The ExP Group

ACCA SBR ExPress

Notes
Strategic Business Reporting

SBL SBR AFM APM ATX AAA

BT MA FA LW PM TX FR AA FM

Valid for September 2022, December 2022, March 2023 and June 2023 exam sittings
 ACCA SBR ExPress Notes The ExP Group

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Welcome to your ExPress notes 3
1. Group Accounting 4
2. IAS 21 11
3. IAS 7 16
4. IAS 37 20
5. IAS 12 22
6. IAS 19 25
7. Financial Instruments 29
8. IFRS 2 33
9. IAS 16 38
10. IAS 38 41
11. IAS 36 44
12. IFRS 15 46
13. IAS 8 47

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 ACCA SBR ExPress Notes The ExP Group

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 Group Accounting

The Big Picture

Section A of the SBR exam will consist of two scenario based questions. Group financial statements are
likely to be included.

These notes focus on the areas of groups that are new to the SBR paper from the FR paper, though we
start with some core definitions and workings that should be familiar from the FR paper.

Consolidation is the process of replacing the single figure for “investment in subsidiary” in the individual
financial statements of the parent with more useful information about what assets, liabilities, income and
expenditure the parent company controls via its investment, ie:

Net assets in the subsidiary’s financial

statements (ie equity or capital plus
reserves) at the acquisition date.

Consideration transferred to buy

subsidiary (as shown in the Non-controlling interests’ share of the
parent company’s individual net assets of the subsidiary.
accounts)

Goodwill arising on acquisition

(premium paid to acquire the
subsidiary).

Consolidation is basically a double entry to derecognise the carrying value of the investment (Cr
Investment in subsidiary) and recognise the individual assets (Dr PP&E, etc), the liabilities (Cr Payables,
etc), the non-controlling interest (CR NCI) and recognise goodwill as a balancing, residual, item
(normally DR Goodwill).

Page 4
Key definitions - what group accounting is trying to do
Subsidiary Any entity that is controlled by another entity, normally by having
more than 50% of the voting power, though there is no minimum
shareholding.

Parent An entity that controls one or more entities.

Associate A company in which the parent has significant influence, but not
control nor joint control (as with a joint venture).
An investor controls an investee when it is exposed, or has rights,
Control
to variable returns from its involvement with the investee and has
the ability to affect those returns through its power over the
investee.
Significant influence The power to participate in, but not control, the financial and
operating policy decisions of an entity

Equity Equity is defined in the Framework document as assets less

liabilities. By definition, this is the same as capital and reserves of
any company at any date in time. In group accounting, we very
frequently use the capital + reserves = net assets. For example,
this is used to work out the net assets on the date of acquiring
control of a company (as part of the goodwill working) and to
work out post-acquisition growth in a subsidiary’s assets (ie post-
acquisition profit).

Group reserves The cumulative gains made under the control of the parent. The
parent company’s reserves, plus the post-acquisition retained
gains of all subsidiaries, joint ventures and associates.

Non-controlling Formerly called minority interest. The share of the net assets and
interest gains of a subsidiary that is not owned by the parent.

Goodwill The premium paid by the parent to acquire its interest in a

subsidiary or associate.

Key workings - hopefully familiar from the FR paper,

but revise thoroughly
Group retained earnings

Produce one column for each company under the parent company’s influence. Then work down the
rows methodically, perhaps using the mnemonic TOP TIP PET to make sure you haven’t forgotten
anything. If the question has different types of reserves (eg revaluation reserve as well as retained
earnings) you will need to do a separate working like the one below for each reserve to be shown in the
group SOFP.

Page 5
 Parent Sub 1 Sub 2 Assoc
$’000 $’000 $’000 $’000
Today 10,000 4,000 3,000 4,500
Omissions/ errors to correct in the individual 400 200 (50)
financial statements of each company
Provision (eg for unrealised profit) (20) (50) -
Time passage effects (eg write-off of fair value (40) 20
adjustments)
Impairments of goodwill (cumulative) (30)
Sub-total 10,350 4,110 2,970 4,500
Pre-acquisition reserves (2,000) (1,800) (4,200)
Post-acquisition 10,350 2,110 1,170 300
x Effective ownership x 100% x 60 % x 40% x 40%
**
10,350 1,266 468 120
TOTAL 12,204

** This is not a typo! A subsidiary may still be a subsidiary if an effective ownership of less than 50% still
gives the parent control. See multiple groups below.

Non-controlling interests

These show the net assets controlled by the parent and so part of the group, but not actually owned by
the parent. There is no need to consider pre- and post-acquisition profits when calculating non-
controlling interests in the SOFP.

Sub 1 Sub 2
$’000 $’000
Capital and share premium at SOFP date 800 400
Reserves, as consolidated (see eg above) 4,110 2,970
Fair value adjustments at acquisition 250 (80)
Less: Any items in the individual company’s (50) -
SOFP not recognised in the group SOFP (see
below)
Net assets (ie equity) as consolidated in the 5,110 3,290
group SOFP
x NCI % 40% 60%
Non-controlling interest 2,044 1,974
Total non-controlling interest 4,018

Page 6
Goodwill on a business combination

Fair value of consideration transferred 2,240

Less: Fair value of identifiable net assets acquired, calculated as:

Capital and share premium of target 800

Reserves of target at acquisition date 2,000

Net assets (equity) of target at target’s book value 2,800

Fair value adjustments to target’s net assets 250

Net assets (equity) of target at fair value 3,050

X % acquired (60%) (1,830)
Goodwill arising in books of parent for consolidation 410

Goodwill: gross (“total”) or net (“partial”)?

The standard double entry working above produces a goodwill figures as it relates to the parent’s share.
Imagine that the fair value paid for the subsidiary was the fair value for a 60% stake. Then we deduct
60% of the net assets. This logically gives 60% or thereabouts of the total implied goodwill (eg
reputation, client list, motivated staff) of the subsidiary.

