheet” and ``equity” as used in IAS 1 - Presentation of
Financial Statements are replaced with ``statement of financial performance”’ ``statement of financial
position” and `` net assets/equity” respectively in IPSAS 1.

The objective of this standard is to prescribe the manner in which general purpose financial statements
should be presented to ensure comparability both with the entity’s financial statements of previous
periods and with the financial statements of other entities.
This Standard shall be applied to all general purpose financial statements should be presented to
ensure comparability both with the entity’s financial statements of previous periods and with the
financial statements of other entities.
This standard shall be applied to all general purpose financial statements prepared and presented
under the accrual basis of accounting in accordance with IPSASs.
General purpose financial statements are those intended to meet the needs of users who are not in a
position to demand reports tailored to meet their particular information needs. Users of general
purpose financial statements include taxpayers and ratepayers, members of the legislature, creditors,
suppliers, the media, and employees. General purpose financial statements include those that are
presented separately or within another public document such as an annual report.
This standard applies to all public sector entities other than Government Business Enterprises (GBEs).

Definitions
Accrual basis means a basis of accounting under which transactions and other events are recognized
when they occur (and not only when cash or its equivalent in received or paid). Therefore, the
transactions and events are recorded in the accounting records and recognized under accrual
accounting are assets, liabilities, net assets/equity, revenue and expenses.
Economic entity/group means a group of entities comprising a controlling entity and one or more
controlled entities.
Government Business Enterprise (GBEs) means an entity that has all the following characteristics:

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 a) Is an entity with the power to contract in its own name;
b) Has been assigned the financial and operational authority to carry on a business;
c) Sells goods and services, in the normal course of its business, to other entities at a profit or
full cost recovery;
d) Is not reliant on continuing government funding o be a going concern (other than purchases of
outputs at arm’s length), and
e) Is controlled by a public sector entity.
GBEs include trading enterprises, such as utilizes, and financial enterprises, such as financial
institutions. GBEs are, in substance, no different from entities conducting similar activities in the
private sector. GBEs generally operate to make a profit, although some may have limited community
service obligations under which they are required to provide some individuals and organizations in the
community with goods and services are either no charge or a significantly reduced charge.

Purpose of Financial Statements

The objectives of general purpose financial statements are to provide information about the financial
position, financial performance and cash flows of an entity that is useful to a wide range of users in
making and evaluating decisions about the allocation of resources. Specifically, the objectives of
general purpose financial reporting in the public sector should be to provide information useful for
decision-making, and to demonstrate the accountability of the entity for the resources entrusted to it
by:
a) Providing information about that sources, allocation and uses of financial resources;
b) Providing information about how the entity financed its activities and met its cash requirements;
c) Providing information that is useful in evaluating the entity’s ability to finance its activities and to
meet its liabilities and commitments;
d) Providing information about the financial condition of the entity and changes in it; and
e) Providing aggregate information useful in evaluating the entity’s performance in terms of service
costs, efficiency and accomplishments.
General purpose financial statements can also have a predictive or prospective role, providing
information useful in predicting the level of resources required for continued operations, the resources
that may be generated by continued operations, and the associated risks and uncertainties. Financial
reporting may also provide users with information:
a) Indicating whether resources were obtained and used in accordance with the legally adopted
budget; and
b) Indicating whether resources were obtained and used in accordance with legal and contractual
requirements, including financial limits established by appropriate legislative authorities.

To meet these objectives, the financial statements provide information about an entity’s.
(a) Assets
(b) Liabilities
(c) Net assets/equity
(d) Revenue
(e) Expenses
(f) Other changes in net assets/equity

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(g) Cash flows.

Components of Financial Statements

A complete set of financial statements comprises:
a) A statement of financial position;
b) A statement of financial performance;
c) A statement of changes in net assets/equity;
d) A cash flow statements;
e) When the entity makes publicly available its approved budget, a comparison of budget and
actual amounts either as a separate additional financial statement or as a budget column in the
financial statements; and
f) Notes, comprising a summary of significant accounting policies and other explanatory notes.

As a minimum, the face of the statement of financial position shall include line items that
present the following amounts:
(a) Property, plant and equipment
(b) Investment property
c. Investments accounted for using the equity method
(f) Inventories;
(g) Recoverable from non-exchange transactions 9taxes and transfers);
(h) Receivables from exchange transactions
(i) Cash and cash equivalents;
(j) Taxes and transfers payable
(k) Payables under exchange transactions;
(l)Provisions,
(m) Financial liabilities (excluding amounts shown under (j), (k) and (l); (n) Minority interest,
presented within net assets/equity; and (o) Net assets/equity attributable to owners of the controlling
entity.

In some cases, there may be a minority interest in the net assets/equity of the entity. For example, at
whole-of-government level, the economic entity may include a GBE that has been partly privatized.
Accordingly, there may be private shareholders who have a financial interest in the net assets/equity
of the entity.

As a minimum, the face of the statement of financial performance shall include line items that
present the following amounts for the period:
(a) Revenue; (b) Finance costs; (c) Share of the surplus or deficit of associates and joint ventures
accounted for using the equity method; (d) Pre-tax gain or loss recognized on the disposal of assets or
settlement of liabilities attributable to discontinuing operations; and e. surplus or deficit.

The following items shall be disclosed on the face of the statement of financial performance as
allocations of surplus or deficit for the period:
(a) Surplus or deficit attributable to minority interest; and

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 (b) Surplus or deficit attributable to owners of the controlling entity.

When items of revenue and expense are material, their nature and amount shall be disclosed
separately.
a) Write-downs of inventories to net realizable value or of property, plant and equipment to
recoverable amount or recoverable service amount as appropriate, as well as reversals of such
write-downs;
b) Restructurings of the activities of an entity and reveals of any provisions for the costs of
restructuring;
c) Disposals of items of property, plant and equipment;
d) Privatizations or other disposals of investments;
e) Discontinuing operations;
f) Litigation settlements; and
g) Other reversals of provisions.

IPSAS 2: Cash Flow Statements

The standard recognizes a cash flow statement as an integral part of the financial statements. The
standard requires entities to classify cash flows into operating, investing and financing activities using
either the direct or indirect method for presenting operating cash flows. With regard to cash flows
raising from transactions in a foreign currency, the standard requires such cash flows to be translated
into the entity’s functional (local) currency using the exchange rate existing at the date of the cash
flow. The standard further provides that an entity shall disclose by way of a note the amount of
significant cash balances held by the entity that are not available for use by the economic entity.

Unlike IAS 7 – Cash flow statements, IPSAS 2 encourages entities to disclose a reconciliation of
surplus of deficit to operating cash flows in the notes to the financial statements where the direct
method is used to present cash flows from operating activities.

The cash flow statement identifies the sources of cash inflows, the items on which cash was expended
during the reporting period, and the cash balance as at the reporting date.
Information about the cash flows of an entity is useful in providing users of financial statements with
information for both accountability and decision making purposes.

Cash flow information allows users to ascertain how a public sector entity raised the cash it required
to fund its activities and the manner in which that cash was used. In making and evaluating decisions
about the allocation of resources, such as the sustainability of the entity’s activities, users require an
understanding of the timing and certainty of cash flows. The objective of this standard is to require the
provision of information about the historical charges in cash and cash equivalents of an entity by
means of a cash flow statement which classifies cash flows during the period from operating,
investing and financing activities.
An entity which prepares and presents financial statements under the accrual basis of accounting
should prepare a cash flow statement in accordance with the requirements of this standard and should

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present it as an integral part of its financial statements for each period for which financial statements
are presented.
This standard applies to all public sector entities other than Government Business Enterprises (GBEs).

Benefits of cash flow information

a) Information about the cash flows of an entity is useful in assisting users to predict the future cash
requirements of the entity, its ability to generate cash flows in the future and to fund changes in
the scope and nature of its activities. A cash flow statement also provides a means by which an
entity can discharge its accountability for cash inflows and cash outflows during the reporting
period.
b) A cash flow statement, when used in conjunction with other financial statements, provides
information that enables users to evaluate the changes in net assets/equity of an entity, its
financial structure (including its liquidity and solvency) and its ability to affect the amounts and
timing of cash flows in order to adapt to changing circumstances and opportunities.
c) It also enhances the comparability of the reporting of operating performance by different entities
because it eliminates the effects of using different accounting treatments for the same transactions
and other events.
d) Historical cash flow information is often used as an indicator of the amount, timing and certainty
of future cash flows. It is also useful in checking the accuracy of past assessments of future cash
flows.

Definitions
Cash comprises cash on hand and demand deposits including bank overdrafts which are repayable on
demand.
Cash equivalents are short-term, highly liquid investments that are readily convertible to know
amounts of cash and which are subject to an insignificant risk of changes in value.
Cash flows are inflows and outflows of cash and cash equivalents.
Investing activities are the acquisition and disposal of long-term assets and other investments not
included in cash equivalents.
Operating activities are the activities of the entity that are not investing or financing activities.
Financing activities are activities that result in changes in the size and composition of the contributed
capital and borrowings of the entity.
Presentation of a cash Flow Statement
The cash flow statement should report cash flows during the period classified by operating, investing
and financing activities.

Operating Activities
Cash flows from operating activities are primarily derived from the principal cash-generating
activities of the entity. Examples of cash flows from operating activities are:
a) Cash receipts from taxes, levies and fines;
b) Cashreceipts from charges for goods and services provided by the entity;
c) Cash receipts from grants or transfers and other appropriations or other budget authority made by
central government or other public sector entities;

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d) Cash receipts from royalties, fees, commissions and other revenue;
e) Cash payments from other public sector entities to finance their operations (not including loans);
f) Cash payments to suppliers for goods and services;
g) Cash payments to and on behalf of employees;
h) Cash receipts and cash payments of an insurance entity for premiums and claims, annuities and
other policy benefits;
i) Cash payments of local property taxes or income taxes (where appropriate) in relation to
operating activities;
j) Cash receipts and payments from contracts held for dealing or trading purposes;
k) Cash receipts or payments from discontinuing operations; and
l) Cash receipts or payments in relation to litigation settlements.

Investing Activities
The separate disclosure of cash flows arising from investing activities is important because the cash
flows represent the extent to which cash outflows have been made for resources which are intended to
contribute to the entity’s future service delivery. Examples of cash flows arising from investing
activities are:
a) Cash payments to acquire property, plant and equipment, intangibles and other long-term assets.
These payments include those relating to capitalized development costs and self-constructed
property, plant and equipment;
b) Cash receipts from sales of property, plant and equipment, intangibles and other long-term assets;
c) Cash payments to acquire equity or debt instruments of other entities and interests in joint
ventures (other than payments for those instruments considered to be cash equivalents or those
held for dealing or trading purposes);
d) Cash receipts from sales of equity or debt instruments of other entities and interests in joint
ventures (other than receipts for those instruments considered to be cash equivalents and those
held for dealing or trading purposes);
e) Cash advances and loans made to other parties (other than advances and loans made by a public
financial institutions);
f) Cash receipts from the repayment of advances and loans made to other parties other than
advances and loans of a public financial institution);
g) Cash payments for futures contracts, forward contracts, option contracts and swap contracts
except when the contracts are held for dealing or trading purposes, or the payments are classified
as financing activities; and
h) Cash receipts from futures contracts, forward contracts, option contracts and swap contracts
except when the contracts are held for dealing or trading purposes or the receipts are classified as
financing activities.

Financing Activities
The separate disclosure of cash flows arising from financing activities is important because it is useful
in predicting claims on future cash flows by providers of capital to the entity. Examples of cash flows
arising from financing activities are:

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a) Cash proceeds from issuing debentures, loans, notes, bonds, mortgages and other short or long-
term borrowings;
b) Cash repayments of amounts borrowed; and
c) Cash payments by lessee for the reduction of the outstanding liability relating to a finance lease.

Reporting Cash Flows from Operating Activities

An entity should report cash flows from operation activities using either;
1) The direct method, whereby major classes of gross cash receipts and gross cash payments are
disclosed; or
2) The indirect method, whereby net surplus or deficit is adjusted for the effects of transactions of a
noncash nature, any deferrals or accruals of past or future operating cash receipts or payments,
and items of revenue or expense associated with investing or financing cash flows.

IPSAS 3: Accounting Policies, Changes in Accounting Estimates and Errors

This IPSAS requires entities to select and apply its accounting policy, the standard requires the
change to be applied retrospectively in the financial statements, adjusting the opening balance of each
affected component of net assets/equity for the earliest prior period presented.
Where a change in accounting estimate gives rise to changes in the value of assets and liabilities, or
relates to an item of net asset/equity, it shall be recognized by adjusting the carrying amount of the
related assets, liabilities 0 net asset/equity.

Further, the standard stipulates that an entity shall correct material prior period errors retrospectively
in the first set of financial statements authorized for issue after their discovery by restating the
comparative amounts for prior period(s) in which the error occurred.
IPSAS 4: The Effects of Changes in Foreign Exchange Rates.
The main provisions of the standard are that, at each reporting date:
 Foreign currency monetary items (such as current assets, current liabilities and long term loans)
shall be translated using the closing rate, which is the spot exchange rate on the reporting date.
 Non-monetary items (such as property, plant and equipment) that are measured in terms of
historical cost in a foreign currency shall be translated using the exchange rate at the date of
transaction. Where such assets are measured at fair value, they should be translated using the
exchange rate at the date of transaction. Where such assets are measured at fair value, they
should be translated suing the exchanged rate at the date when the fair value was determined.
 Exchange differences arising on translation of monetary items shall be recognized in the surplus
or deficit for the period, while those exchange differences relating to non-monetary assets may be
recognized either in the surplus/deficit or in the net asset/equity.
Unlike IAS 21 – The effects of changes in foreign exchange rates, IPSAS 4 contains an additional
transitional provision allowing an entity, when first adopting IPSASs, to deem cumulative translation
differences existing at the date of fist adoption of accrual IPSASs as zero.

IPSAS 5: Borrowing costs

The standard defines borrowing costs as ``interest and other expenses incurred by an entity in
connection with the borrowing of funds”, The standard recognizes two alternative accounting
treatments of borrowing costs, as follows:

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 i. Alternative one: Borrowing costs shall be recognized as an expense in the period in which
they are incurred.
ii. Alternative Two: Borrowing costs shall be recognized as an expense in the period in which
they are incurred,, except to the extent that they are capitalized. Borrowing costs that are
directly attributable to the acquisition, construction or production of anon-current asset shall
be capitalized as part of the cost of the asset.

IPSAS 6: Consolidated and Separate Financial Statements

The standard defines control as ``the power to govern the financial operating polices of another entity
so as to benefit from its activities”. Where control exists, the standard requires a controlling entity to
prepare consolidated accounts in line with the provisions of the standard, unless control is temporary.
The standard provides the following guidelines for the consolidated process:
i. The financial statements of the controlling entity and its controlled entities are combined on a
line by line basis by adding together like items of assets, liabilities, revenues and expenses.
Balances, transactions, revenues and expenses between entities within the economic entity
shall be eliminated in full.
ii. The carrying amount of the controlling entity’s investments in each controlled entity and the
controlling entity’s share of the net assets/equity of each controlled entity are eliminated.
iii. Minority interests in the surplus/deficit and net assets/ equity of the controlled entities are
calculated and separately shown on the face of the financial statements.

IPSAS 7: Investments in Associates

An associate is defined by the standard as ``an entity, including an unincorporated entity such as a
partnership, over which the investor has significant influence and that is neither a controlled entity nor
an interest in a joint venture”. Significant influence is further defines as ``the power to participate in
the financial operating policy decisions of the investee but is not control or joint control over those
policies.
The standard requires associates to be accounted for using the equity method. Under this method:
i. The investment in the associate is initially recognized at cost and the carrying amount is
increased or decreased to recognize the investor’s share of surplus or deficit of the investee after
the date of acquisition.
ii. Distribution received from the investee reduce the carrying amount of the investment.

IPSAS7 applies to all investments in associates where the investor holds an ownership interest in the
form of shareholding or other formal equity structures. In contrast, IAS 28 – Investments in
Associates does not contain similar ownership interest requirements.

IPSAS 8: Interests in Joint Ventures

The standard defines a joint venture as `` a binding arrangement whereby two or more parties are
committed to undertake an activity that is subject to joint control”.
The standard identifies the following forms of joint ventures:
i. Jointly controlled operations: This involves the use of the assets and other resources of the
venturers rather than the establishment of a corporation, partnership or other entity. Each
venture uses its own expenses and liabilities.

In respect of such operations, a venture shall recognize in its financial statements;

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  The assets that it controls and the liabilities that it incurs; and
 The expenses that it incurs and its share of the revenue that is earned from the sale of
provision of goods 0 services by the joint venture.

ii. Jointly controlled assets: This involves the joint control, and often the joint ownership by,
the venturers of one or more assets contributed to, or acquired for the purpose of the joint
venture and dedicated to the purpose of the joint venture.