IFRS 3 allows groups a choice with each acquisition whether to leave goodwill net as above, or gross it
up to show the implied total value of goodwill. In order to do the gross up, it is necessary to be given
the fair value of the non-controlling interests’ stake in the business at the acquisition date. This would
be given in the exam.

Example
Non-controlling interest at fair value at acquisition date 1,350
Fair value of consideration transferred for 60% stake 2,240
Implied total value of company 3,590
Less: Fair value of identifiable net assets (3,050)
Implied total goodwill 540

Partial goodwill automatically recognised (see above) 410

Gross-up required for total goodwill recognition 130

This gross up, if chosen as the accounting policy, would be recognised as:

Dr Goodwill 130
Cr Non-controlling interests 130

Page 7
Fair values

When buying a company, its previous owner will only accept the fair value of the company as
consideration, or they will not sell!

In order to give a true and fair picture of the actual goodwill purchased, it is therefore necessary to
record all the assets and liabilities acquired in the subsidiary at their fair value.

Fair value is defined in IFRS 13 as the price that would be received to sell an asset or paid to transfer
liability in an orderly transaction between market participants at measurement date; i.e. it is an exit
price or estimated using a valuation technique. A few notable fair value adjustments are:

Consideration paid includes the market value of any shares paid. Any contingent consideration is valued
assuming that it will be paid, even if this is not certain.

Acquisition costs are written off immediately.

Contingent liabilities of the subsidiary will be shown in the individual accounts at zero value, but their
existence would reduce the amount the acquirer is willing to pay. They are therefore revalued as if they
were provisions in the fair value exercise.

Changes in group structure

Disposals

The gain or loss on disposal of anything is the increase or decrease in net assets recognised as a result
of the transaction.

Proceeds (what is coming into the SOFP in the transaction) X

Less: Carrying value derecognised (what leaves the SOFP) (X)

Profit or loss on disposal (the increase or decrease in net assets) X

The carrying value of a subsidiary in a group SOFP comprises:

• Individual assets and liabilities of the subsidiary at the SOFP date

• Goodwill remaining from the purchase by the parent
• Non-controlling interests at the SOFP date.

Therefore, the gain or loss on derecognition of a subsidiary is:

Proceeds (what is coming into the SOFP in the transaction) X

Less:

Individual assets and liabilities of the subsidiary at the SOFP date (X)

Goodwill remaining from the purchase by the parent (X)

Non-controlling interests at the SOFP date (X)

Group gain or loss on disposal XX

Page 8
The same working can be used to calculate gain or loss on partial disposal, where non-controlling
interest increases (eg where ownership goes from 80% to 60%).

Where a holding goes from 80% to 40%, the calculation is amended slightly, as in addition to sales
proceeds for the partial stake, there will also be a new associate recognised.

Proceeds (what is coming into the SOFP in the transaction) X

Value of new associate recognised X

Less:

Individual assets and liabilities of the subsidiary at the SOFP date (X)

Goodwill remaining from the purchase by the parent (X)

Non-controlling interests at the SOFP date (X)

Group gain or loss on disposal XX

Step acquisitions

Where an acquisition happens in stages (as it often does in reality), the treatment is to treat the
acquisition as a purchase on the date when control happens. Also, derecognise any previous holding,
which might have been an available-for-sale financial asset or an associate.

This results in an acquisition of a subsidiary and a gain or loss on disposal as part of the same
transaction.

In effect, step acquisitions use much the same logic as disposals, but in reverse.

Multiple group structures

You should expect the structure of the group in question 1 in the exam to be a multiple group structure,
such as:

Parent

60%

Subsidiary 1

60%

Subsidiary 2

The main additional maters to consider here are:

• What is the nature of the relationship between parent and subsidiary 2? Even if the effective
ownership is less than 50% (as it is here), it may still be a subsidiary, as there is effectively a

Page 9
 chain of command by which the parent can control subsidiary 2. Parent has control of subsidiary
1, which has control of subsidiary 2.

• In this example, the parent has an effective ownership of 36%, but has control. Subsidiary 2 is
therefore consolidated as part of the Parent group, with non-controlling interests of 64%.

• The dates of acquisition determine whether there is one goodwill calculation, or more. If Parent
acquired Subsidiary 1 on 1.1.x1 and Subsidiary 1 acquired Subsidiary 2 on 1.1.x2, then there
would be two transactions under Parent’s control, using resources controlled by Parent. This
would require two goodwill calculations. However, if Subsidiary 1 had acquired Subsidiary 2 on
1.1.x1 and Parent acquired Subsidiary 1 on 1.1.x2, there would only be one transaction under
Parent’s control, using Parent’s resources. This would give one goodwill calculation

• In the group SOFP, any historical costs of investments in subsidiaries are not included in the
group SOFP, as the subsidiary’s individual assets and liabilities are consolidated instead. This
means that any cost of investment in Subsidiary 2 in the SOFP in Subsidiary 1 are excluded from
the group SOFP and therefore NCI calculation.

Page 10
 IAS 21

The Big Picture

An entity cannot mix currencies when producing financial statements!

Eg USD + EUR = Nothing useful.

There are two sets of rules to know, depending upon where in the flow of transactions something is
happening.

Foreign currency Functional Presentation

currency currency
Translation Presentation
rules rules

Functional currency

• Generally, the currency that the entity’s trial balance is produced in.
• The currency of the primary economic environment in which the company operates.
• Effectively the currency that the company “thinks in”.
• May not be the currency of the country in which the company operates, especially if the company
is more like a branch of a foreign parent and depends upon the foreign parent for day-to-day
support.
• All other currencies other than the functional currency are a foreign currency.

Key workings/ methods - translation rules

1 Record all transactions in the functional currency. Record all purchases, sales,
etc at the spot rate ruling on the date of the translation.

Page 11
 2 At the period end:
Translate monetary assets and liabilities at the closing rate.
Don’t retranslate non-monetary items.

3A Exchange difference arising in

the year on retranslation of
foreign currency loans is
reported in profit in finance
income/ finance cost.
3B Exchange difference arising in the
year on retranslation of foreign
currency trade payables and
receivables is reported in profit in
other operating income/ other
operating expenses.

Key workings/ methods - Presentation rules

This is normally examined in the context of group accounting, but it could be examined as a single
company only.

An entity may choose any currency it likes for the presentation of its financial statements. Eg a
company with a dual listing in the USA and in the European Union is likely to choose the US dollar as its
presentation currency and also the euro as its presentation currency.

The basic rules are simple: translate the financial statements using these rules:

• All items in the SOFP: translate at the closing rate.

• All items in the SOCI: translate at the average rate for the period, or spot rate for any large one-
off items.

Exchange differences will arise, eg imagine the position of Lear Co for the year ended 31 Dec 20x1:

Date Euro

Net assets (equity) at 1 Jan 20x1 10,000

Profit for the year to 31 Dec 20x1 2,000
Other comprehensive income for the year 1,000
to 31 Dec 20x1
Dividend declared for the year (1,500)
Net assets (equity) at 31 Dec 20x1 11,500

Assume these exchange rates USD/ EUR

1 Jan 20x1 1.2

Average for 20x1 1.25

31 Dec 20x1 1.15

Page 12
 Date Euro Exchange USD
rate
Net assets (equity) at 1 Jan 20x1 10,000 1.2 12,000
Profit for the year to 31 Dec 20x1 2,000 1.25 2,500
Other comprehensive income for the year 1,000 1.25 1,250
to 31 Dec 20x1
Dividend declared for the year (1,500) 1.15 (1,725)
Net assets (equity) at 31 Dec 20x1 11,500 1.15 13,225

This does
not add

The error is an exchange difference arising in the year.

This is not considered to be a realised gain or loss, so is reported directly in equity in the statement of
changes in equity. It is not reported as part of other comprehensive income.

So Lear Co’s statement of changes in equity for the year ended 31 Dec 20x1 will show:

Date USD
This exchange gain or loss
Net assets (equity) at 1 Jan 20x1 12,000 arising on translation in
Profit for the year to 31 Dec 20x1 2,500 the year is a gain in the
Other comprehensive income for the year 1,250 reserves of the subsidiary
to 31 Dec 20x1 for consolidation. It is
Dividend declared for the year (1,725) therefore split between
Exchange gain on translation arising in the 800 parent and non-controlling
year (balancing item) interests.
Net assets (equity) at 31 Dec 20x1 13,225

Groups and foreign currency

It is common to have to translate the financial statements of a subsidiary into the reporting currency of
the parent prior to consolidation.

This is simply an additional stage to complete prior to the process of consolidation.

Approach to questions with foreign subsidiaries:

1 Correct the individual accounts of each company for errors/ omissions in the
individual accounts.

Page 13
 2 Translate the subsidiary’s financial statements into the presentation currency of
the parent using the presentation rules.

3 Consolidate as normal.

Further aspects of foreign currency groups

Goodwill

Goodwill on consolidation always arises in the books of the acquirer (ie parent) since it is the property of
the parent company. The cost of buying the subsidiary from its previous owners can be broken down
into:

Net assets in the subsidiary’s financial

statements (ie equity or capital plus
reserves) at the acquisition date.

Consideration transferred to buy

subsidiary (as shown in the Non-controlling interests’ share of the
parent company’s individual net assets of the subsidiary.
accounts)

Goodwill arising on acquisition

(premium paid to acquire the
subsidiary).

The goodwill’s value will vary with the exchange rate as the value of the subsidiary’s future earnings in
the parent’s currency will vary with the exchange rate. This means that goodwill must be revalued each
year with a consequent revaluation gain or loss.

This means that each year, goodwill must be calculated similarly to how the exchange gain or loss is
calculated for the translation of the net assets of the subsidiary:

Date Euro Exchange USD

rate
Goodwill at 1 Jan 20x1 1,000 1.2 1,200
Impairment loss in the year to 31 Dec (200) 1.25 (250)
20x1
Exchange difference in the year - balance 50
Goodwill at 31 Dec 20x1 800 1.25 1,000

Page 14
Key workings/ methods - translation of subsidiary’s
financial statements for consolidation
Statement of financial position of Foreign Exchange Presentation
subsidiary at the year-end currency rate currency ($)
(€)

Assets (top half of SOFP) €X Year end $X

rate

Capital of subsidiary €X Rate at $X

acquisition
Reserves of subsidiary @ acquisition €X Rate at $X
acquisition
Post acquisition gains (balancing item) €X balance $X
Liabilities €X Year-end $X
rate
Total equity and liabilities €X $X

www.theexpgroup.com/students/acca

Page 15
 IAS 7

The Big Picture

These notes focus on group statements of cash flow. If you are unsure of single company statements of
cash flow, you should revise the notes for the FR paper before studying these. Statements of cash flow
for a group show cash and cash equivalents leaving the group of companies and coming into the group
of companies. Intra-group cash flows are not reported.

Group statements of cash flow are generally somewhat more straightforward than group statements of
comprehensive income in the exam, since most of the adjustments required to group financial
statements (eg intra-group balances, allowances for unrealised profit, fair value adjustments) are non-
cash adjustments.

You should study group statements of cash flow after revising single company statements of cash flow
from the FR paper and studying groups for the SBR paper. If you are reasonably comfortable with these
two topics, group statements of cash flow are likely to give you few difficulties.

These are the main techniques that you need to be familiar with when preparing a group statement of
cash flow over a single company statement of cash flow:

• Reconciliation of profit to operating cash flow: impact of purchase/ sale of a subsidiary

• Impact of purchase/ sale of subsidiary on T account workings (eg property, plant and
equipment)
• Cash paid to non-controlling interests
• Cash received from associates
• Disclosures on acquisition and disposal of a subsidiary (these are simple).

Key workings/ methods - reconciliation of profit

before tax to cash from operations
A reconciliation is a statement explaining why two numbers do not agree. IAS 7 (indirect
method) starts with profit before tax and reconciles this to cash flow from operations.