The standard requires that, in respect of its interest in jointly controlled assets, a venture shall
recognize in its financial statements:
 Its share of the jointly controlled assets;
 Any liabilities that it has incurred;
 Its share of any liabilities incurred jointly with the other venturers;
 Any revenue from the sale or use of its share of the output of the joint venture,
together with its share of any expenses incurred by the joint venture;
 Any expenses that it has incurred in respect of its interest in the joint venture.
iii. Jointly controlled entities: This involves the establishment of a corporation, partnership or
other entity in which each venture has an interest.

The standard provides two alternatives for accounting for jointly controlled entities; the
proportionate consolidation method and the equity method. Under the proportionate
consolidation method;
 The statement of financial position of the venture includes its share of the assets that it
controls jointly and its share of the liabilities for which it is jointly responsible; and
 The statement of financial performance of the venture includes its share of the revenue
and expenses of the jointly controlled entity.

The equity method is as described in IPSAS7: Investments in Associates.

IPSAS 9: Revenue from Exchange Transactions

The objective of this standard is to prescribe the accounting treatment of revenue rising from
exchange transactions and events. Exchange transactions are those transactions in which one entity
receives assets or services and directly gives approximately equal value to another party (primarily in
form of cash, goods or services).

The basic provision of the standard is that revenue should be measured at the fair value of the
consideration received. With regard to revenue arising from interest, royalties and dividends, the
standard provides that:-
 Interest should be recognized on a time proportion basis that takes into account the effective yield
on the asset.
 Royalties should be recognized as they are earned in accordance with the substance of the
relevant agreement.
 Dividends or their equivalents should be recognized when the shareholders’ or the entity’s right to
receive payment is established.

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Objective
The objective of this Standard is to prescribe the accounting treatment of revenue arising from
exchange transactions and events.
The primary issue in accounting for revenue is determining when to recognize revenue. Revenue is
recognized when it is probable that future economic benefits or service potential will flow to the
entity and these benefits can be measured reliably.

Scope
An entity which prepares and presents financial statements under the accrual basis of accounting
should apply this Standard in accounting for revenue arising from the following exchange transactions
and events:
a) The rendering of services;
b) The sale of goods; and
c) The use by others of entity assets yielding interest, royalties and dividends.

This Standard applies to all public sector entities other than Government Business Enterprises.
Government Business Enterprises (GBEs) are required to comply with International Accounting
Standards (lASs) issued by the International Accounting Standards Committee.

Public sector entities may derive revenues from exchange or non-exchange transactions. An exchange
transaction is one in which the entity receives assets or services, or has liabilities extinguished, and
directly gives approximately equal value (primarily in the form of goods, services or use of assets) to
the other party in exchange. Examples of exchange transactions include:
 The purchase or sale of goods or services; or
 The lease of property, plant and equipment; at market rates.
In distinguishing between exchange and non-exchange revenues, substance rather than the form of the
transaction should be considered. Examples of non-exchange transactions include revenue from the
use of sovereign powers (for example, direct and indirect taxes, duties, and fines), grants and
donations.

The rendering of services typically involves the performance by the entity of an agreed task over an
agreed period of time. The services may be rendered within a single period or over more than one
period. Examples of services rendered by public sector entities for which revenue is typically received
in exchange may include the provision of housing, management of water facilities, management of
toll roads, and management of transfer payments.

Goods include goods produced by the entity for the purpose of sale, such as publications, and goods
purchased for resale, such as merchandise or land and other property held for resale.

Revenue

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Revenue is the gross inflow of economic benefits or service potential during the reporting period
when those inflows result in an increase in net assets/equity, other than increases relating to
contributions from owners.

Measurement of Revenue
Revenue should be measured at the fair value of the consideration received or receivable. The amount
of revenue arising on a transaction is usually determined by agreement between the entity and the
purchaser or user of the asset or service. It is measured at the fair value of the consideration received
or receivable taking into account the amount of any trade discounts.

Identification of the Transaction

The recognition criteria in this Standard are usually applied separately to each transaction.

Rendering of Services
When the outcome of a transaction involving the rendering of services can be estimated reliably,
revenue associated with the transaction should be recognized by reference to the stage of completion
of the transaction at the reporting date. The outcome of a transaction can be estimated reliably when
all the following conditions are satisfied:
a) The amount of revenue can be measured reliably;
b) It is probable that the economic benefits or service potential associated with the transaction will
flow to the entity;
c) The stage of completion of the transaction at the reporting date can be measured reliably; and
d) The costs incurred for the transaction and the costs to complete the transaction can be measured
reliably.

The recognition of revenue by reference to the stage of completion of a transaction is often referred to
as the percentage of completion method. Under this method, revenue is recognized in the reporting
periods in which the services are rendered. For example, an entity providing property valuation
services would recognize revenue as the individual valuations are completed. The recognition of
revenue on this basis provides useful information on the extent of service activity and performance
during a period.

Revenue is recognized only when it is probable that the economic benefits or service potential
associated with the transaction will flow to the entity. However, when an uncertainty arises about the
collectability of an amount already included in revenue, the uncollectable amount, or the amount in
respect of which recovery has ceased to be probable, is recognized as an expense, rather than as an
adjustment of the amount of revenue originally recognized.

The stage of completion of a transaction may be determined by a variety of methods. An entity uses
the method that measures reliably the services performed. Depending on the nature of the transaction,
the methods may include:
a) Surveys of work performed;
b) Services performed to date as a percentage of total services to be performed; or

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c) The proportion that costs incurred to date bear to the estimated total costs of the transaction. Only
costs that reflect services performed to date are included in costs incurred to date. Only costs that
reflect services performed or to be performed are included in the estimated total costs of the
transaction.
Progress payments and advances received from customers often do not reflect the services performed.

NOTE:
When the outcome of the transaction involving the rendering of services cannot be estimated reliably,
revenue should be recognized only to the extent of the expenses recognized are recoverable.

During the early stages of a transaction, it is often the case that the outcome of the transaction cannot
be estimated reliably. Nevertheless, it may be probable that the entity will recover the transaction
costs incurred. Therefore, revenue is recognized only to the extent of costs incurred that are expected
to be recoverable. As the outcome of the transaction cannot be estimated reliably, no surplus is
recognized.

When the outcome of a transaction cannot be estimated reliably and it is not probable that the costs
incurred will be recovered, revenue is not recognized and the costs incurred are recognized as an
expense.

Sale of Goods
Revenue from the sale of goods should be recognized when all the following conditions have been
satisfied:
a) The entity has transferred to the purchaser the significant risks and rewards of ownership of the
goods;
b) The entity retains neither continuing managerial involvement to the degree usually associated with
ownership nor effective control over the goods sold;
c) The amount of revenue can be measured reliably;
d) It is probable that the economic benefits or service potential associated with the transaction will
flow to the entity: and
e) The costs incurred or to be incurred in respect of the transaction can be measured reliably

The assessment of when an entity has transferred the significant risks and rewards of ownership tothe
purchaser requires an examination of the circumstances of the transaction. In most cases, the transfer
of the risks and rewards of ownership coincides with the transfer of the legal title or the passing of
possession to the purchaser. This is the case for most sales. However, in certain other cases, the
transfer of risks and rewards of ownership occurs at a different time from the transfer of legal title or
the passing of possession.
If the entity retains significant risks of ownership, the transaction is not a sale and revenue is not
recognized. An entity may retain a significant risk of ownership in a number of ways. Examples of
situations in which the entity may retain the significant risks and rewards of ownership are:
a) When the entity retains an obligation for unsatisfactory performance not covered by normal
warranty provisions;

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b) When the receipt of the revenue from a particular sale is contingent on the derivation of revenue by
the purchaser from its sale of the goods (for example, where, a government publishing operation
distributes educational material to schools on a sale or return basis);
c) When the goods are shipped subject to installation and the installation is a significant part of the
contract which has not yet been completed by the entity; and
d) When the purchaser has the right to rescind the purchase for a reason specified in the sales conduct
and me entity is uncertain about the probability of return.
If an entity retains only an insignificant risk of ownership, the transaction is a sale and revenue is
recognized. For example, a seller may retain the legal title to the goods solely to protect the
collectability of the amount due. In such a case, if the entity has transferred the significant risks and
rewards of ownership, the transaction is a sale and revenue is recognized. Another example of an
entity retaining only an insignificant risk of ownership may be a sale when a refund is offered if the
purchaser is not satisfied. Revenue in such cases is recognized at the time of sale provided the seller
can reliably estimate future returns and recognizes a liability for returns based on previous experience
and other relevant factors.

Interest, Royalties and Dividends

Revenue arising from the use by others of entity assets yielding interest, royalties and dividends
should be recognized when:
a) It is probable that the economic benefits or service potential associated with the transaction will
flow to the entity; and
b) The amount of the revenue can be measured reliably.

Revenue should be recognized using the following accounting treatments:

a) Interest should be recognized on a time proportion basis that takes into account tire effective yield
on the asset;
b) Royalties should be recognized as they are earned in accordance with the substance of the relevant
agreement; and
c) Dividends or their equivalents should be recognized when the shareholder's or the entity's right to
receive payment is established.

The effective yield on an asset is the rate of interest required to discount the stream of future cash
receipts expected over the life of the asset to equate to the initial carrying amount of the asset. Interest
revenue includes the amount of amortization of any discount, premium or other difference between
the initial carrying amount of a debt security and its amount at maturity.

Royalties, such as petroleum royalties, accrue in accordance with the terms of the relevant agreement
and are usually recognized on that basis unless, having regard to the substance of the agreement, it is
more appropriate to recognize revenue on some other systematic and rational basis.

Disclosure
An entity should disclose:

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a) The accounting policies adopted for the recognition of revenue including the methods adopted to
determine the stage of completion of transactions involving the rendering of services;
b) The amount of each significant category of revenue recognized during the period including revenue
arising from:
The rendering of services:
 The sale of goods:
 Interest;
 Royalties; and
 Dividends or their equivalents; and

(c)The amount of revenue arising from exchanges of goods or services included in each significant
category of revenue.

IPSAS 10: Financial Reporting in Hyperinflationary Economies

According to the standard, items in the statement of financial position, except monetary items, should
be restated at the reporting date by applying a general price index. Monetary items are money held
and assets and liabilities to be received 0 paid in determinable amounts of money.

Further, all items in the statement of financial performance are required to be expressed in terms of
the measuring unit current at the reporting date. This is by applying a general price index from the
dates when the items of revenue and expenses were initially recoded. The surplus or deficit on the net
monetary position is included in the statement of financial performance.

IPSAS 11: Construction Contracts

The objective of this standard is to prescribe the accounting treatment of costs and revenue associated
with construction contracts.
The standard requires that when the outcome of a construction contract can be estimated reliably,
contract revenue and contract costs should be recognized as revenue and expenses respectively by
reference to the stage of completion at the reporting date. An expected loss on the contract should be
recognized in full immediately.

When the outcome of a construction contract cannot be estimated reliably, revenue should be
recognized only to the extent of contract costs incurred that it is probable will be recoverable.
Contract costs should be recognized as an expense in the period in which they are incurred.

Unlike IAS 11 – Construction Contracts, IPSAS 11 includes cost based and non-commercial
contracts within the scope of the Standard. In addition, IPSAS 11 makes it clear that the requirement
to recognize an expected deficit on a contract immediately it becomes probable applies only to
contracts in which it is intended, an inception, that contract costs are to be fully recovered from the
parties to the contract.

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IPSAs 12: Inventories
The standard prescribes the accounting treatment for inventories, which are defined as assets held
either; in the form of materials for production, in the process of production or as finished goods meant
for sale.

The standard provides that inventories shall be measured at the lower of cost and net realizable value.
Where inventories are acquired through a non-exchange transaction, their cost shall be measured at
their fair value as at the date of acquisition. Where held for distribution at no charge, inventories shall
be measured at the lower of cost and current replacement cost (that is the cost the entity would incur
to acquire the asset on the reporting date).

IPSAS 12 goes beyond the provisions of IAS2 – Inventories y stating that, for inventories acquired
though a non-exchange transaction for their cost is their fair value as at the date of acquisition.

IPSAS 13: Leases

The objective of this standard, a lease is classified as a finance lease if it transfers substantially all the
risks and rewards incidental to ownership, otherwise it is classified as a finance lease.

Accounting for Finance Leases:

1. Book of the lessee
At commencement of the lease; the lessee shall recognize the lease asset and the associated lease
liability in the statement of financial position.
 The asset and liability shall be recognized at amounts equal to the fair value of the leased
property, or, if lower, the present value of the minimum lease payments.
 The discount rate should be the interest rate implicit in the lease, if not determinable, the
incremental borrowing rate.
2. Books of the lessor
Lessors are required to recognize lease payments receivable under a finance lease as assets in
their statements financial position. They shall present such assets as a receivable at an amount
equal to the net investment in the lease.

Accounting for Operating Leases:

1. Books of lessee
Lease payments under an operating lease are required to be recognized as an expense on a straight
line basis over the lease term. The leased asset will not be recognized in the lessee’s books.
2. Books of the lessor
Lessors are required to reflect the leased assets in their statement of financial position. Lease
revenue from operating leases shall be recognized as revenue on a straight line basis over the
lease term.

The standard has also included provisions relating to sale and leaseback transactions in the books
of both lessors and lessees.

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IPSAS 14: Events after the reporting date
The standard prescribes when an entity should adjust its financial statements for events after the
reporting date together with the appropriate disclosures. An entity is required to adjust the amount
recognized in its financial statements to reflect adjusting events after the reporting date.

The following examples are cited in the standard as examples of adjusting events:
i. Settlement after the reporting date of a court case.
ii. The receipt of information after the reporting date indicating that an asset was impaired at
the reporting date.
iii. Determination after reporting date of the cost of assets purchased before the reporting date.
iv. Discovery of fraud or errors that show that the financial statements were incorrect.

IPSAS 15: Financial Instruments – Disclosure and Presentation

The objective of this standard is to enhance the understanding by users of financial statements of the
significance of financial instruments to a government’s or other public sector entity’s financial
position, performance and cash flows.

Financial instruments in this context include both primary instruments such as receivables, payables
and equity securities, and derivative instruments such as financial options, futures and forward
contracts.

In brief, the standard requires that:

 The issuer of a financial instrument should classify the instrument as a liability or a net
asset/equity in accordance with the substance of the contractual arrangement.
 Interest, dividends, losses and gains relating to a financial instrument classified as a financial
liability should be reported in the statement of financial performance as expense or revenue.
Distributions to holders of a financial instrument classified as an equity instrument should be
debited by the issuer directly to net assets/equity.
 Disclosure should be made on the entity’s exposure to interest rate risk, credit risk and other
forms of risk. In addition, disclosure is required on the fair value of the financial instruments as at
the reporting date.

IPSAS 16: Investment Property

The objective of this standard is to prescribe the accounting treatment for investment property and
related disclosure requirements. In the context of the standard, investment property is property (land
or buildings) held to earn rentals or for capital appreciation and does not include property held for use
in production, administration or for sale in the ordinary course of business.

The standard requires an investment property to be measured initially at cost. Where acquired
through a non-exchange transaction, its cost shall be measured at its fair values at the date of
acquisition.

After the initial recognition, an entity may choose to value the investment property using the fair
value model or the cost model. An entity using the fair value model shall ensure that the value of
investment property shall reflect market conditions at each reporting date.

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Unlike IAS 40 – Investment Property, IPSAS 16 also provides that, where an asset is acquired for no
cost or for a nominal cost, its cost is its value as at the date of acquisition.

IPSAS 17: Property, Plant and Equipment

This standard is drawn primarily from IAS 16 – Property, Plant and Equipment for the public sector
entities may include infrastructure assets.

Infrastructure assets usually display some or all of the following characteristics:

 They are part of a system or network
 They are specialized in nature and do not have alternative use.
 They are immovable
 They may be subject to constraints on disposal.
Property, plant and equipment are initially measured at cost or where acquired in a non-exchange
transaction, at fair value. Subsequently, an entity may choose either the cost model 0 the revaluation
model.

The main difference between the fair value model in IPSAS 16 and the revaluation model in IPSAS
17 is that in the former, fair value has to be determined annually while in the latter, this need not be
the case. However, under IPSAS 17, revaluations shall be made with sufficient regularity to ensure
that the carrying amount does not differ materially from that which would be determined using fair
value at the reporting date.

If an item of property, plant and equipment is revalued, the entire class of property, plant and
equipment to which the asset belongs shall be revalued. Revaluation gains are recoded in the
revaluation account. Revaluation losses are charged in the statement of financial performance except
where a revaluation reserve exists for that particular class of assets, in which case he loss is charged
in the revaluation account.
The main points of difference between IPSAS 17 and IAS 16 – Property, Plant and Equipment are
that:
 IPSAS 17 does not require or prohibit the recognition of heritage assets
 IPSAS 17 does not require the disclosure of historical costs for assets carried at revalued amounts.
 Under IPSAS 17, revaluation increases and decreases are offset on a class of asset basis. Under
IAS 16, revaluation increases and decreases may only be matched on an individual item basis.