Page 16
 The easiest way to do this is to reconcile EBIT (ie operating profit) to operating cash flow.
An item will appear in the reconciliation if it does affect EBIT but does not affect operating
cash flow, or vice versa.
Affects Affects In
EBIT? operating reconciliation?
cash flow?

Depreciation Yes No Yes

Impairment of goodwill in the year Yes No Yes
Credit sale made but not paid in cash (ie Yes No Yes
increase in receivables)
Write-down of inventory to recoverable Yes No Yes
value
Increase in tax payable No No No
Goods purchased on credit (ie increase in Yes No Yes
payables)
Increase in provision for warranty costs Yes No Yes

The only addition so far compared with statements of cash flow in the FR paper is the mention of
goodwill impairment above.

Normally, an increase in receivables is deducted, since this is a credit sale (which has been credited to
revenue) but no cash received.

When a subsidiary is purchased, it is likely that the subsidiary will have receivables in its SOFP at
purchase. These will cause an increase in group receivables, but they will not have affected group EBIT.
Think about it – if the receivable existed when the subsidiary was purchased, that receivable must have
been created by a pre-acquisition sale. Pre-acquisition revenue and expenses are not consolidated.

Affects Affects In
EBIT? operating reconciliation?
cash flow?

Increase in receivables due to purchase of No (pre- No No

subsidiary acquisition)
Increase in payables/ accruals/ provisions No (pre- No No
due to purchase of subsidiary acquisition)
Increase in receivables/ prepayments due No (pre- No No
to purchase of subsidiary acquisition)

This means that the usual working capital adjustments when you prepare the reconciliation of profit to
operating cash flow needs to be amended. Since the year-end figure will include any receivables (etc)
arising on a purchase of subsidiary, but these should be excluded from the reconciliation, they must be
deducted in the calculation.

Page 17
Example
Edgar Co purchased a subsidiary Edmund Co on 30 September 20x1. On that date, Edmund Co had
receivables in its SOFP of $1,200.

Edgar Co and its subsidiaries at the start of 20x1 had receivables of $9,800 and on 31 December 20x1
had receivables of $11,450.

The figure in the reconciliation of profit to operating cash flow in the year to 31 December 20x1 will be:

Increase in receivables (11,450 – 1,200 – 9,800) (450)

Key workings/ methods - associates, non-controlling

interests
In a group statement of cash flows, cash can come into the group from an associate (an associate is not
part of the group, since it’s not controlled by the parent) and cash paid to non-controlling interests. The
cash paid to non-controlling interest will be their share of dividend paid by the subsidiary.

Both of these can be calculated using a T-account (or similar presentation), using the figures from the
group SOFP.

Example
Associate (SOFP)
1.1.x1 b/d 10,000 31.12.x1 Cash received 1,500
(balancing item)
31.12.x1 Share of profit after 31.12.x1 c/d 10,500
tax 2,000
12,000 12,000

Non-controlling interests (SOFP)

1.1.x1 b/d 15,000
31.12.x1 Cash paid 700 31.12.x1 Share of profit of 2,000
(balancing item) subsidiaries
31.12.x1 16,800 31.12.x1 Share of other 500
comprehensive
income of
subsidiaries
17,500 17,500

Page 18
Effect of acquisition or disposal of subsidiary

The acquisition of a subsidiary in the year will increase the size of each item in the SOFP, as a result of
the parent having control of a greater number of (eg) non-current assets. This increase will not
represent a payment in cash directly for those non-current assets (any payment of cash to acquire
control of a subsidiary was a payment to acquire shares!)

This will need to be adjusted for in each item in the SOFP, eg:

Property, plant and equipment (SOFP)

1.1.x1 b/d X 31.12.x1 Depreciation expense X
31.12.x1 Finance leases 31.12.x1 Impairment losses X
incepting in year
X
31.12.x1 Acquired via control 31.12.x1 Disposals @ NBV X
of new subsidiary in
year
31.12.x1 Cash paid to acquire X
new P, P&E in the
year (balancing item)
31.12.x1 Revaluation surplus X 31.12.x1 c/d X
in the year
XX XX

The actual acquisition itself will be shown as a single cash flow in the investing activities section of the
statement of cash flows. This will be the cash paid (if any) by the parent to the previous owners of the
subsidiary, less any cash balances of the subsidiary acquired.

Page 19
 IAS 37

The Big Picture

Provisions are a form of liability, simply one of uncertain timing or amount.

If requires an obligation (something that is legally or constructively impossible to avoid by any means).
An intention is never an obligation, so an intention to incur an expense can never generate a provision.

Initial valuation (provisions)

• For a series of events (eg multiple goods sold under guarantee), use the expected value of the
outflow and discount if the time value of money is material.

• For a one-off event (eg a single litigation), use the single most probable outcome and discount if
the time value of money is material.

Change in valuation: Update each period to the latest estimate. This is a change in accounting
estimates, so an increase of $10,000 would be recorded in profit in the year when the estimate is
changed, not as a prior period adjustment:

• Dr Expense $10,000
• Cr Provision $10,000

Initial valuation (contingent liabilities)

Given a value of zero, unless on a fair value adjustment on acquisition by another company. See groups
notes.

Summary diagram

Provisions and contingent liabilities for individual companies

Page 20
Probable: Greater than 50% estimated probability

Possible: Greater than 5% and up to 50% estimated probability

Remote: 5% of lower probability

Reliable: Any estimate which is more reliable than making no estimate

Provide: Provide expected value and discount at an appropriate rate.

Page 21
 IAS 12

The Big Picture

Current tax: The amount demanded by the tax authority in respect of taxable gains/ losses subject to
tax in the current period. Generally, an estimate at the year-end.

Deferred tax: Future tax due on gains recognised in the current period but not assessed for tax until
some future period. Generally, a net liability, but can very occasionally be a net asset.

Deferred tax is pervasive in financial statements, though it is generally examined as either a part of a
question or as a standalone question on its own. Normally, questions instruct you to ignore deferred
tax.

In practice, you will need to consider the deferred tax position of every transaction where the
accounting policy and the tax base (tax accounting policy – see below) are not the same.

Key definitions
These are ExP’s definitions, which are simplified for exam preparation purposes

Tax base The carrying value of the asset as it would be in the statement of financial
position if the tax policy were used as the accounting policy, eg using
taxable capital allowances instead of depreciation.

Temporary difference The difference between the IFRS carrying value of an asset/ liability and its
tax base. Both tax base and IFRS value start with purchase price and both
will become zero when the asset is scrapped.

Permanent difference This is not a phrase used in IAS 12, but it’s helpful in forming an
understanding. This is where the tax base and the IFRS value of an asset
or liability are always different, as a matter of principle. Eg government
grant income received may never be taxable, though it’s income in profit.

Page 22
 Goodwill gives a permanent difference since impairment losses on goodwill
are never a tax deductible expense. The tax base of an investment in a
subsidiary is historical cost of purchase, so goodwill never appears at all in
the tax computation. The fact that it never appears makes it a permanent
difference.

Key workings/ methods

Exchange differences will arise, eg imagine the position of Lear Co for the year ended 31 Dec 20x1:

Eg Property Software Provisions

IFRS value in SOFP 10,000 DR 4,000 DR 3,000 CR

Less: Tax base 8,000 DR 500 DR 0 CR
Temporary difference 2,000 DR 4,500DR 3,000 CR
Tax rate expected when the difference 30% 30% 25%
reverses
Deferred tax 600 CR 1,350 CR 750 DR

Net deferred tax liability = 1,200 CR

Exam approach - Calculation of deferred tax liability and

SOCI effect

1 Go through the accounting policies of the entity and identify each one where
the accounting policy (IFRS) is not the same as the tax base.

2 Identify which of these differences are permanent differences, eg:

• Business entertaining expenditure
• Government grants receivable
• Goodwill arising on consolidation.
State in your exam answer that this is a permanent difference, so has no future
tax effects.

For each difference (other than permanent difference) calculate the temporary
3 difference at the period end using the working above.

Page 23
4 Multiply the temporary difference by the tax rate expected to be in force when
the item becomes taxable (when it “reverses”).
Note: Cr temporary differences produce Dr deferred tax assets
Dr temporary differences produce Cr deferred tax liabilities

5 Look at all the deferred tax assets for evidence of impairment. Offset deferred
tax liabilities against deferred tax assets with the same tax authority.

6 Calculate the movement on the deferred tax liability. This will be the total
charge to the statement of comprehensive income for deferred tax.

7 Split the movement on deferred tax liability in the year into the element
reported in other comprehensive income and the rest that will be reported as
part of the profit and loss charge for taxation in the period.
This is done by matching the movement on deferred tax (eg caused by a
property upward revaluation) with where the gain or loss causing that
movement in deferred tax was reported.

7A Work out the movement in

deferred tax due to items 7B Show the movement in deferred
tax that isn’t shown as gains taken
reported in equity, eg: to equity (step 7A) and show this
as the deferred tax movement in
• Property revaluation
profit.
gains
• Movements in value on
available-for-sale
financial assets
Take the proportion of
deferred tax movement on
equity gains to equity.

Page 24
 IAS 19

The Big Picture

Promises of pensions payable to staff are an expense of the sponsoring company. The act of making a
promise to pay pensions creates an obligation (ie liability). This may be a liability to pay pension funds
into a private pension plan, or a liability to pay a pension between retirement and death, depending on
the pension type.

There are two types of pension plan: defined contribution and defined benefit.

Although pension questions may seem difficult at first, they are surprisingly easy to deal with after
working a few examples. To master the subject, you need to have:

• A good working understanding of double entry bookkeeping

• To understand the transaction itself (ie how a promise is made and assets set aside to cover the
cost of honouring that promise)
• A methodical step-by-step approach to dealing with the numbers in a logical, chronological,
sequence.

Defined contribution

These are easy. The employer makes contributions into a savings scheme for the employee.

All risks of the fund being inadequate to support the employee between retirement and death rest with
the employee, not with the employer. They are therefore much more risky for the employee than for
the employer.

The accounting is simple:

Impact on SOFP: None.

Impact on SOCI: Contributions payable into the pension plan are an expense.

Page 25
Defined benefit plans

These are considerably more complicated for the accountant and considerably more risky for the
employer.

Here, the employer promises to make future pension payments (an obligation, therefore a liability).

Impact on SOFP: Pension plan assets (ringfenced assets from which future pensions will be paid).

Pension plan liability (NPV of pensions promised by the year-end)

Deferred costs and income (see below)

Impact on SOCI: Service component: the cost of pensions promised in the year (current service cost
and past service cost) that is charged to P/L.

Net interest component: computed by applying the discount rate to measure the
plan obligation to the net defined benefit liability or asset. This is charged/credited
to P/L.

Remeasurement component: includes actuarial gains and losses during the

reporting period, including the returns on plan assets less any amount taken to P/L
as part of net interest component. This is charged to OCI and will never be
recycled to P/L in future periods.

Actuarial gains/ losses

If a pension plan is perfectly in balance, then the assets will precisely equal the liabilities. This is
unlikely ever to happen, as the valuation of investments will be volatile. Also, assumptions about the
actuarial liability (ie expected cost of paying an uncertain amount to pensioners until they die) will vary
year by year. It is normal for a pension plan therefore to be slightly out of balance.

Deficit

Assets Liabilities

These unexpected movements give an actuarial gain or loss each period and are always a balancing
item in the calculations, since (by definition) they are unexpected!

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Key definitions
These are ExP’s definitions, which are simplified for exam preparation purposes

Current service cost
The NPV of the extra pensions promised to staff in return for work they did
this period. Defined benefit plans are characterised by offering greater
pensions to people who have worked for the company longer, so one extra
period of service increases pensions liability.(part of the service cost
component).

Past service cost The NPV of the extra pensions promised to staff in return for work they did
in the past. This is much less common than current service cost and might
happen only if a company needs to eliminate an actuarial surplus on the
pension plan (part of service cost component).