IPSAS 18: Segment Reporting

The objective of the standard is to establish principles for reporting financial information by
segments. A segment is viewed as a distinguishable activity or group of activities of an entity for
which it is appropriate to separately report financial information for the purpose of evaluating the
entity’s past performance.

An entity should disclosure the following for each segment:

 Segment revenue and segment expense.
 Total carrying amount of segment liabilities for each segment.

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 Total cost incurred during the period to acquire segment assets that are expected to be used during
more than one period for each segment.

IPSAS 18 and IAS 14 – Segment differently from IAs 14. IPSAS 18 requires entities to report
segments on a basis appropriate for assessing past performance and making decisions on allocation of
resources. IAS 14 requires business and geographical segments to be reported.
IAS 14 requires disclosure of segment results. IPSAS 18 does not require disclosure of segment
results.
IPSAS 18 does not specify quantitative thresholds that must be applied in identifying reportable
segments.

IPSAS 19: Provision, Contingent Assets and Contingent Liabilities.

The standard gives the following definitions
 A provision is a liability of uncertain timing or amount
 A contingent asset/liability is a possible asset/obligation that arises from past events and
whose existence will be confirmed by uncertain future events not wholly within the control of
the entity.
The standard also provides that:
 A provision should only be recognized when an entity has a present obligation as a result of a
past event, it is probable that an outflow of resources will be required to settle the obligation
and the amount can be reliably estimated.
 An entity should not recognize a contingent asset/liability but should only disclose in the
notes a brief description of the nature of the contingent asset/liability together with an
estimate of its financial effect.
Contingent liabilities may develop in a way not initially expected. Therefore, they are assessed
continually to determine whether an outflow of resources has become probable, in which case a
provision is recognized in the financial statements.

IPSAS 20: Related Party Disclosures

The standard considers parties to be related in one party has the ability to control the other party or
exercise significant influence over the other party in making financial and operating decisions.
Related parties include individuals owning an interest, directly or indirectly, in the entity that gives
them significant influence over the entity, key management personnel(directors/board members and
other persons having the authority and responsibility for planning, directing and controlling the
activities of the entity) and close family member of such individuals and management personnel.

Disclosure should always be made of related party relationships where control exists. In addition,
where transactions are not at arm’s length, the nature of the relationship, the types and elements of the
transactions should be disclosed. As relates to key management personnel, disclosure is required on
aggregate remuneration, other compensation paid and loans advanced whose availability is not widely
known by members of the public.

Unlike IAs 24 – Related Party Disclosures, IPSAS 20 does not require of information about
transactions between related parties which occur on normal terms and conditions, except for limited
disclosures on remuneration of key management personnel.

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IPSAS 21: Impairment of Non-Cash Generating Assets
The objective of this standard is to prescribe the procedures that an entity applies to determine
whether a non-cash generating asset is impaired and to ensure that impairment losses are recognized.
Unlike IAS 36 – Impairment of Assets, IPSAS 21 does not apply to non-cash generation assets carried
at revalued amounts.

Impairment is the loss of the future economic benefits or service potential of an asset over and above
the loss due to depreciation.

(To illustrate impairment, consider a purpose built storage facility owned by a military unit that is no
longer needed although it is functional and not fully depreciated. Because of its specialized nature, it
cannot be leased out or disposed off. Since it is no longer capable of providing the entity with service
potential, it is considered to be impaired).

An entity shall assess at each reporting date whether there is any indication that an asset maybe
impaired.

An impaired loss arises if the recoverable amount of an asset is less than the carrying value of the
asset and is recognized immediately in surplus or deficit.

Impairment loss = Carrying value –recoverable value.

 Carrying value is the current net book value of the asset.
 Recoverable amount is the higher of the fair value of an asset (less costs to sell) and its value
in use (present value of the asset’s remaining service potential).

It is noteworthy that IPSAS 21 measures the value in use of a non-cash generating assets the present
value of the asset’s remaining service potential using a number of approaches. In contrast, IAs 36
measures this value for a cash generating asset as the present value of future cash flows from the
asset. IPSAS 21 also only deals with the impairment of individual assets and does not include cash
generating units.

IPSAS 22: Disclosure of Financial Information about the General Government Sector
The general government sector comprises all organizational entities of the general government
consisting of all resident central and local government units, social security funds at each level of
government, and non-market non-profit institutions controlled by government units.

Disclosures made in respect of the general government sector shall include:

 Assets by major class.
 Liability by major class.
 Net assets/equity.
 Total revaluation increments and decrements.
 Revenue and expenses (by major class), surplus and deficit.
 Cash flows from operating, investing and financing activities.

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IPSAS 23: Revenue from Non-Exchange Transactions (taxes and transfers)
In a non-exchange transaction, an entity received value from another entity without directly giving
approximately equal value in exchange, or gives value to another entity without directly receiving
approximately equal value in exchange.

Transfers in the context of the standard are inflows of future economic benefits or service potential
from non-exchange transactions, other than taxes. Transfers include grants, debt forgiveness, fines,
bequests, gifts, donations and goods and services in kind.

With regard to taxes, the standard stipulates that:

 An entity is required to recognize an asset in respect of taxes when the taxable event occurs and
the asset recognition criteria are met. Tax revenue arises for the government, and not for other
entities. For example, where the tax is collected by an agency, the revenue accrues to the
government and not the agency. Items such as fines and penalties are not considered as part of
taxes.
 Tax revenue shall be determined at a gross amount and it shall not be reduced for expenses paid
through the tax system. These are amounts payable by the government whether or not individuals
pay taxes.
 Taxation revenue shall not be grossed up for the amount of tax expenditures. For example, hoe
owners may be provided with mortgage interest relief, insurance payers may be provided with
insurance relief and so on. If a taxpayer does not pay tax, he does not access the concession.
These types of concessions/reliefs are called tax expenditures.

As relates to transfers, an entity is required to recognize an asset in respect of transfers when the
transferred resources meet the definition of an asset and satisfy the criteria for recognition as an asset.

With reference to fines and penalties, they are recognized as revenue by the government and not the
collecting agency, when the receivable meets the definition of an asset.

For payments received in kind (such as in the form of services), entities may, but are not required, to
recognize such payments as revenue and as assets.

IPSAS 24: Presentation of Budget Information in Financial Statements

This standard requires that financial statements of public sector entities that make their approved
budgets publicly available include a comparison of actual amounts with amounts in the original and
final budget, together with an explanation of material differences between budget and actual amounts.

The disclosure of comparative information in respects of the previous period is not required.

IPSAS 25: Employee Benefit

The standard prescribes the accounting and disclosure by public sector entities for employee benefits.

The four types of benefits identified in the standard are presented below, with a brief description of
the accounting treatment for each.

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1. Short term employment benefits. These include wages, salaries and social security contributions.
These are expensed in the period of service to which they elate.
2. Post-employment benefits (pensions). There are the defined contribution plans and defined benefit
plans.

An entity should recognize contribution t define contributions schemes as expenses when an

employee has rendered the services for which the contribution relate.

For defined benefit plans, entities are required to determine the present value of defined benefits
obligations and the fair value of plan assets. The fair value of assets is deducted from the carrying
value of the obligation. The projected unit credit method is required to be used to measure plan
obligations and costs.

3. Other long term benefits (such as sabbatical leave and long term service benefits). Actuarial gains
and losses and past service costs are recognized immediately.
4. Termination benefits. These shall be recognized only when the entity is demonstrably committed
to terminating the employment of an employee before normal retirement date, or as a result of an
offer made to encourage voluntary redundancy. The standard provides requirements for the
identification of assets that may be impaired and the accounting for the impairment. Cash
generating assets held with primary objective of generating a commercial return. The standard
also deals with cash generating units. A cash generating unit is the smallest identifiable group of
assets held with the primary objective of generating a commercial return.

IPSAS 26: impairment of cash Generating Assets

The standard requires the impairment loss be recognized immediately in the surplus o deficit. After
the recognition of the impairment loss, the depreciation (amortization) charge for the asset shall be
adjusted in future period to allocate the asset’s revised carrying amount less its residual value on a
systematic basis over its remaining useful life.
In this standard, the value in use of an asset is determined by reference to the expected cash flows
from the asset.
One major difference between IPSAS 26 and IAS 36 – Impairment of Assets is that IPSAS 26 does
not apply to cash generating units carried at a fair value. In addition, goodwill is outside the scope of
IPSAS 26.

SELF-REVIEW QUESTIONS
QUESTION 1
(a) In 1993, the Nairobi County Government constructed a public primary school at a cost of Sh.25
million. It was estimated that the school would be used for 40 years. By the end of 2013, the
school population had declined from 1,500 students to 400 students as a result of a population
shift caused by the bankruptcy of a major employer in the area. The management decided to close
the two top floors of the three storey school building. The management has no expectation that
enrolment will increase in future such that the upper storeys would be reopened. The current
replacement cost of the school is estimated at Sh.13 million.
Required:
Calculate the impairment loss to be recognized using the depreciated replacement cost approach.

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(b) International Public Sector Accounting Standard (IPSAS) 22 (Disclosure of Financial Information
about the General Government Sector (GGS)), defines a general government sector as
"comprising all organizational entities of the general government as defined in statistical bases of
financial reporting".
With regard to this standard, outline eight items that should be disclosed in respect of a GGS.
(c) IPSAS 20 (Related Party Disclosures) defines a related party as "any party that has the ability to
control the other party or exercise significant influence over the other party in making financial
and operating decisions or if the related party entity and another entity are subject to common
control".
With respect to the above statement:
i) Explain the meaning of "significant influence".
ii) Outline four ways in which significant influence might be exercised

QUESTION 2
a) With reference to IPSAS 26 (Impairment of Cash Generating Assets), explain the meaning of the
following terms
i) Value in use.
ii) Recoverable amount.
b) On 1 January 2008, Mashambani County Education Department purchased a printing machine at
a cost of Sh.40 million. The department estimated that the useful life of the machine would be ten
years. On 31 December 2012, it was reported that an automated feature on the machine's function
did not operate as expected, resulting in a 25% reduction in the machine's annual output over the
remaining five years of its useful life. The cost of a new printing machine was Sh.45 million as at
3 1 December 2012.
Required:
The impairment loss as at 31 December 2012 using the service units approach
c) In the context of IPSAS 23 (Revenue from Non-exchange Transactions), summarize five sources
of revenue from non-exchange transactions recognized by this standard.

QUESTION 3
With reference to IPSAS 9 (Revenue from Exchange Transactions):
(i) Evaluate the objectives of the standard.
(ii) Analyse the difference between "exchange transactions" and "non-exchange transactions".

ANSWERS TO SELF REVIEW QUESTIONS

ANSWER 1
a) (i) Value in use
This is the present value” of the estimated future cash flows expected to be derived from the
continuing/use of an asset and from its disposal at the end of its useful life.
(ii) Recoverable amount
This is the higher of an asset's value in use and the fair value less costs to sell or, net
realisable value.

b) The impairment loss

Sh.
Acquisition cost (1 January 2012) 40,000,000
Accumulated depreciation (31 December 2012)
40,000,000 ×5/10 (20,000,000)
Carrying amount (31 December 2012) 20,000,000

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 Replacement cost (31 December 2012) 45,000,000
Accumulated depreciation (31 December 2012)
45,000,000×5/10 (22,500,000)
Depreciated replacement cost before adjustment for Remaining service units 22,500,000

Recoverable service amount = 75% × 22,500,000 = Sh.16, 875,000

Impairment loss = 20,000,000 - 16,875,000 = Sh.3, 125,000

c) Examples of revenues from non-exchange transactions.

 Taxes.
 Debt forgiveness.
 Fines.
 Bequests
 Gifts and donations.

ANSWER 2
(a)Impairment loss to be recognized
Nairobi County Government
Sh. “000”
Acquisition cost 25,000
Less
Accumulated depreciation 25,000 × 20 (12,500)
40
Carrying amount 12,500
Replacement cost 13,000
Accumulated depreciation 13,000
( × 20) (6,500)
40
Recovered service amount 6,500

(b)Items that should be disclosed in respect of GGS as per IPSAS-22

 Net assets/equity.
 Cash flow from investing activities
 Assets by major class showing separately the investment in other sectors
 Liabilities by major class. .
 Cash flow from financing activities.
 Revenue by major class.
 Expenses by major class.
 Surplus or deficit.
 Cash flows from operating activities by major class.
 Total revaluation increments and decrements and other items of revenue and expenses recognised
directly in net assets/equity.

(c)
(i)Significant influence
This is the power to participate in the financial and operating policy decisions of an entity but not
control over those policies.

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Significant influence may be gained by an ownership interest, statute or agreement.

(ii)Ways in which significant influence may be exercised.

 Participation in the policy making process.
 Material transactions between entities.
 Interchange of managerial personnel.
 Dependence on technical information.
 By ownership interest, statute or agreement

ANSWER 3
With reference to IPSAS 9
i) Evaluate the objectives of the standard
The objective of this standard is to prescribe the accounting treatment of revenue arising from
exchange transactions and events and to ensure that revenue by government entities is well accounted
for and catered in the books of account

ii) Analyse the difference between exchange transactions and non-exchange transactions
Exchange transaction
Exchange transactions are those transactions in which one entity receives assets or services and
directly gives approximately equal value to another party (primarily in form of cash, goods or
services).
In this case, both the government entity and the other party benefit from the transaction.

Non-exchange transaction
In a non-exchange transaction, an entity receives value from another entity without directly giving
approximately equal value in exchange, or gives value to another entity without directly receiving
approximately equal value in exchange.
This is a one way transaction where the beneficiary is only the government entity and to the other
entity it is a loss / expense e.g. taxes

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 TOPIC 7
CURRENT TRENDS
TOPIC KEY OBJECTIVES
1. Be able to explain what social reports are
2. Be able to explain what environmental reports are.
3.Understand the advantages and purposes of environmental reporting
4.Be able to explain what corporate governance reports are
5.Be able to explain what directors reports

SOCIAL REPORTS
The concept of social responsibility underlies the debate about social responsibility accounting.
Accounting is a way of measuring and reporting values that enable sound decision making. The
question of for whom, how and when social responsibility report should be prepared is yet to be
answered.
Like its ‘parent’ social responsibility, there is little agreement as to what constitutes social
responsibility accounting.

THE SCOPE OF CORPORATE SOCIAL RESPONSIBILITY

Ernest identified six areas of corporate social responsibility
1. Environment
2. Energy
3. Fair business practices
4. Human resources
5. Community involvement
6. Product

Environment
This area involves the environmental aspect of production covering pollution control in the conduct of
business operations, prevention or repair of damage to the environment resulting from processing
resources of the national environment and conservation of the natural resources.
The main emphasis is on the negative aspects of the organisations’ activities. Thus, corporate social
objectives are to be found in the reduction of the negative external social effect of industrial
production and in adopting more efficient technologies to minimize the use of irreplaceable resources
and the production of wastes.

Energy
This area covers conservation of energy in the conduct of business operations and increasing the
energy efficiency of the company’s product.

Fair business practices

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This area is concerned with the relationship of a company to special interest groups, in particular it
deals with employment and advancement of minorities, the use of clear English in legal terms and
conditions to suppliers and customers and display of information on its product.
Human resources
This area is concerned with the impact of organisations’ activities on the people who contribute the
human resources of the organisation.

These include:
Recruiting practices
a) training programmes
b) experience building (job rotation)
c) job enrichment
d) wage and salary levels
e) fringe benefit plans
f) congruence of employees and organisations goals
g) mutual trust and confidence
h) job security
i) stability of work force
j) layoffs and recall practices
k) transfer and promotion policies
l) occupational health

Community involvement
It considers the impact of organisations’ activities on individuals or groups of individuals outside the
company. It involves solving of community problems, manpower support, health related activities,
education and the arts and training and employment of handicapped persons.
Products
This area concerns the qualitative areas of a product e.g. the utility, durability, safety and
serviceability as well as the effect on pollution. Moreover, it includes customers’ satisfaction,
truthfulness in advertising, completeness and clarity in labeling and packaging.

Modes of disclosures
Descriptive approach
This approach merely lists corporate social activities and is the simplest and least informative. They
are easy to prepare. However, most of the information discussed is of a qualitative nature rather than a
financial nature. As such it would be subjected to value judgment about the firms’ social responses. It
provides little scope for analysis and verifications due to the information being least informative. This
appears to be the most prevalent form of social responsibility accounting.
Comparability of financial commitments to social activities overtime and across firms is impaired
when firms adopt this approach.
Critical voices also have argued that many social descriptive are nothing but public relations gestures
meant to ward off grass root attack by social activists and are adopted by companies which believe
useful measurements of corporate social reporting cannot be developed or is difficult to develop.