Net interest component Relates to change in measurement in both the plan obligation and the
plan assets arising from passage of time and is reported as a separate component to P/L.

Example
Below are given the fictional numbers of Cordelia Co, relating to Cordelia Co’s defined benefit pension
plan in the year to 31 December 20x1.

Plan assets Pensions Profit and

liability loss effect

B/f @ start of period 10,000 DR 9,500 CR -

Current service costs - 500 CR 500 DR
Past service costs - 200 CR 200DR
Interest charge - 450 CR 450 DR
Contributions paid into the plan 180 DR - -
(Dr Plan assets, Cr company cash)
Pensions paid to pensioners 210 CR 210 DR -
Interest return 600 DR - 600 CR
Expected figure c/f 10,570 DR 10,440 CR
Actual figure c/f 8,650 DR 10,200 CR

=> Remeasurement component (gain) 240 DR See below

=> Remeasurement component (loss) 1,920 CR See below
Net actuarial loss in year 1,680 CR See below

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Recognition of actuarial gains and losses

Actuarial gains and losses arise each year. Often, they are self-correcting over time (eg a short-term
stock market crash is likely to recover by it comes time to pay out the pensions promised).

Actuarial gains and losses arising during the accounting period (comprised in the remeasurement
component) are recognised in OCI for the year and will not be recycled to P/L in future periods.

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 Financial
Instruments

The Big Picture

There are three accounting standards in the SBR syllabus that deal with financial instruments (IAS 32,
IFRS 7, IFRS 9). It’s easy to spend too much time preparing for these accounting standards, since they
cover a huge array of different possible transactions.

The best way to approach study is to know:

• The classifications of all financial instruments

• The difference in fair value and amortised cost accounting
• The possible ways in which any gain or loss (whether on a financial instrument or not) may be
reported in financial statements.

Financial liabilities Financial assets

When used...
Example.... Trade payables, debenture Trade receivables, options,
loans, redeemable investments in equity shares
preference shares

Initial recognition Fair value Fair value and will exclude

Subsequent measurement
Fair value (derivatives and
liabilities held for trading) or
amortised cost.
transactions costs for all
assets kept at FVPL
Fair value (either to P/L or
OCI) or amortised cost less
impairments.

Gains or losses reported in... Profit or loss Profit or loss/OCI

Page 29
Key workings/ methods
Recognition and derecognition

The recognition criteria for financial instruments are slightly different to the recognition criteria in many
other IASs/ IFRSs. The intention is to ensure that as many as recognised as possible, for as long as
possible. They are recognised when the entity becomes party to the contract rather than when control
is obtained. They are derecognised only when it’s virtually certain that all the risks of a financial
instrument have expired or have been transferred to another party.

Fair value accounting

“Fair value” essentially means market value. So, if the market is acting irrationally, then fair value may
lead to dysfunctional financial reporting. This is a recent criticism of fair value accounting techniques.

Fair values are determined as:

• Best achievable market value (but not deducting expected transaction costs), or
• Valuation using discounted cash flows that consider all matters relevant (eg expected cash flows,
timing of cash flows, credit risk, market interest rates, or
• Exceptionally if no reliable DCF valuation is possible, historical cost.

Amortised cost

Can apply to debt instruments only if the following two tests are passed:

• the business model test, and

• the contractual cash flow characteristics test.

The business model test establishes whether the entity holds the financial asset to collect the
contractual cash flows or whether the objective is to sell the financial asset prior to maturity to realise
changes in fair value. If it is the former, it implies that there will be no or few sales of such financial
assets from a portfolio prior to their maturity date. If this is the case, the test is passed. Where this is
not the case, it would suggest that the assets are not being held with the objective to collect contractual
cashflows, but perhaps may be disposed of to respond to changes in fair value. In this situation, the test
is failed and the financial asset cannot be measured at amortised cost.

The contractual cash flow characteristics test determines whether the contractual terms of the
financial asset give rise to cash flows on specified dates that are solely of principal and interest
based upon the principal amount outstanding. If this is not the case, the test is failed and the financial
asset cannot be measured at amortised cost.

For example, convertible bonds contain rights in addition to the repayment of interest and principal (the
right to convert the bond to equity) and therefore would fail the test and
must be accounted for as fair value through profit or loss.

In summary, for a debt instrument to be measured at amortised cost, it will therefore require that:

• the asset is held within a business model whose objective is to hold the assets to collect the
contractual cashflows, and

Page 30
• 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.

Example
On 1 January 20X1, Cordelia Co issued a bond with a nominal value of $200,000, a coupon rate (ie cash
paid) of 4% of nominal value. The bond is due for redemption on 31 December 20X5 for $200,000 (plus
the coupon payable on that date).

In reality, it’s likely that the effective rate would be worked out using a spreadsheet and the IRR
function, which is illustrated below.

This means that by the end of the five year life of the bond, it has been transformed (“amortised”) from
its initially recognised value to its redemption value of $200,000.

So, the charge or credit to profit for finance costs/ finance income is determined using the effective rate.
The difference between interest calculated using the effective rate and the coupon paid/ received is the
“rolled up” interest, which is added to the value of the bond each year.

Reclassification

Where an entity changes its business model, it may be required to reclassify its financial assets as a
consequence, but this is expected to be infrequent occurrence. If reclassification does occur, it is
accounted for from the first day of the accounting period in which reclassification takes place.

Impairments

All financial assets held at fair value are automatically revalued for impairments. If a financial asset
measured at amortised cost appears to be impaired (eg if the credit risk increases a great deal), then
the new impaired value must be calculated using:

Page 31
 • The revised expected cash flows and expected timing
• At the original discount rate.

Note that discounting the revised cash flows at the new rate (which would be higher, as the risk has
increased) would double count the risk factor and result in undervaluation of the asset.