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Cost of outlay approach
In this approach corporate expenditure is listed on each social activity undertaken. It offers a contrast
to the descriptive report in the sense that the descriptions of activities are quantified. It expands the
scope of analyzing the financial commitments to social activities and verifiability of the amounts
recorded relative to the descriptive approach. Comparability of financial commitments to social
activities over time and across firms is enhanced but limited to expenditure incurred. The main
disadvantage to this approach is that no mention of the resulting benefit is made. This is because
corporate expenditure is recorded in terms of the cash outlay, which is easily determined unlike social
benefit, which is difficult to measure.

Cost benefit approach

This is an extension of cost of outlay approach. It discloses both costs and benefits associated with
corporate social responsibility. It is assumed that firms employing this approach make use of ‘shadow
prices’ developed by economists in evaluating the social costs and social benefits of proposed projects
from the point of view of all losers and all beneficiaries within a nation.
This approach is the most informative approach but suffers from difficulties which exist in the
measurement of the benefits. Critics argue that output measures in monetary terms are contrived
(forced) and are not meaningful because the benefits are mainly of a qualitative nature because they
are concerned with the quality of life.
In Kenya, it appears, companies highlight their social activities in their annual reports but few do so in
financial terms.

Problems of social accounting (disclosures)

 The concept of social responsibility accounting raises initial problems of defining not only the
users of such information but also their objectives in receiving such information. In identifying
users of information as having different objectives from those identified in the Corporate Report
(1975), poses complex problems of identifying what objectives such groups will have in social
accounting information. The problem is aggravated by the inability to establish patterns of value
judgments about the activities reported upon, and stability in the ‘opinions’ of the individuals,
using social information, forming a group of users. If the objective is to maximize some form of
public utility based upon sets of value judgments, it may be impossible to achieve that objective.
 Due to the inability to develop measurements of performance which everyone will accept that
capture data in form permissive to social disclosure and analysis presents a problem. Thus, many
disclosures are narrative form and often reflect only personal opinion of the chief executive
officer.
 In the present institutional environment, most social responsibility disclosures are voluntary and
unaudited. Although disclosures may be readily available or identifiable in firm’s annual reports,
management is free to use its own discretion in selecting information to be reported. It is possible
for poorer performance to bias their selections in order to appear like better performers. Thus,
social information becomes nebulous and highly subjective.
 Uncertainty to the meaning and extent of social responsibility appears to hinder agreement on the
dimensions of measurement problem as the beginning stage in search for an appropriate measure.

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 In Kenya, the Companies Act (CAP 486) which governs and regulates the activities of
corporations makes no provision for the requirement of social disclosures in the annual reports of
corporations. Neither does the Nairobi Stock exchange require the listed companies to file with
them reports relating to social responsibility nor has ICPAK developed any standard that deals
with the measurement and reporting of social responsibilities assumed by individual enterprises.

Implications of social accounting

 Presentation of accounting data is subject to two major parameters: the cost of providing such
data and the benefits that accrue to the firm as a result of providing such data. In providing
accounting data relating to social responsiveness, corporations will incur additional costs as a
result of such an undertaking. Costs will manifest themselves in the form of additional personnel
employed (competent in social accounting) or the training of existing personnel to equip them
with the necessary skills and knowledge or replacement of existing staff with new staff that is
knowledgeable as far as social accounting is concerned. Time used in the preparation of social
disclosures, stationery and the cost of a social audit to verify the information as being “true and
fair” are among many costs that the corporation will incur.
 Increased costs of providing accounting information have a negative effect on the earning ability
of the corporations. This will result in the reduction of dividends and the price of common stock.
Thus, maximization of shareholders wealth will cease to be the primary goal rather it would be
substituted by the objectiveness of satisfying all parties’ needs which influxes the shareholders
payout may decrease.
 It has been argued that social involvement benefits both the enterprises and the society.

Providing information reflecting the degree of social involvement of an organisation would provide a
base upon which the public can evaluate the corporations social responsiveness. Where in the eyes of
the society, a corporation is socially responsible, the corporate image of the firm would improve and
the society would appreciate the enterprises’ existence and would support it. On the other hand, a
corporation that is socially irresponsible would see it gradually sinking into customers and public
disfavor.
 Investment decisions will in future be influenced by the social involvement of organisations. As
society’s value and expectations change, so do the values of investors. Investors that are socially
responsible would measure the performance of organisation not only in terms of the ability of the
organisation to maximise shareholders wealth but also in terms of the degree to which the firm is
socially responsible. Thus, measures of success will tend largely to be influenced by the extent to
which organisations are socially responsible.
 Firms would have to ensure that in order for the objective of providing social disclosure to be
realised, social information will be of value to the readers. Various approaches have been adopted
by firms in making social disclosures. These includes the descriptive approach, the cost outlay
approach and the cost benefit approach. Critics argue that output measures in monetary terms are

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 contrived and are not meaningful, because the benefits are mainly of a qualitative nature for they
are concerned with the quality of life. Thus, firms will have to strike a balance in using the
approaches in such a manner that will ensure public understandability of social information.
 Adoption of measures that are used by economists in the measurement of social costs and social
benefits would be an approach towards the economists’ measurements of output and the
calculation of Gross Domestic Product. This would ensure that accounting data is compatible in
satisfying the needs of economist in the calculation of GDP. Such a calculation would not only be
easy but there would always exist a reference (accounting data) that can be used to confirm the
figures resulting from the calculation by the economist.
 In an effort to encourage social involvement, the government through the income tax department
may provide special incentives and write offs for expenditure incurred as a result of social
activities. Tax minimization through charitable contributions is among the effects that might be
considered. Presently, donations made to research institutes are tax allowable in Kenya.
 The government, as the custodian of society’s resources may in future forcefully require the
disclosure of the efforts the organisation will have on the society. The Kenya government has
shown concern in those firms that adopt technologies that not environment friendly.

All in all, businesses cannot afford to ignore the broader public demands. They must not only provide
quantities of goods and services, but also contribute to the quality of life. In light of changing
conditions and society expectations and despite the remoteness of some of the benefits, it is in the
business interest as artificial citizens to recognise both economic and social obligations.

Conclusion
Social responsibility accounting stems from the concept of corporate social responsibility. It widens
the scope for shareholders by recognizing the society at large as being important users of financial
statements. Supporters of social accounting argue that business is part of a large society (social
system). As the public increasingly accepts this view, it judges each social unit as a business in terms
of its contribution to society as a whole.

ENVIRONMENTAL REPORTS
There is a debate in business and society about the limits of business accountability. Put simply, this
concerns two profound questions: ‘for what should accounting actually account?’ and ‘to whom is a
business accountable?’ This debate is reflected in models such as the stakeholder/stockholder
continuum and in Gray, Owen and Adams’s seven positions on corporate responsibility. A common
traditional belief is that businesses need only report upon those things that can be measured and that
are required under laws, accounting standards or listing rules.

A range of other pressures has increased on businesses in recent years, however. Among these is the
belief that business are ‘citizens’ of society in that they benefit from society and so owe duties back to
society in the same way that individual human citizens do. Many people no longer believe that
businesses are able to take from society without also accounting back to society (and not just to
shareholders), on how it has behaved with regard to its environmental impacts. This article is about
how companies account for their environmental impacts using environmental reporting.

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WHAT DOES IT CONTAIN?
In recent years, then, a belief has arisen in businesses and in society that reporting has a wider role
than that expressed in the traditional ‘stockholder/shareholder’ perspective. Importantly, one need not
hold to the ‘deep green’ end of the argument to hold these views: there are strategic reasons why a
wider view of accountability may be held and, accordingly, why initiatives such as environmental
reporting may be supported.

It concerns both the environmental consequences of an organisation’s inputs and outputs. Inputs
include the measurement of key environmental resources such as energy, water, inventories
(especially if any of these are scarce or threatened), land use, etc. Outputs include the efficiency of
internal processes (possibly including a ‘mass balance’ or ‘yield’ calculation) and the impact of
outputs. These might include the proportion of product recyclability, tonnes of carbon or other gases
produced by company activities, any waste or pollution.

These measures can apply directly (narrowly) or indirectly (more broadly). A direct environmental
accounting measures only that within the reporting entity whereas an indirect measure will also report
on the forward and backward supply chains which the company has incurred in bringing the products
from their origins to the market. For example, a bank can directly report on the environmental impact
of its own company: its branches, offices, etc. But to produce a full environmental report, a bank
would also need to include the environmental consequences of those activities it facilitates through its
business loans. Where a company claims to report on its environmental impacts, it rarely includes
these indirect measures because it is hard to measure environmental impacts outside the reporting
company and there is some dispute about whether such measures should be included in the bank’s
report (the bank may say it is for the other company to report on its own impacts).

Reporting on environmental impacts is, therefore complicated, and is often frustrated by difficulties in
measurement. In broad terms, environmental reporting is the production of narrative and numerical
information on an organisation’s environmental impact or ‘footprint’ for the accounting period under
review. In most cases, narrative information can be used to convey objectives, explanations,
aspirations, reasons for failure against previous years’ targets, management discussion, addressing
specific stakeholder concerns, etc. Numerical disclosure can be used to report on those measures that
can usefully and meaningfully be conveyed in that way, such as emission or pollution amounts
(perhaps in tonnes or cubic metres), resources consumed (perhaps kWh, tonnes, litres), land use (in
hectares, square metres, etc) and similar.

ADVANTAGES AND PURPOSES OF ENVIRONMENTAL REPORTING

Because of the complex nature of business accountability, it is difficult to reduce the motivations for
environmental reporting down to just a few main points. Different stakeholders can benefit from a
company’s environmental reporting, however, and it is capable of serving the information needs of a
range of both internal and external stakeholders.

Some would argue that environmental reporting is a useful way in which reporting companies can
help to discharge their accountabilities to society and to future generations (because the use of

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resources and the pollution of the environment can affect future generations). In addition, it may also
serve to strengthen a company’s accountability to its shareholders. By providing more information to
shareholders, the company is less able to conceal important information and this helps to reduce the
agency gap between a company’s directors and its shareholders.
Academic research has shown that companies have successfully used environmental reporting to
demonstrate their responsiveness to certain issues that may threaten the perception of their ethics,
competence or both. Companies that are considered to have a high environmental impact, such as oil,
gas and petrochemicals companies, are amongst the highest environmental disclosers. Several
companies have used their environmental reporting to respond to specific challenges or concerns, and
to inform stakeholders of how these concerns are being dealt with and addressed.

One example of this is the use of environmental reporting to gain, maintain or restore the perception
of legitimacy. When a company commits an environmental error or is involved in a high profile
incident, many stakeholders seek reassurance that the company has learned lessons from the incident
and so can then resume engagement with the company. For the company, some environmental
incidents can threaten its licence to operate or social contract. By using its environmental reporting to
address concerns after an environmental incident, society’s perception of its legitimacy can be
managed.
In addition to these arguments based on accountability and stakeholder responsiveness, there are also
two specific ‘business case’ advantages. The first of these is that environmental reporting is capable
of containing comment on a range of environmental risks. Many shareholders are concerned with the
risks that face the companies they invest in and where environmental risks are potentially significant
(such as travel companies, petrochemicals, etc.) a detailed environmental report is a convenient place
to disclose about the sources of these risks and the ways that they are being managed or mitigated.

The second is that it is thought that environmental reporting is a key measure for encouraging the
internal efficiency of operations. This is because it is necessary to establish a range of technical
measurement systems to collect and process some of the information that comprises the
environmental report. These systems and the knowledge they generate could then have the potential to
save costs and increase operational efficiency, including reducing waste in a production process.

In conclusion, then, environmental reporting has grown in recent years. Although voluntary in most
countries, some guidelines such as the GRI have helped companies to frame their environmental
reporting. It can take place in a range of media including in ‘stand-alone’ environmental reports, and
there are a number of motivations and purposes for it including both accountability and ‘business
case’ motives.

CORPORATE GOVERNANCE REPORTS

Corporate governance is defined as the system by which corporations are directed, controlled and held
to account.
The manner in which the power of [and power over] a corporation is exercised in the stewardship of
its total portfolio of assets and resources so as to increase and sustain shareholder value while
satisfying the needs and interests of all stakeholders.

Corporate Governance refers to the way a corporation is governed. It is the technique by which
companies are directed and managed. It means carrying the business as per the stakeholders’ desires.

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It is actually conducted by the board of Directors and the concerned committees for the company’s
stakeholder’s benefit. It is all about balancing individual and societal goals, as well as, economic and
social goals.

Corporate Governance is the interaction between various participants (shareholders, board of

directors, and company’s management) in shaping corporation’s performance and the way it is
proceeding towards. The relationship between the owners and the managers in an organization must
be healthy and there should be no conflict between the two. The owners must see that individual’s
actual performance is according to the standard performance. These dimensions of corporate
governance should not be overlooked.

Corporate Governance deals with the manner the providers of finance guarantee themselves of getting
a fair return on their investment. Corporate Governance clearly distinguishes between the owners and
the managers. The managers are the deciding authority. In modern corporations, the functions/ tasks
of owners and managers should be clearly defined, rather, harmonizing.
Corporate Governance deals with determining ways to take effective strategic decisions. It gives
ultimate authority and complete responsibility to the Board of Directors. In today’s market- oriented
economy, the need for corporate governance arises. Also, efficiency as well as globalization are
significant factors urging corporate governance. Corporate Governance is essential to develop added
value to the stakeholders.

Corporate Governance ensures transparency which ensures strong and balanced economic
development. This also ensures that the interests of all shareholders (majority as well as minority
shareholders) are safeguarded. It ensures that all shareholders fully exercise their rights and that the
organization fully recognizes their rights.
Corporate Governance has a broad scope. It includes both social and institutional aspects. Corporate
Governance encourages a trustworthy, moral, as well as ethical environment.

Benefits of Corporate Governance

1. Good corporate governance ensures corporate success and economic growth.
2. Strong corporate governance maintains investors’ confidence, as a result of which, company can
raise capital efficiently and effectively.
3. It lowers the capital cost.
4. There is a positive impact on the share price.
5. It provides proper inducement to the owners as well as managers to achieve objectives that are in
interests of the shareholders and the organization.
6. Good corporate governance also minimizes wastages, corruption, risks and mismanagement.
7. It helps in brand formation and development.
8. It ensures organization in managed in a manner that fits the best interests of all.

DIRECTORS REPORTS
The Directors' Report arose out of a general move for greater transparency in corporate governance. It
is useful for shareholders to find out issues such as whether the company has good finances, whether
the market has potential, and whether the business has the structural capacity to expand into new
opportunities. In order for shareholders to make informed decisions when casting their votes at annual
or other meetings, the Directors' Report provides part of that essential minimum standard of
information.

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Page 293
SUMMARIES OF ACCOUNTING STANDARDS
INTERNATIONAL FINANCIAL REPORTING STANDARDS (IFRS)
IFRS 1 First-time Adoption of International Financial Reporting Standards
The objective of this IFRS is to ensure that an entity’s first IFRS financial statements, and its interim
financial reports for part of the period covered by those financial statements, contain high quality
information that:
(a) is transparent for users and comparable over all periods presented;
(b) provides a suitable starting point for accounting under International Financial Reporting
Standards (IFRSs); and
(c) can be generated at a cost that does not exceed the benefits to users.

An entity’s first IFRS financial statements are the first annual financial statements in which the entity
adopts IFRSs, by an explicit and unreserved statement in those financial statements of compliance
with IFRSs.
An entity shall prepare an opening IFRS balance sheet at the date of transition to IFRSs. This is the
starting point for its accounting under IFRSs. An entity need not present its opening IFRS balance
sheet in its first IFRS financial statements.
In general, the IFRS requires an entity to comply with each IFRS effective at the reporting date for its
first IFRS financial statements. In particular, the IFRS requires an entity to do the following in the
opening IFRS balance sheet that it prepares as a starting point for its accounting under IFRSs:

(a) recognise all assets and liabilities whose recognition is required by IFRSs;
(b) not recognise items as assets or liabilities if IFRSs do not permit such recognition;
(c) reclassify items that it recognised under previous GAAP as one type of asset, liability or
component of equity, but are a different type of asset, liability or component of equity under IFRSs;
and
(d) apply IFRSs in measuring all recognised assets and liabilities.

The IFRS grants limited exemptions from these requirements in specified areas where the cost of
complying with them would be likely to exceed the benefits to users of financial statements. The IFRS
also prohibits retrospective application of IFRSs in some areas, particularly where retrospective
application would require judgements by management about past conditions after the outcome of a
particular transaction is already known.
The IFRS requires disclosures that explain how the transition from previous GAAP to IFRSs affected
the entity’s reported financial position, financial performance and cash flows.

Technical Summary This extract has been prepared by IASC Foundation staff and has not been
approved by the IASB. For the requirements reference must be made to International Financial
Reporting Standards.

IFRS 2 Share-based Payment

The objective of this IFRS is to specify the financial reporting by an entity when it undertakes a
share-based payment transaction. In particular, it requires an entity to reflect in its profit or loss and

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financial position the effects of share-based payment transactions, including expenses associated with
transactions in which share options are granted to employees.
The IFRS requires an entity to recognise share-based payment transactions in its financial statements,
including transactions with employees or other parties to be settled in cash, other assets, or equity
instruments of the entity. There are no exceptions to the IFRS, other than for transactions to which
other Standards apply.
This also applies to transfers of equity instruments of the entity’s parent, or equity instruments of
another entity in the same group as the entity, to parties that have supplied goods or services to the
entity.
The IFRS sets out measurement principles and specific requirements for three types of share-based
payment transactions:

(a) Equity-settled share-based payment transactions, in which the entity receives goods or services as
consideration for equity instruments of the entity (including shares or share options);
(b) Cash-settled share-based payment transactions, in which the entity acquires goods or services by
incurring liabilities to the supplier of those goods or services for amounts that are based on the price
(or value) of the entity’s shares or other equity instruments of the entity; and
(c) Transactions in which the entity receives or acquires goods or services and the terms of the
arrangement provide either the entity or the supplier of those goods or services with a choice of
whether the entity settles the transaction in cash or by issuing equity instruments.

For equity-settled share-based payment transactions, the IFRS requires an entity to measure the goods
or services received, and the corresponding increase in equity, directly, at the fair value of the goods
or services received, unless that fair value cannot be estimated reliably. If the entity cannot estimate
reliably the fair value of the goods or services received, the entity is required to measure their value,
and the corresponding increase in equity, indirectly, by reference to the fair value of the equity
instruments granted. Furthermore:

(a) For transactions with employees and others providing similar services, the entity is required to
measure the fair value of the equity instruments granted, because it is typically not possible to
estimate reliably the fair value of employee services received. The fair value of the equity instruments
granted is measured at grant date.
(b) For transactions with parties other than employees (and those providing similar services), there is
a rebuttable presumption that the fair value of the goods or services received can be estimated
reliably. That fair value is measured at the date the entity obtains the goods or the counterparty
renders service. In rare cases, if the presumption is rebutted, the transaction is measured by reference
to the fair value of the equity instruments granted, measured at the date the entity obtains the goods or
the counterparty renders service.
(c) For goods or services measured by reference to the fair value of the equity instruments granted, the
IFRS specifies that vesting conditions, other than market conditions, are not taken into account when
estimating the fair value of the shares or options at the relevant measurement date (as specified
above). Instead, vesting conditions are taken into account by adjusting the number of equity
instruments included in the measurement of the transaction amount so that, ultimately, the amount
recognised for goods or services received as consideration for the equity instruments granted is based
on the number of equity instruments that eventually vest. Hence, on a cumulative basis, no amount is
recognised for goods or services received if the equity instruments granted do not vest because of
failure to satisfy a vesting condition (other than a market condition).
(d) The IFRS requires the fair value of equity instruments granted to be based on market prices, if
available, and to take into account the terms and conditions upon which those equity instruments were
granted. In the absence of market prices, fair value is estimated, using a valuation technique to

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estimate what the price of those equity instruments would have been on the measurement date in an
arm’s length transaction between knowledgeable, willing parties.
(e) The IFRS also sets out requirements if the terms and conditions of an option or share grant are
modified (eg an option is repriced) or if a grant is cancelled, repurchased or replaced with another
grant of equity instruments. For example, irrespective of any modification, cancellation or settlement
of a grant of equity instruments to employees, the IFRS generally requires the entity to recognise, as a
minimum, the services received measured at the grant date fair value of the equity instruments
granted.

For cash-settled share-based payment transactions, the IFRS requires an entity to measure the goods
or services acquired and the liability incurred at the fair value of the liability. Until the liability is
settled, the entity is required to remeasure the fair value of the liability at each reporting date and at
the date of settlement, with any changes in value recognised in profit or loss for the period.
For share-based payment transactions in which the terms of the arrangement provide either the entity
or the supplier of goods or services with a choice of whether the entity settles the transaction in cash
or by issuing equity instruments, the entity is required to account for that transaction, or the
components of that transaction, as a cash-settled share-based payment transaction if, and to the extent
that, the entity has incurred a liability to settle in cash (or other assets), or as an equity-settled share-
based payment transaction if, and to the extent that, no such liability has been incurred.
The IFRS prescribes various disclosure requirements to enable users of financial statements to
understand:

(a) the nature and extent of share-based payment arrangements that existed during the period;

(b) how the fair value of the goods or services received, or the fair value of the equity instruments
granted, during the period was determined; and

(c) the effect of share-based payment transactions on the entity’s profit or loss for the period and on
its financial position.

IFRS 3 Business Combinations

The objective of this IFRS is to specify the financial reporting by an entity when it undertakes a
business combination.
A business combination is the bringing together of separate entities or businesses into one reporting
entity. The result of nearly all business combinations is that one entity, the acquirer, obtains control of
one or more other businesses, the acquiree. If an entity obtains control of one or more other entities
that are not businesses, the bringing together of those entities is not a business combination.
This IFRS:

(a) requires all business combinations within its scope to be accounted for by applying the purchase
method.
(b) requires an acquirer to be identified for every business combination within its scope. The acquirer
is the combining entity that obtains control of the other combining entities or businesses.
(c) requires an acquirer to measure the cost of a business combination as the aggregate of: the fair
values, at the date of exchange, of assets given, liabilities incurred or assumed, and equity instruments
issued by the acquirer, in exchange for control of the acquiree; plus any costs directly attributable to
the combination.
(d) requires an acquirer to recognise separately, at the acquisition date, the acquiree’s identifiable
assets, liabilities and contingent liabilities that satisfy the following recognition criteria at that date,
regardless of whether they had been previously recognised in the acquiree’s financial statements:

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(i) in the case of an asset other than an intangible asset, it is probable that any associated future
economic benefits will flow to the acquirer, and its fair value can be measured reliably;
(ii) in the case of a liability other than a contingent liability, it is probable that an outflow of
resources embodying economic benefits will be required to settle the obligation, and its fair
value can be measured reliably; and
(iii) in the case of an intangible asset or a contingent liability, its fair value can be measured
reliably.
(e) requires the identifiable assets, liabilities and contingent liabilities that satisfy the above
recognition criteria to be measured initially by the acquirer at their fair values at the acquisition date,
irrespective of the extent of any minority interest.

(f) requires goodwill acquired in a business combination to be recognised by the acquirer as an asset
from the acquisition date, initially measured as the excess of the cost of the business combination over
the acquirer’s interest in the net fair value of the acquiree’s identifiable assets, liabilities and
contingent liabilities recognised in accordance with (d) above.

(g) prohibits the amortisation of goodwill acquired in a business combination and instead requires the
goodwill to be tested for impairment annually, or more frequently if events or changes in
circumstances indicate that the asset might be impaired, in accordance with IAS 36 Impairment of
Assets.

(h) requires the acquirer to reassess the identification and measurement of the acquiree’s identifiable
assets, liabilities and contingent liabilities and the measurement of the cost of the business
combination if the acquirer’s interest in the net fair value of the items recognised in accordance with
(d) above exceeds the cost of the combination. Any excess remaining after that reassessment must be
recognised by the acquirer immediately in profit or loss.

(i) requires disclosure of information that enables users of an entity’s financial statements to evaluate
the nature and financial effect of:
(i) business combinations that were effected during the period;
(ii) business combinations that were effected after the balance sheet date but before the
financial statements are authorised for issue; and
(iii) some business combinations that were effected in previous periods.

(j) requires disclosure of information that enables users of an entity’s financial statements to evaluate
changes in the carrying amount of goodwill during the period.

A business combination may involve more than one exchange transaction, for example when it occurs
in stages by successive share purchases. If so, each exchange transaction shall be treated separately by
the acquirer, using the cost of the transaction and fair value information at the date of each exchange
transaction, to determine the amount of any goodwill associated with that transaction. This results in a
step-by-step comparison of the cost of the individual investments with the acquirer’s interest in the
fair values of the acquiree’s identifiable assets, liabilities and contingent liabilities at each step.
If the initial accounting for a business combination can be determined only provisionally by the end of
the period in which the combination is effected because either the fair values to be assigned to the
acquiree’s identifiable assets, liabilities or contingent liabilities or the cost of the combination can be
determined only provisionally, the acquirer shall account for the combination using those provisional
values. The acquirer shall recognise any adjustments to those provisional values as a result of
completing the initial accounting:
(a) within twelve months of the acquisition date; and

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(b) from the acquisition date.

IFRS 4 Insurance Contracts

The objective of this IFRS is to specify the financial reporting for insurance contracts by any entity
that issues such contracts (described in this IFRS as an insurer) until the Board completes the second
phase of its project on insurance contracts. In particular, this IFRS requires:
(a) limited improvements to accounting by insurers for insurance contracts.

(b) disclosure that identifies and explains the amounts in an insurer’s financial statements arising from
insurance contracts and helps users of those financial statements understand the amount, timing and
uncertainty of future cash flows from insurance contracts.

An insurance contract is a contract under which one party (the insurer) accepts significant insurance
risk from another party (the policyholder) by agreeing to compensate the policyholder if a specified
uncertain future event (the insured event) adversely affects the policyholder.
The IFRS applies to all insurance contracts (including reinsurance contracts) that an entity issues and
to reinsurance contracts that it holds, except for specified contracts covered by other IFRSs. It does
not apply to other assets and liabilities of an insurer, such as financial assets and financial liabilities
within the scope of IAS 39 Financial Instruments: Recognition and Measurement. Furthermore, it
does not address accounting by policyholders.
The IFRS exempts an insurer temporarily from some requirements of other IFRSs, including the
requirement to consider the Framework in selecting accounting policies for insurance contracts.
However, the IFRS:

(a) prohibits provisions for possible claims under contracts that are not in existence at the reporting
date (such as catastrophe and equalisation provisions).

(b) requires a test for the adequacy of recognised insurance liabilities and an impairment test for
reinsurance assets.

(c) requires an insurer to keep insurance liabilities in its balance sheet until they are discharged or
cancelled, or expire, and to present insurance liabilities without offsetting them against related
reinsurance assets.

The IFRS permits an insurer to change its accounting policies for insurance contracts only if, as a
result, its financial statements present information that is more relevant and no less reliable, or more
reliable and no less relevant. In particular, an insurer cannot introduce any of the following practices,
although it may continue using accounting policies that involve them:

(a) measuring insurance liabilities on an undiscounted basis.

(b) measuring contractual rights to future investment management fees at an amount that exceeds their
fair value as implied by a comparison with current fees charged by other market participants for
similar services.

(c) using non-uniform accounting policies for the insurance liabilities of subsidiaries.

The IFRS permits the introduction of an accounting policy that involves remeasuring designated
insurance liabilities consistently in each period to reflect current market interest rates (and, if the

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insurer so elects, other current estimates and assumptions). Without this permission, an insurer would
have been required to apply the change in accounting policies consistently to all similar liabilities.
The IFRS requires disclosure to help users understand:

(a) the amounts in the insurer’s financial statements that arise from insurance contracts.

(b) the amount, timing and uncertainty of future cash flows from insurance contracts.

IFRS 5 Non-current Assets Held for Sale and Discontinued Operations

The objective of this IFRS is to specify the accounting for assets held for sale, and the presentation
and disclosure of discontinued operations. In particular, the IFRS requires:

(a) assets that meet the criteria to be classified as held for sale to be measured at the lower of carrying
amount and fair value less costs to sell, and depreciation on such assets to cease; and

(b) assets that meet the criteria to be classified as held for sale to be presented separately on the face
of the balance sheet and the results of discontinued operations to be presented separately in the
income statement.

The IFRS:
(a) adopts the classification ‘held for sale’.
(b) introduces the concept of a disposal group, being a group of assets to be disposed of, by sale or
otherwise, together as a group in a single transaction, and liabilities directly associated with those
assets that will be transferred in the transaction.
(c) classifies an operation as discontinued at the date the operation meets the criteria to be classified
as held for sale or when the entity has disposed of the operation.

An entity shall classify a non-current asset (or disposal group) as held for sale if its carrying amount
will be recovered principally through a sale transaction rather than through continuing use.
For this to be the case, the asset (or disposal group) must be available for immediate sale in its present
condition subject only to terms that are usual and customary for sales of such assets (or disposal
groups) and its sale must be highly probable.
For the sale to be highly probable, the appropriate level of management must be committed to a plan
to sell the asset (or disposal group), and an active programme to locate a buyer and complete the plan
must have been initiated. Further, the asset (or disposal group) must be actively marketed for sale at a
price that is reasonable in relation to its current fair value. In addition, the sale should be expected to
qualify for recognition as a completed sale within one year from the date of classification, except as
permitted by paragraph 9, and actions required to complete the plan should indicate that it is unlikely
that significant changes to the plan will be made or that the plan will be withdrawn.
A discontinued operation is a component of an entity that either has been disposed of, or is classified
as held for sale, and

(a) represents a separate major line of business or geographical area of operations,

(b) is part of a single co-ordinated plan to dispose of a separate major line of business or geographical
area of operations or

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(c) is a subsidiary acquired exclusively with a view to resale.

A component of an entity comprises operations and cash flows that can be clearly distinguished,
operationally and for financial reporting purposes, from the rest of the entity. In other words, a
component of an entity will have been a cash-generating unit or a group of cash-generating units
while being held for use.
An entity shall not classify as held for sale a non-current asset (or disposal group) that is to be
abandoned. This is because its carrying amount will be recovered principally through continuing use.

IFRS 6 Explorations for and Evaluation of Mineral Resources

The objective of this IFRS is to specify the financial reporting for the exploration for and evaluation
of mineral resources.
Exploration and evaluation expenditures are expenditures incurred by an entity in connection with the
exploration for and evaluation of mineral resources before the technical feasibility and commercial
viability of extracting a mineral resource are demonstrable. Exploration for and evaluation of mineral
resources is the search for mineral resources, including minerals, oil, natural gas and similar non-
regenerative resources after the entity has obtained legal rights to explore in a specific area, as well as
the determination of the technical feasibility and commercial viability of extracting the mineral
resource.
Exploration and evaluation assets are exploration and evaluation expenditures recognised as assets in
accordance with the entity’s accounting policy.
The IFRS:

(a) permits an entity to develop an accounting policy for exploration and evaluation assets without
specifically considering the requirements of paragraphs 11 and 12 of IAS 8. Thus, an entity adopting
IFRS 6 may continue to use the accounting policies applied immediately before adopting the IFRS.
This includes continuing to use recognition and measurement practices that are part of those
accounting policies.

(b) requires entities recognising exploration and evaluation assets to perform an impairment test on
those assets when facts and circumstances suggest that the carrying amount of the assets may exceed
their recoverable amount.

(c) varies the recognition of impairment from that in IAS 36 but measures the impairment in
accordance with that Standard once the impairment is identified.

An entity shall determine an accounting policy for allocating exploration and evaluation assets to
cash-generating units or groups of cash-generating units for the purpose of assessing such assets for
impairment. Each cash-generating unit or group of units to which an exploration and evaluation asset
is allocated shall not be larger than an operating segment determined in accordance with IFRS 8
Operating Segments.
Exploration and evaluation assets shall be assessed for impairment when facts and circumstances
suggest that the carrying amount of an exploration and evaluation asset may exceed its recoverable
amount. When facts and circumstances suggest that the carrying amount exceeds the recoverable
amount, an entity shall measure, present and disclose any resulting impairment loss in accordance
with IAS 36.
One or more of the following facts and circumstances indicate that an entity should test exploration
and evaluation assets for impairment (the list is not exhaustive):

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(a) the period for which the entity has the right to explore in the specific area has expired during the
period or will expire in the near future, and is not expected to be renewed.

(b) substantive expenditure on further exploration for and evaluation of mineral resources in the
specific area is neither budgeted nor planned.

(c) exploration for and evaluation of mineral resources in the specific area have not led to the
discovery of commercially viable quantities of mineral resources and the entity has decided to
discontinue such activities in the specific area.
(d) sufficient data exist to indicate that, although a development in the specific area is likely to
proceed, the carrying amount of the exploration and evaluation asset is unlikely to be recovered in full
from successful development or by sale.

An entity shall disclose information that identifies and explains the amounts recognised in its financial
statements arising from the exploration for and evaluation of mineral resources.

IFRS 7 Financial Instruments: Disclosures

The objective of this IFRS is to require entities to provide disclosures in their financial statements that
enable users to evaluate:
(a) the significance of financial instruments for the entity’s financial position and performance; and

(b) the nature and extent of risks arising from financial instruments to which the entity is exposed
during the period and at the reporting date, and how the entity manages those risks. The qualitative
disclosures describe management’s objectives, policies and processes for managing those risks. The
quantitative disclosures provide information about the extent to which the entity is exposed to risk,
based on information provided internally to the entity's key management personnel. Together, these
disclosures provide an overview of the entity's use of financial instruments and the exposures to risks
they create.