Hedging

Key workings/ methods

Hedged item: The thing the enterprise is worried about changing in value, eg:

• Foreign currency investment

• Foreign currency payable
• Variable interest rate loan resulting in higher than expected cash outflows
• Forecast future major purchase in a foreign currency becoming unaffordable due to changes in
the exchange rate.

To remove or reduce this risk, the entity may buy something that is expected to move in value in the
opposite direction to the hedged item. This “counterweight” is the hedging instrument and may be
an almost infinite number of different financial instruments, though derivatives are common.
Understanding the intricacies of how hedging relationships may be set up is not important for the SBR
paper. It’s useful to know how to account for movements in the hedged item and the hedging
instrument.

Though three types of hedge are mentioned in IFRS 9, only two are in the SBR syllabus:

Fair value hedge. The hedging instrument was taken out in order to protect against value changes of
an item recognised in the SOFP. Eg a foreign currency loan to protect against a foreign exchange
charge in value of a foreign currency receivable that is being shown in the SOFP.

Cash flow hedge. A hedge that is not a fair value hedge, broadly! This might be to protect against
adverse movements in an item not in the SOFP yet. Eg an entity may structure its business plan around
buying a ship from a foreign ship builder, but it has not yet placed a binding order. As there is no
binding order, there is no obligation, so there is no liability. The forecast/ intended transaction is not yet
a liability, though the company will want to ensure that they can afford the expected future cash
outflow.

To protect against adverse exchange movements making the ship unaffordable, the entity may hedge
the foreign currency exposure, eg buy buying a foreign currency forward contract.

Page 32
 IFRS 2

The Big Picture

Prior to IFRS 2, listed companies often paid senior staff in shares that were issued below market value.
These shares were then sold at a profit by the holders, with two effects:

• The holder made a profit on sale, which in substance was part of their total remuneration, and
• The other shareholders lost wealth (ie suffered an expense) as the share price fell by new shares
being issued below market price.

Prior to IFRS 2, this was simply recorded as:

Dr Cash (with actual cash received, below market value)

Cr Capital/ share premium account.

IFRS 2 remedies this by making an estimate of the loss to other shareholders by granting cheap shares
and spreading that cost over the period the company gains benefit from the share scheme.

IFRS 2 is an unpopular accounting standard with many preparers of accounts, who say that it generates
artificial expenses, brings in highly subjective valuations as expenses and repeats the same information
as IAS 33 diluted earnings per share.

Key Knowledge - Suggested approach to questions

1 Decide whether the scheme is entirely payment in shares, is a payment in cash

that is linked to the share price or some mix of the two. This decides how the
share based payment is valued, as the rules are different for pure equity schemes
and schemes in cash.
Equity settled: The holder is paid only in shares. He/ she has no right to a cash
alternative.

Page 33
 1A For an equity settled transaction,
estimate the total benefit of the 1B For a cash based payment, estimate
the total liability that the plan
share plan to the holders by generates. As this is a liability, it
multiplying the total number of must be revalued at the end of
cheap shares to be issued by the each period to its latest value.
option of the share at its grant
date. This option value will be
given in the exam. It is then
frozen at the value per share at
the grant date – it is never
updated.

2 Work out the vesting period. That is the period that staff must stay in the
company’s employment to be able to exercise their options over cheap shares.
This is the period over which the cost/ benefit of the share option plan will be
spread.

Work out the cost of the share based payment each period, as:
3 Latest estimate of total cost of the plan X (Expected total cost)
Divided by years between grant and vesting date X (Total cost to date)
Less: Costs cumulatively already recognised (X)
Current period expense X

REVIEW AND TEST 1 - ABC Corporation

On 1 January 20x1, ABC Corporation granted 5,000 options on shares to each of its 200 most senior
staff. Each option is conditional upon each member of staff staying in the company’s employment until
31 December 20x3. On 31 December 20x3, participating staff can continue to hold the share options
and may choose to exercise them on 31 December 20x4 or 31 December 20x5. Each option allows the
holder to buy ABC Co shares at a price of $1 each.

You are given this data and are required to calculate the expense for each of the years in question.

Date Fair value of Number of Share price

option ($) participants ($)
expected to
stay until 31
Dec 20x3

1 Jan 20x1 3.30 180 4.00

31 Dec 20x1 3.40 175 4.20
31 Dec 20x2 3.45 180 4.25
31 Dec 20x3 2.95 165 3.80
31 Dec 20x4 3.10 165 3.95
31 Dec 20x5 3.30 165 4.30

Page 34
Step 1: This is a pure equity settled transaction. Its value per share option is therefore frozen at the
grant date.

Total expected cost to the company’s other shareholders: 5,000 x 180 x 3.30 = $2.97 million.

Step 2: The vesting period is three years. Although people may stay longer than that, the company
cannot presume that they will voluntarily stay longer than the minimum required.

Step 3: The cumulative cost in each year is now worked out.

Date Cumulative Expense Expense

expense ($) previously recognised
recognised in year

31 Dec 20x1 (5,000 x $3.30 x 175 x 1/3) 962,500 0 962,500

31 Dec 20x2 (5,000 x $3.30 x 180 x 2/3) 1,980,000 962,500 1,017,500
31 Dec 20x3 (5,000 x $3.30 x 165 x 3/3) 2,722,500 1,017,500 742,500
31 Dec 20x4 (5,000 x $3.30 x 165 x 3/3) 2,722,500 2,722,500 0
31 Dec 20x5 (5,000 x $3.30 x 165 x 3/3) 2,722,500 2,722,500 0

The expense each year is recognised as:

Dr Expense

Cr Equity.

REVIEW AND TEST 1 - Wright

On 1 January 20x1, Wright Co granted 15,000 cash appreciation rights to 150 of its staff. These rights
gave a bonus in cash based on the price of Wright Co’s shares. The cash appreciation rights offered a
cash payment equal to the company’s share price at the exercise date, less the share price at the grant
date. Participants have to stay in Wright Co’s employment until 31 December 20x3 in order for the
rights to vest, though they may exercise on either 31 December 20x3, 31 December 20x4 or 31
December 20x5.