The IFRS applies to all entities, including entities that have few financial instruments (eg a
manufacturer whose only financial instruments are accounts receivable and accounts payable) and
those that have many financial instruments (eg a financial institution most of whose assets and
liabilities are financial instruments).
When this IFRS requires disclosures by class of financial instrument, an entity shall group financial
instruments into classes that are appropriate to the nature of the information disclosed and that take
into account the characteristics of those financial instruments. An entity shall provide sufficient
information to permit reconciliation to the line items presented in the balance sheet.
The principles in this IFRS complement the principles for recognising, measuring and presenting
financial assets and financial liabilities in IAS 32 Financial Instruments: Presentation and IAS 39
Financial Instruments: Recognition and Measurement.

IFRS 8 Operating Segments

Core principle—An entity shall disclose information to enable users of its financial statements to
evaluate the nature and financial effects of the business activities in which it engages and the
economic environments in which it operates.
This IFRS shall apply to:
(a) the separate or individual financial statements of an entity:

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(i) whose debt or equity instruments are traded in a public market (a domestic or foreign stock
exchange or an over-the-counter market, including local and regional markets), or
(ii) that files, or is in the process of filing, its financial statements with a securities commission or
other regulatory organisation for the purpose of issuing any class of instruments in a public market;
and

(b) the consolidated financial statements of a group with a parent:

(i) whose debt or equity instruments are traded in a public market (a domestic or foreign stock
exchange or an over-the-counter market, including local and regional markets), or
(ii) that files, or is in the process of filing, the consolidated financial statements with a securities
commission or other regulatory organisation for the purpose of issuing any class of instruments in a
public market.
The IFRS specifies how an entity should report information about its operating segments in annual
financial statements and, as a consequential amendment to IAS 34 Interim Financial Reporting,
requires an entity to report selected information about its operating segments in interim financial
reports. It also sets out requirements for related disclosures about products and services, geographical
areas and major customers.
The IFRS requires an entity to report financial and descriptive information about its reportable
segments. Reportable segments are operating segments or aggregations of operating segments that
meet specified criteria. Operating segments are components of an entity about which separate
financial information is available that is evaluated regularly by the chief operating decision maker in
deciding how to allocate resources and in assessing performance. Generally, financial information is
required to be reported on the same basis as is used internally for evaluating operating segment
performance and deciding how to allocate resources to operating segments.
The IFRS requires an entity to report a measure of operating segment profit or loss and of segment
assets. It also requires an entity to report a measure of segment liabilities and particular income and
expense items if such measures are regularly provided to the chief operating decision maker. It
requires reconciliations of total reportable segment revenues, total profit or loss, total assets, liabilities
and other
amounts disclosed for reportable segments to corresponding amounts in the entity’s financial
statements.
The IFRS requires an entity to report information about the revenues derived from its products or
services (or groups of similar products and services), about the countries in which it earns revenues
and holds assets, and about major customers, regardless of whether that information is used by
management in making operating decisions. However, the IFRS does not require an entity to report
information that is not prepared for internal use if the necessary information is not available and the
cost to develop it would be excessive.
The IFRS also requires an entity to give descriptive information about the way the operating segments
were determined, the products and services provided by the segments, differences between the
measurements used in reporting segment information and those used in the entity’s financial
statements, and changes in the measurement of segment amounts from period to period.

INTERNATIONAL ACCOUNTING STANDARDS (IAS)

IAS 1 Presentation of Financial Statements
The objective of this Standard is to prescribe the basis for presentation of general purpose financial
statements, to ensure comparability both with the entity’s financial statements of previous periods and
with the financial statements of other entities. To achieve this objective, this Standard sets out overall
requirements for the presentation of financial statements, guidelines for their structure and minimum
requirements for their content.

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A complete set of financial statements comprises:
(a) a balance sheet;
(b) an income statement;
(c) a statement of changes in equity showing either:
(i) all changes in equity, or
(ii) changes in equity other than those arising from transactions with equity holders
acting in their capacity as equity holders;
(d) a cash flow statement; and
(e) notes, comprising a summary of significant accounting policies and other explanatory notes.

The financial statements shall be identified clearly and distinguished from other information in the
same published document.
Financial statements shall be presented at least annually.
Financial statements shall present fairly the financial position, financial performance and cash flows
of an entity. In virtually all circumstances, a fair presentation is achieved by compliance with
applicable IFRSs.

An entity whose financial statements comply with IFRSs shall make an explicit and unreserved
statement of such compliance in the notes. Financial statements shall not be described as complying
with IFRSs unless they comply with all the requirements of IFRSs.
When preparing financial statements, management shall make an assessment of an entity’s ability to
continue as a going concern. Financial statements shall be prepared on a going concern basis unless
management either intends to liquidate the entity or to cease trading, or has no realistic alternative but
to do so. When management is aware, in making its assessment, of material uncertainties related to
events or conditions that may cast significant doubt upon the entity’s ability to continue as a going
concern, those uncertainties shall be disclosed.

The presentation and classification of items in the financial statements shall be retained from one
period to the next.

Except when a Standard or an Interpretation permits or requires otherwise, comparative information

shall be disclosed in respect of the previous period for all amounts reported in the financial
statements. Comparative information shall be included for narrative and descriptive information when
it is relevant to an understanding of the current period’s financial statements.

Each material class of similar items shall be presented separately in the financial statements. Items of
a dissimilar nature or function shall be presented separately unless they are immaterial.

Omissions or misstatements of items are material if they could, individually or collectively, influence
the economic decisions of users taken on the basis of the financial statements. Materiality depends on
the size and nature of the omission or misstatement judged in the surrounding circumstances. The size
or nature of the item, or a combination of both, could be the determining factor. If a line item is not
individually material, it is aggregated with other items either on the face of those statements or in the
notes. An item that is not sufficiently material to warrant separate presentation on the face of those
statements may nevertheless be sufficiently material for it to be presented separately in the notes.
Assets and liabilities, and income and expenses, shall not be offset unless required or permitted by a
Standard or an Interpretation.

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An entity shall present current and non-current assets, and current and non-current liabilities, as
separate classifications on the face of its balance sheet except when a presentation based on liquidity
provides information that is reliable and is more relevant.
All items of income and expense recognised in a period shall be included in profit or loss unless a
Standard or an Interpretation requires otherwise.
An entity shall present an analysis of expenses using a classification based on either the nature of
expenses or their function within the entity, whichever provides information that is reliable and more
relevant.

An entity shall disclose, in the summary of significant accounting policies or other notes, the
judgements, apart from those involving estimations, that management has made in the process of
applying the entity’s accounting policies and that have the most significant effect on the amounts
recognised in the financial statements.
An entity shall disclose in the notes information about the key assumptions concerning the future, and
other key sources of estimation uncertainty at the balance sheet date, that have a significant risk of
causing a material adjustment to the carrying amounts of assets and liabilities within the next financial
year.
An entity shall disclose information that enables users of its financial statements to evaluate the
entity’s objectives, policies and processes for managing capital.

IAS 2 Inventories
The objective of this Standard is to prescribe the accounting treatment for inventories. A primary
issue in accounting for inventories is the amount of cost to be recognised as an asset and carried
forward until the related revenues are recognised. This Standard provides guidance on the
determination of cost and its subsequent recognition as an expense, including any write-down to net
realisable value. It also provides guidance on the cost formulas that are used to assign costs to
inventories.
Inventories shall be measured at the lower of cost and net realisable value.

Net realisable value is the estimated selling price in the ordinary course of business less the estimated
costs of completion and the estimated costs necessary to make the sale.
The cost of inventories shall comprise all costs of purchase, costs of conversion and other costs
incurred in bringing the inventories to their present location and condition.
The cost of inventories shall be assigned by using the first-in, first-out (FIFO) or weighted average
cost formula. An entity shall use the same cost formula for all inventories having a similar nature and
use to the entity. For inventories with a different nature or use, different cost formulas may be
justified. However, the cost of inventories of items that are not ordinarily interchangeable and goods
or services produced and segregated for specific projects shall be assigned by using specific
identification of their individual costs.
When inventories are sold, the carrying amount of those inventories shall be recognised as an expense
in the period in which the related revenue is recognised. The amount of any write-down of inventories
to net realisable value and all losses of inventories shall be recognised as an expense in the period the
write-down or loss occurs. The amount of any reversal of any write-down of inventories, arising from
an increase in net realisable value, shall be recognised as a reduction in the amount of inventories
recognised as an expense in the period in which the reversal occurs.

IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors

The objective of this Standard is 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 corrections of errors. The Standard is intended to enhance the

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relevance and reliability of an entity’s financial statements, and the comparability of those financial
statements over time and with the financial statements of other entities.
Accounting policies
Accounting policies are the specific principles, bases, conventions, rules and practices applied by an
entity in preparing and presenting financial statements. When a Standard or an Interpretation
specifically applies to a transaction, other event or condition, the accounting policy or policies applied
to that item shall be determined by applying the Standard or Interpretation and considering any
relevant Implementation Guidance issued by the IASB for the Standard or Interpretation.
In the absence of a Standard or an Interpretation that specifically applies to a transaction, other event
or condition, management shall use its judgement in developing and applying an accounting policy
that results in information that is relevant and reliable. In making the judgement management shall
refer to, and consider the applicability of, the following sources in descending order:

(a) the requirements and guidance in Standards and Interpretations dealing with similar and
related issues; and
(b) the definitions, recognition criteria and measurement concepts for assets, liabilities, income
and expenses in the Framework.

An entity shall select and apply its accounting policies consistently for similar transactions, other
events and conditions, unless a Standard or an Interpretation specifically requires or permits
categorisation of items for which different policies may be appropriate. If a Standard or an
Interpretation requires or permits such categorisation, an appropriate accounting policy shall be
selected and applied consistently to each category.
An entity shall change an accounting policy only if the change:

(a) is required by a Standard or an Interpretation; or

(b) results in the financial statements providing reliable and more relevant information about the
effects of transactions, other events or conditions on the entity’s financial position, financial
performance or cash flows.

An entity shall account for a change in accounting policy resulting from the initial application of a
Standard or an Interpretation in accordance with the specific
transitional provisions, if any, in that Standard or Interpretation. When an entity changes an
accounting policy upon initial application of a Standard or an Interpretation that does not include
specific transitional provisions applying to that change, or changes an accounting policy voluntarily, it
shall apply the change retrospectively. However, a change in accounting policy shall be applied
retrospectively except to the extent that it is impracticable to determine either the period-specific
effects or the cumulative effect of the change.
Change in accounting estimate
The use of reasonable estimates is an essential part of the preparation of financial statements and does
not undermine their reliability. A change in accounting estimate is an adjustment of the carrying
amount of an asset or a liability, or the amount of the periodic consumption of an asset, that results
from the assessment of the present status of, and expected future benefits and obligations associated
with, assets and liabilities. Changes in accounting estimates result from new information or new
developments and, accordingly, are not corrections of errors. The effect of a change in an accounting
estimate, shall be recognised prospectively by including it in profit or loss in:

(a) the period of the change, if the change affects that period only; or
(b) the period of the change and future periods, if the change affects both.

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Prior period errors
Prior period errors are omissions from, and misstatements in, the entity’s financial statements for one
or more prior periods arising from a failure to use, or misuse of, reliable information that:

(a) was available when financial statements for those periods were authorised for issue; and
(b) could reasonably be expected to have been obtained and taken into account in the preparation
and presentation of those financial statements.

Such errors include the effects of mathematical mistakes, mistakes in applying accounting policies,
oversights or misinterpretations of facts, and fraud.
Except to the extent that it is impracticable to determine either the period-specific effects or the
cumulative effect of the error, an entity shall correct material prior period errors retrospectively in the
first set of financial statements authorised for issue after their discovery by:

(a) restating the comparative amounts for the prior period(s) presented in which the error
occurred; or
(b) if the error occurred before the earliest prior period presented, restating the opening balances
of assets, liabilities and equity for the earliest prior period presented.

Omissions or misstatements of items are material if they could, individually or collectively, influence
the economic decisions of users taken on the basis of the financial statements.

IAS 10 Events after the Balance Sheet Date

The objective of this Standard is to prescribe:
(a) when an entity should adjust its financial statements for events after the balance sheet date; and
(b) the disclosures that an entity should give about the date when the financial statements were
authorised for issue and about events after the balance sheet date.
The Standard also requires that an entity should not prepare its financial statements on a going
concern basis if events after the balance sheet date indicate that the going concern assumption is not
appropriate.

Events after the balance sheet date are those events, favourable and unfavourable, that occur between
the balance sheet date and the date when the financial statements are authorised for issue. Two types
of events can be identified:

(a) those that provide evidence of conditions that existed at the balance sheet date (adjusting
events after the balance sheet date); and
(b) those that are indicative of conditions that arose after the balance sheet date (non-adjusting
events after the balance sheet date).

An entity shall adjust the amounts recognised in its financial statements to reflect adjusting events
after the balance sheet date.
An entity shall not adjust the amounts recognised in its financial statements to reflect non-adjusting
events after the balance sheet date. If non-adjusting events after the balance sheet date are material,
non-disclosure could influence the economic decisions of users taken on the basis of the financial
statements. Accordingly, an entity shall disclose the following for each material category of non-
adjusting event after the balance sheet date:
(a) the nature of the event; and
(b) an estimate of its financial effect, or a statement that such an estimate cannot be made.

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If an entity receives information after the balance sheet date about conditions that existed at the
balance sheet date, it shall update disclosures that relate to those conditions, in the light of the new
information.

IAS 11 Construction Contracts

The objective of this Standard is to prescribe the accounting treatment of revenue and costs associated
with construction contracts. Because of the nature of the activity undertaken in construction contracts,
the date at which the contract activity is entered into and the date when the activity is completed
usually fall into different accounting periods. Therefore, the primary issue in accounting for
construction contracts is the allocation of contract revenue and contract costs to the accounting
periods in which construction work is performed.
This Standard shall be applied in accounting for construction contracts in the financial statements of
contractors.
A construction contract is a contract specifically negotiated for the construction of an asset or a
combination of assets that are closely interrelated or interdependent in terms of their design,
technology and function or their ultimate purpose or use.
The requirements of this Standard are usually applied separately to each construction contract.
However, in certain circumstances, it is necessary to apply the Standard to the separately identifiable
components of a single contract or to a group of contracts together in order to reflect the substance of
a contract or a group of contracts.

Contract revenue shall comprise:

(a) the initial amount of revenue agreed in the contract; and
(b) variations in contract work, claims and incentive payments:
(i) to the extent that it is probable that they will result in revenue; and
(ii) they are capable of being reliably measured

Contract revenue is measured at the fair value of the consideration received or receivable.
Contract costs shall comprise:
(a) costs that relate directly to the specific contract;
(b) costs that are attributable to contract activity in general and can be allocated to the contract; and
(c) such other costs as are specifically chargeable to the customer under the terms of the contract.

When the outcome of a construction contract can be estimated reliably, contract revenue and contract
costs associated with the construction contract shall be recognised as revenue and expenses
respectively by reference to the stage of completion of the contract activity at the balance sheet date.
When the outcome of a construction contract cannot be estimated reliably:
(a) revenue shall be recognised only to the extent of contract costs incurred that it is probable will
be recoverable; and
(b) contract costs shall be recognised as an expense in the period in which they are incurred.
When it is probable that total contract costs will exceed total contract revenue, the expected loss shall
be recognised as an expense immediately.

IAS 12 Income Taxes

The objective of this Standard is to prescribe the accounting treatment for income taxes. For the
purposes of this Standard, income taxes include all domestic and foreign taxes which are based on
taxable profits. Income taxes also include taxes, such as withholding taxes, which are payable by a
subsidiary, associate or joint venture on distributions to the reporting entity.
The principal issue in accounting for income taxes is how to account for the current and future tax
consequences of:

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 (a) the future recovery (settlement) of the carrying amount of assets (liabilities) that are recognised
in an entity’s balance sheet; and
(b) transactions and other events of the current period that are recognised in an entity’s financial
statements.

Recognition
Current tax for current and prior periods shall, to the extent unpaid, be recognised as a liability. If the
amount already paid in respect of current and prior periods exceeds the amount due for those periods,
the excess shall be recognised as an asset. Current tax liabilities (assets) for the current and prior
periods shall be measured at the amount expected to be paid to (recovered from) the taxation
authorities, using the tax rates (and tax laws) that have been enacted or substantively enacted by the
balance sheet date.

It is inherent in the recognition of an asset or liability that the reporting entity expects to recover or
settle the carrying amount of that asset or liability. If it is probable that recovery or settlement of that
carrying amount will make future tax payments larger (smaller) than they would be if such recovery
or settlement were to have no tax consequences, this Standard requires an entity to recognise a
deferred tax liability (deferred tax asset), with certain limited exceptions.

A deferred tax asset shall be recognised for the carryforward of unused tax losses and unused tax
credits to the extent that it is probable that future taxable profit will be available against which the
unused tax losses and unused tax credits can be utilised.

Measurement
Deferred tax assets and liabilities shall be measured at the tax rates that are expected to apply to the
period when the asset is realised or the liability is settled, based on tax rates (and tax laws) that have
been enacted or substantively enacted by the balance sheet date.
The measurement of deferred tax liabilities and deferred tax assets shall reflect the tax consequences
that would follow from the manner in which the entity expects, at the balance sheet date, to recover or
settle the carrying amount of its assets and liabilities.
Deferred tax assets and liabilities shall not be discounted.
The carrying amount of a deferred tax asset shall be reviewed at each balance sheet date. An entity
shall reduce the carrying amount of a deferred tax asset to the extent that it is no longer probable that
sufficient taxable profit will be available to allow the benefit of part or that entire deferred tax asset to
be utilized. Any such reduction shall be reversed to the extent that it becomes probable that sufficient
taxable profit will be available.

Allocation
This Standard requires an entity to account for the tax consequences of transactions and other events
in the same way that it accounts for the transactions and other events themselves. Thus, for
transactions and other events recognised in profit or loss, any related tax effects are also recognised in
profit or loss. For transactions and other events recognised directly in equity, any related tax effects
are also recognised directly in equity. Similarly, the recognition of deferred tax assets and liabilities in
a business combination affects the amount of goodwill arising in that business combination or the

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amount of any excess of the acquirer’s interest in the net fair value of the acquiree’s identifiable
assets, liabilities and contingent liabilities over the cost of the combination.

IAS 16 Properties, Plant and Equipment

The objective of this Standard is to prescribe the accounting treatment for property, plant and
equipment so that users of the financial statements can discern information about an entity’s
investment in its property, plant and equipment and the changes in such investment. The principal
issues in accounting for property, plant and equipment are the recognition of the assets, the
determination of their carrying amounts and the depreciation charges and impairment losses to be
recognised in relation to them.

Property, plant and equipment are tangible items that:

(a) are held for use in the production or supply of goods or services, for rental to others, or for
administrative purposes; and
(b) are expected to be used during more than one period.

The cost of an item of property, plant and equipment shall be recognised as an asset if, and only if:
(a) it is probable that future economic benefits associated with the item will flow to the entity; and
(b) the cost of the item can be measured reliably.

Measurement at recognition: An item of property, plant and equipment that qualifies for recognition
as an asset shall be measured at its cost. The cost of an item of property, plant and equipment is the
cash price equivalent at the recognition date. If payment is deferred beyond normal credit terms, the
difference between the cash price equivalent and the total payment is recognised as interest over the
period of credit unless such interest is recognised in the carrying amount of the item in accordance
with the allowed alternative treatment in IAS 23.

The cost of an item of property, plant and equipment comprises:

(a) its purchase price, including import duties and non-refundable purchase taxes, after deducting
trade discounts and rebates.
(b) any costs directly attributable to bringing the asset to the location and condition necessary for it
to be capable of operating in the manner intended by management.
(c) the initial estimate of the costs of dismantling and removing the item and restoring the site on
which it is located, the obligation for which an entity incurs either when the item is acquired or as
a consequence of having used the item during a particular period for purposes other than to
produce inventories during that period.

Measurement after recognition: An entity shall choose either the cost model or the revaluation model
as its accounting policy and shall apply that policy to an entire class of property, plant and equipment.
Cost model: After recognition as an asset, an item of property, plant and equipment shall be carried at
its cost less any accumulated depreciation and any accumulated impairment losses.
Revaluation model: After recognition as an asset, an item of property, plant and equipment whose fair
value can be measured reliably shall be carried at a revalued amount, being its fair value at the date of
the revaluation less any subsequent accumulated depreciation and subsequent accumulated
impairment losses. Revaluations shall be made with sufficient regularity to ensure that the carrying
amount does not differ materially from that which would be determined using fair value at the balance
sheet date.

If an asset’s carrying amount is increased as a result of a revaluation, the increase shall be credited
directly to equity under the heading of revaluation surplus. However, the increase shall be recognised

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in profit or loss to the extent that it reverses a revaluation decrease of the same asset previously
recognised in profit or loss. If an asset’s carrying amount is decreased as a result of a revaluation, the
decrease shall be recognised in profit or loss. However, the decrease shall be debited directly to equity
under the heading of revaluation surplus to the extent of any credit balance existing in the revaluation
surplus in respect of that asset.

Depreciation is the systematic allocation of the depreciable amount of an asset over its useful life.
Depreciable amount is the cost of an asset, or other amount substituted for cost, less its residual value.
Each part of an item of property, plant and equipment with a cost that is significant in relation to the
total cost of the item shall be depreciated separately. The depreciation charge for each period shall be
recognised in profit or loss unless it is included in the carrying amount of another asset. The
depreciation method used shall reflect the pattern in which the asset’s future economic benefits are
expected to be consumed by the entity.
The residual value of an asset is the estimated amount that an entity would currently obtain from
disposal of the asset, after deducting the estimated costs of disposal, if the asset were already of the
age and in the condition expected at the end of its useful life.
To determine whether an item of property, plant and equipment is impaired, an entity applies IAS 36
Impairment of Assets.

The carrying amount of an item of property, plant and equipment shall be derecognised:
(a) on disposal; or
(b) when no future economic benefits are expected from its use or disposal.

IAS 17 Leases
The objective of this Standard is to prescribe, for lessees and lessors, the appropriate accounting
policies and disclosure to apply in relation to leases.
The classification of leases adopted in this Standard is based on the extent to which risks and rewards
incidental to ownership of a leased asset lie with the lessor or the lessee.
A lease is classified as a finance lease if it transfers substantially all the risks and rewards incidental to
ownership. A lease is classified as an operating lease if it does not transfer substantially all the risks
and rewards incidental to ownership.

Leases in the financial statements of lessees

Operating Leases
Lease payments under an operating lease shall be recognised as an expense on a straight-line basis
over the lease term unless another systematic basis is more representative of the time pattern of the
user’s benefit.

Finance Leases
At the commencement of the lease term, lessees shall recognise finance leases as assets and liabilities
in their balance sheets at amounts equal to the fair value of the leased property or, if lower, the present
value of the minimum lease payments, each determined at the inception of the lease. The discount rate
to be used in calculating the present value of the minimum lease payments is the interest rate implicit
in the lease, if this is practicable to determine; if not, the lessee’s incremental borrowing rate shall be
used. Any initial direct costs of the lessee are added to the amount recognised as an asset.
Minimum lease payments shall be apportioned between the finance charge and the reduction of the
outstanding liability. The finance charge shall be allocated to each period during the lease term so as
to produce a constant periodic rate of interest on the remaining balance of the liability. Contingent
rents shall be charged as expenses in the periods in which they are incurred.

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A finance lease gives rise to depreciation expense for depreciable assets as well as finance expense for
each accounting period. The depreciation policy for depreciable leased assets shall be consistent with
that for depreciable assets that are owned, and the depreciation recognised shall be calculated in
accordance with IAS 16 Property, Plant and Equipment and IAS 38 Intangible Assets. If there is no
reasonable certainty

that the lessee will obtain ownership by the end of the lease term, the asset shall be fully depreciated
over the shorter of the lease term and its useful life.

Leases in the financial statements of lessors

Operating Leases
Lessors shall present assets subject to operating leases in their balance sheets according to the nature
of the asset. The depreciation policy for depreciable leased assets shall be consistent with the lessor’s
normal depreciation policy for similar assets, and depreciation shall be calculated in accordance with
IAS 16 and IAS 38. Lease income from operating leases shall be recognised in income on a straight-
line basis over the lease term, unless another systematic basis is more representative of the time
pattern in which use benefit derived from the leased asset is diminished

Finance Leases
Lessors shall recognise assets held under a finance lease in their balance sheets and present them as a
receivable at an amount equal to the net investment in the lease. The recognition of finance income
shall be based on a pattern reflecting a constant periodic rate of return on the lessor’s net investment
in the finance lease.
Manufacturer or dealer lessors shall recognise selling profit or loss in the period, in accordance with
the policy followed by the entity for outright sales. If artificially low rates of interest are quoted,
selling profit shall be restricted to that which would apply if a market rate of interest were charged.
Costs incurred by manufacturer or dealer lessors in connection with negotiating and arranging a lease
shall be recognised as an expense when the selling profit is recognised.

Sale and leaseback transactions

A sale and leaseback transaction involves the sale of an asset and the leasing back of the same asset.
The lease payment and the sale price are usually interdependent because they are negotiated as a
package. The accounting treatment of a sale and leaseback transaction depends upon the type of lease
involved.

IAS 18 Revenue
The primary issue in accounting for revenue is determining when to recognise revenue. Revenue is
recognised when it is probable that future economic benefits will flow to the entity and these benefits
can be measured reliably. This Standard identifies the circumstances in which these criteria will be
met and, therefore, revenue will be recognised. It also provides practical guidance on the application
of these criteria.
Revenue is the gross inflow of economic benefits during the period arising in the course of the
ordinary activities of an entity when those inflows result in increases in equity, other than increases
relating to contributions from equity participants.
This Standard shall be applied in accounting for revenue arising from the following transactions and
events:

(a) the sale of goods;

(b) the rendering of services; and

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(c) the use by others of entity assets yielding interest, royalties and dividends.

The recognition criteria in this Standard are usually applied separately to each transaction. However,
in certain circumstances, it is necessary to apply the recognition criteria to the separately identifiable
components of a single transaction in order to reflect the substance of the transaction. For example,
when the selling price of a product includes an identifiable amount for subsequent servicing, that
amount is deferred and recognised as revenue over the period during which the service is performed.
Conversely, the recognition criteria are applied to two or more transactions together when they are
linked in such a way that the commercial effect cannot be understood without reference to the series
of transactions as a whole. For example, an entity may sell goods and, at the same time, enter into a
separate agreement to repurchase the goods at a later date, thus negating the substantive effect of the
transaction; in such a case, the two transactions are dealt with together.
Revenue shall be measured at the fair value of the consideration received or receivable. Fair value is
the amount for which an asset could be exchanged, or a liability settled, between knowledgeable,
willing parties in an arm’s length transaction.
The amount of revenue arising on a transaction is usually determined by agreement between the entity
and the buyer or user of the asset. It is measured at the fair value of the consideration received or
receivable taking into account the amount of any trade discounts and volume rebates allowed by the
entity.

Sale of goods
Revenue from the sale of goods shall be recognised when all the following conditions have been
satisfied:

(a) the entity has transferred to the buyer the significant risks and rewards of ownership of the goods;
(b) the entity retains neither continuing managerial involvement to the degree usually associated with
ownership nor effective control over the goods sold;
(c) the amount of revenue can be measured reliably;
(d) it is probable that the economic benefits associated with the transaction will flow to the entity; and
(e) the costs incurred or to be incurred in respect of the transaction can be measured reliably.

Rendering of services
When the outcome of a transaction involving the rendering of services can be estimated reliably,
revenue associated with the transaction shall be recognised by reference to the stage of completion of
the transaction at the balance sheet date. The outcome of a transaction can be estimated reliably when
all the following conditions are satisfied:

(a) the amount of revenue can be measured reliably;

(b) it is probable that the economic benefits associated with the transaction will flow to the entity;

(c) the stage of completion of the transaction at the balance sheet date can be measured reliably; and

(d) the costs incurred for the transaction and the costs to complete the transaction can be measured
reliably.

The recognition of revenue by reference to the stage of completion of a transaction is often referred to
as the percentage of completion method. Under this method, revenue is recognised in the accounting
periods in which the services are rendered. The recognition of revenue on this basis provides useful
information on the extent of service activity and performance during a period.

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When the outcome of the transaction involving the rendering of services cannot be estimated reliably,
revenue shall be recognised only to the extent of the expenses recognised that are recoverable.

Interest, royalties and dividends

Revenue shall be recognised on the following bases:
(a) interest shall be recognised using the effective interest method as set out in IAS 39, paragraphs 9
and AG5–AG8;
(b) royalties shall be recognised on an accrual basis in accordance with the substance of the relevant
agreement; and
(c) dividends shall be recognised when the shareholder’s right to receive payment is established.

IAS 20 Accounting for Government Grants and Disclosure of Government Assistance

This Standard shall be applied in accounting for, and in the disclosure of, government grants and in
the disclosure of other forms of government assistance.
Government grants are assistance by government in the form of transfers of resources to an entity in
return for past or future compliance with certain conditions relating to the operating activities of the
entity. They exclude those forms of government assistance which cannot reasonably have a value
placed upon them and transactions with government which cannot be distinguished from the normal
trading transactions of the entity.
Government assistance is action by government designed to provide an economic benefit specific to
an entity or range of entities qualifying under certain criteria. Government assistance for the purpose
of this Standard does not include benefits provided only indirectly through action affecting general
trading conditions, such as the provision of infrastructure in development areas or the imposition of
trading constraints on competitors.
In this Standard, government assistance does not include the provision of infrastructure by
improvement to the general transport and communication network and the supply of improved
facilities such as irrigation or water reticulation which is available on an ongoing indeterminate basis
for the benefit of an entire local community.
A government grant may take the form of a transfer of a non-monetary asset, such as land or other
resources, for the use of the entity. In these circumstances it is usual to assess the fair value of the
non-monetary asset and to account for both grant and asset at that fair value.
Government grants, including non-monetary grants at fair value, shall not be recognised until there is
reasonable assurance that:

(a) the entity will comply with the conditions attaching to them; and
(b) the grants will be received.

Government grants shall be recognised as income over the periods necessary to match them with the
related costs which they are intended to compensate, on a systematic basis.
A government grant that becomes receivable as compensation for expenses or losses already incurred
or for the purpose of giving immediate financial support to the entity with no future related costs shall
be recognised as income of the period in which it becomes receivable.
Grants related to assets are government grants whose primary condition is that an entity qualifying
for them should purchase, construct or otherwise acquire long-term assets. Subsidiary conditions may
also be attached restricting the type or location of the assets or the periods during which they are to be
acquired or held.

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Government grants related to assets, including non-monetary grants at fair value, shall be presented in
the balance sheet either by setting up the grant as deferred income or by deducting the grant in
arriving at the carrying amount of the asset.
Grants related to income are government grants other than those related to assets.
Grants related to income are sometimes presented as a credit in the income statement, either
separately or under a general heading such as ‘Other income’; alternatively, they are deducted in
reporting the related expense.
A government grant that becomes repayable shall be accounted for as a revision to an accounting
estimate (see IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors). Repayment
of a grant related to income shall be applied first against any unamortised deferred credit set up in
respect of the grant. To the extent that the repayment exceeds any such deferred credit, or where no
deferred credit exists, the repayment shall be recognised immediately as an expense. Repayment of a
grant related to an asset shall be recorded by increasing the carrying amount of the asset or reducing
the deferred income balance by the amount repayable. The cumulative additional depreciation that
would have been recognised to date as an expense in the absence of the grant shall be recognised
immediately as an expense.

The following matters shall be disclosed:

(a) the accounting policy adopted for government grants, including the methods of presentation
adopted in the financial statements;
(b) the nature and extent of government grants recognised in the financial statements and an
indication of other forms of government assistance from which the entity has directly benefited;
and
(c) Unfulfilled conditions and other contingencies attaching to government assistance that has been
recognised.

IAS 23 Borrowing Costs

The objective of this Standard is to prescribe the accounting treatment for borrowing costs.
Borrowing costs are interest and other costs incurred by an entity in connection with the borrowing of
funds.

Benchmark treatment – Borrowing costs shall be recognised as an expense in the period in which they
are incurred.

Allowed alternative treatment – Borrowing costs shall be recognised as an expense in the period in
which they are incurred, except to the extent that they are capitalized.
Borrowing costs that are directly attributable to the acquisition, construction or production of a
qualifying asset shall be capitalised as part of the cost of that asset. The amount of borrowing costs
eligible for capitalisation shall be determined in accordance with this Standard.
A qualifying asset is an asset that necessarily takes a substantial period of time to get ready for its
intended use or sale.

To the extent that funds are borrowed specifically for the purpose of obtaining a qualifying asset, the
amount of borrowing costs eligible for capitalisation on that asset shall be determined as the actual
borrowing costs incurred on that borrowing during the period less any investment income on the
temporary investment of those borrowings.

To the extent that funds are borrowed generally and used for the purpose of obtaining a qualifying
asset, the amount of borrowing costs eligible for capitalization shall be determined by applying a
capitalization rate to the expenditures on that asset. The capitalization rate shall be the weighted

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average of the borrowing costs applicable to the borrowings of the entity that are outstanding during
the period, other than borrowings made specifically for the purpose of obtaining a qualifying asset.
The amount of borrowing costs capitalised during a period shall not exceed the amount of borrowing
costs incurred during that period.

The capitalization of borrowing costs as part of the cost of a qualifying asset shall commence when:
(a) expenditures for the asset are being incurred;
(b) borrowing costs are being incurred; and
(c) activities that are necessary to prepare the asset for its intended use or sale are in progress.

Capitalisation of borrowing costs shall be suspended during extended periods in which active
development is interrupted.
Capitalisation of borrowing costs shall cease when substantially all the activities necessary to prepare
the qualifying asset for its intended use or sale are complete.

The financial statements shall disclose:

(a) the accounting policy adopted for borrowing costs;
(b) the amount of borrowing costs capitalised during the period; and
(c) the capitalisation rate used to determine the amount of borrowing costs eligible for capitalisation.

IAS 37 Provisions, Contingent Liabilities and Contingent Assets

The objective of this Standard is to ensure that appropriate recognition criteria and measurement bases
are applied to provisions, contingent liabilities and contingent assets and that sufficient information is
disclosed in the notes to enable users to understand their nature, timing and amount.
IAS 37 prescribes the accounting and disclosure for all provisions, contingent liabilities and
contingent assets, except:
(a) those resulting from executory contracts, except where the contract is onerous. Executory
contracts are contracts under which neither party has performed any of its obligations or both
parties have partially performed their obligations to an equal extent;
(b) those covered by another Standard.

Provisions
A provision is a liability of uncertain timing or amount.

Recognition
A provision should be recognised when, and only when:
(a) an entity has a present obligation (legal or constructive) as a result of a past event;
(b) it is probable (ie more likely than not) that an outflow of resources embodying economic
benefits will be required to settle the obligation; and
(c) a reliable estimate can be made of the amount of the obligation. The Standard notes that it is only
in extremely rare cases that a reliable estimate will not be possible.
In rare cases it is not clear whether there is a present obligation. In these cases, a past event is deemed
to give rise to a present obligation if, taking account of all available evidence, it is more likely than
not that a present obligation exists at the balance sheet date.

Measurement
The amount recognised as a provision shall be the best estimate of the expenditure required to settle
the present obligation at the balance sheet date. The best estimate of the expenditure required to settle
the present obligation is the amount that an entity would rationally pay to settle the obligation at the
balance sheet date or to transfer it to a third party at that time.

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Where the provision being measured involves a large population of items, the obligation is estimated
by weighting all possible outcomes by their associated probabilities. Where a single obligation is
being measured, the individual most likely outcome may be the best estimate of the liability.
However, even in such a case, the entity considers other possible outcomes.

Contingent liabilities
A contingent liability is:
(a) a possible obligation that arises from past events and whose existence will be confirmed only by
the occurrence or non-occurrence of one or more uncertain future events not wholly within the control
of the entity; or
(b) a present obligation that arises from past events but is not recognised because:
(i) it is not probable that an outflow of resources embodying economic benefits will be
required to settle the obligation; or
(ii) the amount of the obligation cannot be measured with sufficient reliability.

An entity should not recognise a contingent liability. An entity should disclose a contingent liability,
unless the possibility of an outflow of resources embodying economic benefits is remote.

Contingent assets
A contingent asset is a possible asset that arises from past events and whose existence will be
confirmed only by the occurrence or non-occurrence of one or more uncertain future events not
wholly within the control of the entity.
An entity shall not recognise a contingent asset. However, when the realisation of income is virtually
certain, then the related asset is not a contingent asset and its recognition is appropriate.

IAS 38 Intangible Assets

The objective of this Standard is to prescribe the accounting treatment for intangible assets that are
not dealt with specifically in another Standard. This Standard requires an entity to recognise an
intangible asset if, and only if, specified criteria are met. The Standard also specifies how to measure
the carrying amount of intangible assets and requires specified disclosures about intangible assets.
An intangible asset is an identifiable non-monetary asset without physical substance.

Recognition and measurement

The recognition of an item as an intangible asset requires an entity to demonstrate that the item meets:

(a) the definition of an intangible asset; and

(b) the recognition criteria.

This requirement applies to costs incurred initially to acquire or internally generate an intangible asset
and those incurred subsequently to add to, replace part of, or service it.
An asset meets the identifiability criterion in the definition of an intangible asset when it:

(a) is separable, ie is capable of being separated or divided from the entity and sold, transferred,
licensed, rented or exchanged, either individually or together with a related contract, asset or liability;
or
(b) arises from contractual or other legal rights, regardless of whether those rights are transferable or
separable from the entity or from other rights and obligations.

An intangible asset shall be recognised if, and only if:

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(a) it is probable that the expected future economic benefits that are attributable to the asset will flow
to the entity; and
(b) the cost of the asset can be measured reliably.

The probability recognition criterion is always considered to be satisfied for intangible assets that are
acquired separately or in a business combination.
An intangible asset shall be measured initially at cost.

The cost of a separately acquired intangible asset comprises:

(a) its purchase price, including import duties and non-refundable purchase taxes, after deducting
trade discounts and rebates; and
(b) any directly attributable cost of preparing the asset for its intended use.

In accordance with IFRS 3 Business Combinations, if an intangible asset is acquired in a business

combination, the cost of that intangible asset is its fair value at the acquisition date. The only
circumstances in which it might not be possible to measure reliably the fair value of an intangible
asset acquired in a business combination are when the intangible asset arises from legal or other
contractual rights and either:
(a) is not separable; or
(b) is separable, but there is no history or evidence of exchange transactions for the same or similar
assets, and otherwise estimating fair value would be dependent on immeasurable variables.

Internally generated intangible assets

Internally generated goodwill shall not be recognised as an asset.
No intangible asset arising from research (or from the research phase of an internal project) shall be
recognised. Expenditure on research (or on the research phase of an internal project) shall be
recognised as an expense when it is incurred.
An intangible asset arising from development (or from the development phase of an internal project)
shall be recognised if, and only if, an entity can demonstrate all of the following:

(a) the technical feasibility of completing the intangible asset so that it will be available for use or
sale.
(b) its intention to complete the intangible asset and use or sell it.
(c) its ability to use or sell the intangible asset.
(d) how the intangible asset will generate probable future economic benefits. Among other things, the
entity can demonstrate the existence of a market for the output of the intangible asset or the intangible
asset itself or, if it is to be used internally, the usefulness of the intangible asset.
(e) the availability of adequate technical, financial and other resources to complete the development
and to use or sell the intangible asset.
(f) its ability to measure reliably the expenditure attributable to the intangible asset during its
development.

Internally generated brands, mastheads, publishing titles, customer lists and items similar in substance
shall not be recognised as intangible assets.
The cost of an internally generated intangible asset for the purpose of paragraph 24 is the sum of
expenditure incurred from the date when the intangible asset first meets the recognition criteria in
paragraphs 21, 22 and 57. Paragraph 71 prohibits reinstatement of expenditure previously recognised
as an expense.
Expenditure on an intangible item shall be recognised as an expense when it is incurred unless:

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(a) it forms part of the cost of an intangible asset that meets the recognition criteria; or

(b) the item is acquired in a business combination and cannot be recognised as an intangible asset. If
this is the case, this expenditure (included in the cost of the business combination) shall form part of
the amount attributed to goodwill at the acquisition date (see IFRS 3 Business Combinations).

Measurement after recognition

An entity shall choose either the cost model or the revaluation model as its accounting policy. If an
intangible asset is accounted for using the revaluation model, all the other assets in its class shall also
be accounted for using the same model, unless there is no active market for those assets.
Cost model: After initial recognition, an intangible asset shall be carried at its cost less any
accumulated amortization and any accumulated impairment losses.
Revaluation model: After initial recognition, an intangible asset shall be carried at a revalued amount,
being its fair value at the date of the revaluation less any subsequent accumulated amortisation and
any subsequent accumulated impairment losses. For the purpose of revaluations under this Standard,
fair value shall be determined by reference to an active market. Revaluations shall be made with such
regularity that at the balance sheet date the carrying amount of the asset does not differ materially
from its fair value.

An active market is a market in which all the following conditions exist:

(a) the items traded in the market are homogeneous;
(b) willing buyers and sellers can normally be found at any time; and
(c) prices are available to the public.

If an intangible asset’s carrying amount is increased as a result of a revaluation, the increase shall be
credited directly to equity under the heading of revaluation surplus. However, the increase shall be
recognised in profit or loss to the extent that it reverses a revaluation decrease of the same asset
previously recognised in profit or loss. If an intangible asset’s carrying amount is decreased as a result
of a revaluation, the decrease shall be recognised in profit or loss. However, the decrease shall be
debited directly to equity under the heading of revaluation surplus to the extent of any credit balance
in the revaluation surplus in respect of that asset.

Useful life
An entity shall assess whether the useful life of an intangible asset is finite or indefinite and, if finite,
the length of, or number of production or similar units constituting, that useful life. An intangible
asset shall be regarded by the entity as having an indefinite useful life when, based on an analysis of
all of the relevant factors, there is no foreseeable limit to the period over which the asset is expected
to generate net cash inflows for the entity.
Useful life is:

(a) the period over which an asset is expected to be available for use by an entity; or
(b) the number of production or similar units expected to be obtained from the asset by an entity.

The useful life of an intangible asset that arises from contractual or other legal rights shall not exceed
the period of the contractual or other legal rights, but may be shorter depending on the period over
which the entity expects to use the asset. If the contractual or other legal rights are conveyed for a
limited term that can be renewed, the useful life of the intangible asset shall include the renewal
period(s) only if there is evidence to support renewal by the entity without significant cost.

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To determine whether an intangible asset is impaired, an entity applies IAS 36 Impairment of Assets.

Intangible assets with finite useful lives

The depreciable amount of an intangible asset with a finite useful life shall be allocated on a
systematic basis over its useful life. Depreciable amount is the cost of an asset, or other amount
substituted for cost, less its residual value. Amortisation shall begin when the asset is available for
use, ie when it is in the location and condition necessary for it to be capable of operating in the
manner intended by management.

Amortisation shall cease at the earlier of the date that the asset is classified as held for sale (or
included in a disposal group that is classified as held for sale) in accordance with IFRS 5 Non-current
Assets Held for Sale and Discontinued Operations and the date that the asset is derecognised. The
amortisation method used shall reflect the pattern in which the asset's future economic benefits are
expected to be consumed by the entity. If that pattern cannot be determined reliably, the straight-line
method shall be used. The amortisation charge for each period shall be recognised in profit or loss
unless this or another Standard permits or requires it to be included in the carrying amount of another
asset.

The residual value of an intangible asset is the estimated amount that an entity would currently obtain
from disposal of the asset, after deducting the estimated costs of disposal, if the asset were already of
the age and in the condition expected at the end of its useful life. The residual value of an intangible
asset with a finite useful life shall be assumed to be zero unless:

(a) there is a commitment by a third party to purchase the asset at the end of its useful life; or
(b) there is an active market for the asset and:
(i) residual value can be determined by reference to that market; and
(ii) it is probable that such a market will exist at the end of the asset’s useful life.

The amortisation period and the amortisation method for an intangible asset with a finite useful life
shall be reviewed at least at each financial year-end. If the expected useful life of the asset is different
from previous estimates, the amortisation period shall be changed accordingly. If there has been a
change in the expected pattern of consumption of the future economic benefits embodied in the asset,
the amortisation method shall be changed to reflect the changed pattern. Such changes shall be
accounted for as changes in accounting estimates in accordance with IAS 8.

Intangible assets with indefinite useful lives

An intangible asset with an indefinite useful life shall not be amortised.
In accordance with IAS 36 Impairment of Assets, an entity is required to test an intangible asset with
an indefinite useful life for impairment by comparing its recoverable amount with its carrying amount
(a) annually, and
(b) whenever there is an indication that the intangible asset may be impaired.

The useful life of an intangible asset that is not being amortised shall be reviewed each period to
determine whether events and circumstances continue to support an indefinite useful life assessment
for that asset. If they do not, the change in the useful life assessment from indefinite to finite shall be
accounted for as a change in an accounting estimate in accordance with IAS 8 Accounting Policies,
Changes in Accounting Estimates and Errors.

IAS 40 Investment Property

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The objective of this Standard is to prescribe the accounting treatment for investment property and
related disclosure requirements.
Investment property is property (land or a building—or part of a building—or both) held (by the
owner or by the lessee under a finance lease) to earn rentals or for capital appreciation or both, rather
than for:

(a) use in the production or supply of goods or services or for administrative purposes; or
(b) sale in the ordinary course of business.

A property interest that is held by a lessee under an operating lease may be classified and accounted
for as investment property provided that:

(a) the rest of the definition of investment property is met;

(b) the operating lease is accounted for as if it were a finance lease in accordance with IAS 17 Leases;
and
(c) the lessee uses the fair value model set out in this Standard for the asset recognised.

Investment property shall be recognised as an asset when, and only when:

(a) it is probable that the future economic benefits that are associated with the investment property
will flow to the entity; and
(b) the cost of the investment property can be measured reliably.

An investment property shall be measured initially at its cost. Transaction costs shall be included in
the initial measurement.
The initial cost of a property interest held under a lease and classified as an investment property shall
be as prescribed for a finance lease by paragraph 20 of IAS 17, ie the asset shall be recognised at the
lower of the fair value of the property and the present value of the minimum lease payments. An
equivalent amount shall be recognised as a liability in accordance with that same paragraph.
The Standard permits entities to choose either:

(a) a fair value model, under which an investment property is measured, after initial measurement, at
fair value with changes in fair value recognised in profit or loss; or
(b) a cost model. The cost model is specified in IAS 16 and requires an investment property to be
measured after initial measurement at depreciated cost (less any accumulated impairment losses). An
entity that chooses the cost model discloses the fair value of its investment property.

The fair value of investment property is the price at which the property could be exchanged between
knowledgeable, willing parties in an arm’s length transaction.
An investment property shall be derecognised (eliminated from the balance sheet) on disposal or
when the investment property is permanently withdrawn from use and no future economic benefits are
expected from its disposal.
Gains or losses arising from the retirement or disposal of investment property shall be determined as
the difference between the net disposal proceeds and the carrying amount of the asset and shall be
recognised in profit or loss (unless IAS 17 requires otherwise on a sale and leaseback) in the period of
the retirement or disposal.

IAS 41 Agriculture
The objective of this Standard is to prescribe the accounting treatment and disclosures related to
agricultural activity.

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Agricultural activity is the management by an entity of the biological transformation of biological
assets for sale, into agricultural produce, or into additional biological assets. Biological
transformation comprises the processes of growth, degeneration, production, and procreation that
cause qualitative or quantitative changes in a biological asset. A biological asset is a living animal or
plant. Agricultural produce is the harvested product of the entity’s biological assets. Harvest is the
detachment of produce from a biological asset or the cessation of a biological asset’s life processes.

IAS 41 prescribes, among other things, the accounting treatment for biological assets during the
period of growth, degeneration, production, and procreation, and for the initial measurement of
agricultural produce at the point of harvest. It requires measurement at fair value less estimated point-
of-sale costs from initial recognition of biological assets up to the point of harvest, other than when
fair value cannot be measured reliably on initial recognition. This Standard is applied to agricultural
produce, which is the harvested product of the entity's biological assets, only at the point of harvest.
Thereafter, IAS 2 Inventories or another applicable Standard is applied. Accordingly, this Standard
does not deal with the processing of agricultural produce after harvest; for example, the processing of
grapes into wine by a vintner who has grown the grapes.

Fair value is the amount for which an asset could be exchanged, or a liability settled, between
knowledgeable, willing parties in an arm’s length transaction. Point-of-sale costs include commissions
to brokers and dealers, levies by regulatory agencies and commodity exchanges, and transfer taxes
and duties. Point-of-sale costs exclude transport and other costs necessary to get assets to a market.
IAS 41 requires that a change in fair value less estimated point-of-sale costs of a biological asset be
included in profit or loss for the period in which it arises. In agricultural activity, a change in physical
attributes of a living animal or plant directly enhances or diminishes economic benefits to the entity.
IAS 41 does not establish any new principles for land related to agricultural activity. Instead, an entity
follows IAS 16 Property, Plant and Equipment or IAS 40 Investment Property, depending on which
standard is appropriate in the circumstances. IAS 16 requires land to be measured either at its cost less
any accumulated impairment losses, or at a revalued amount. IAS 40 requires land that is investment
property to be measured at its fair value, or cost less any accumulated impairment losses. Biological
assets that are physically attached to land (for example, trees in a plantation forest) are measured at
their fair value less estimated point-of-sale costs separately from the land.

IAS 41 requires that an unconditional government grant related to a biological asset measured at its
fair value less estimated point-of-sale costs be recognised as income when, and only when, the
government grant becomes receivable. If a government grant is conditional, including where a
government grant requires an entity not to engage in specified agricultural activity, an entity should
recognise the government grant as income when, and only when, the conditions attaching to the
government grant are met. If a government grant relates to a biological asset measured at its cost less
any accumulated depreciation and any accumulated impairment losses, IAS 20 Accounting for
Government Grants and Disclosure of Government Assistance is applied.

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