Date Number of Number of Share price

options participants ($)
exercised in expected to
the period stay until 31
(000’s) Dec 20x3

1 Jan 20x1 0 140 1.20

31 Dec 20x1 0 140 1.45
31 Dec 20x2 0 142 1.50
31 Dec 20x3 1,100 144 1.52
31 Dec 20x4 800 144 1.60
31 Dec 20x5 260 144 1.48

Page 35
Step 1: This is a cash settled transaction, which therefore gives rise to a liability. As a liability, the
expected value must be revalued each year.

Step 2: The vesting period is three years. Although people may stay longer than that, the company
cannot presume that they will voluntarily stay longer than the minimum required.

Step 3: The cumulative cost in each year is now worked out, including updates of cost in the last two
years after the first vesting period but before the latest possible exercise date.

Date Liability Increase in

recognised liability
($’000)
($’000)
1 Jan 20x1 (15,000 x 140 x (1.20 – 1.20) x 0/3 0 0
31 Dec 20x1 (15,000 x 140 x (1.45 – 1.20) x 1/3 175,000 175,000
31 Dec 20x2 (15,000 x 142 x (1.50 – 1.20) x 2/3 426,000 251,000
31 Dec 20x3 (15,000 x 144 x (1.52 – 1.20) x 3/3 691,200 262,200

Liability for Cash Appreciation Rights

1.1.x1 b/c 0
31.12.x1 Expense 175,000
31.12.x2 Expense 251,000
31.12.x3 c/d 691,200 31.12.x3 Expense 262,000
691,200 691,200
31.12.x3 Cash (1.1m x ($1.52- 352,000 31.12.x3 b/d 691,200
$1.20))
31.12.x3 c/d 339,200
691,200 691,200
1.1.x4 b/d 339,200
31.12.x4 Cash (800 x (1.60 – 320,000
1.20)
31.12.x4 c/d (260 x (1.60 – 104,000 31.12.x4 Profit/ loss 84,800
1.20)
424,000 424,000
31.12.x5 Cash (260 x (1.48 –
1.20) 72,800 1.1.x5 b/d 104,000
c/d (all expired) 0
31.12.x5 Profit/ loss 31,200

104,000 104,000

Page 36
Wrapping up this topic:

PAUSE
Do something else for a while. Reflect on how you might be able to apply this
knowledge to something in your own life or work.

REWIND
Reread and rework the examples in this chapter once or twice until you are
comfortable with it.

EJECT
Move on to something else!

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Page 37
 IAS 16

The Big Picture

Property, plant and equipment comprises tangible non-current assets that a business uses in the course
of its own business. It excludes investment property.

Issues in accounting for all assets and liabilities

• Initial recognition/ classification

• Initial valuation
• Write-off period
• Amortisation/ depreciation/ impairments
• Revaluation upwards
• Additions/ enhancements
• Profit/ loss on disposal calculation.

Initial recognition/ classification

Recognise when an entity has control over the asset, not necessarily ownership. This complies with the
Framework definition of an asset and also enables assets held under finance leases to be shown as
property, plant and equipment.

Initial valuation

All costs directly attributable. This includes site preparation, irrecoverable import taxes, inwards delivery
charges, professional fees, attributable borrowing costs (IAS 23, below). It excludes training costs, any
abnormal costs in installation.

Write-off period

Depreciate the asset so that the pattern of depreciation charges match the income stream generated.
Review useful life periodically. Depreciation is not aimed at showing market value of assets in the SOFP.

Page 38
Impairments

Recognise any losses in profit, unless to reverse any previous upwards revaluation shown in equity. See
notes on impairments.

Revaluation

Default accounting policy is simple historical costs. If choose to revalue a non-current asset:

• Must revalue all property, plant and equipment in the same class
• Must keep up to date, generally annually
• Must disclose details of valuation, which may be done by the directors
• Cannot return to historical costs later
• Will charge depreciation on the higher revalued figure
• Common to make an annual transfer from revaluation reserve to retained earnings of the
difference between deprecation on revalued amount and depreciation on historical costs.
• Eventual gain on disposal likely to be lower, as carrying value on derecognition will be higher
(see below).

Additions

Further costs must be added to the asset’s value if the cost enhances the earnings-generating potential
of the asset above its original specification, eg upgrade of a server’s memory capacity. Other cost (eg
repair of hardware) must be expensed immediately.

Borrowing costs: IAS 23

Finance costs must be added to the initial value of the asset if directly attributable to the acquisition of
the asset.

This can include a fair weighted average of general company finance costs.

Must write off finance costs incurred during periods of extended stoppage when no construction work
takes place.

Must write off once the asset is ready for use, even if not brought into use on that date.

Other borrowing costs must be written off as an expense.

Page 39
Key workings / methods

Profit or loss on disposal

Proceeds (what is coming into the SOFP in the transaction) X

Less: Carrying value derecognised (what leaves the SOFP) (X)

Profit or loss on disposal (the increase or decrease in net assets) X

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 IAS 38

The Big Picture

An intangible asset is an identifiable non-monetary asset without physical substance.

Issues in accounting for all assets and liabilities

• Initial recognition/ classification

• Initial valuation
• Write-off period
• Amortisation/ depreciation/ impairments
• Revaluation upwards
• Additions/ enhancements
• Profit/ loss on disposal calculation.

Initial recognition/ classification

An identifiable non-monetary asset without physical substance. This can include the right to use a
tangible asset. So, premiums paid to acquire services of a person (eg transfer price of a sports player)
are intangible assets. Goodwill is an example of an intangible asset. Identifiable means that the asset
can be seen as separate from the business as a whole, in contrast to goodwill (though goodwill is also
accounted for under IAS 38).

An intangible is recognised once it meets the definition of an asset, which means that it’s controlled by
the entity and it’s reasonably expected to generate a positive inflow of benefit. So intellectual property
(knowledge generally known) is not controlled by an entity and is not an intangible. Intellectual
property rights are controlled by the entity (eg patent) and so may be recognised. It includes
development costs, brands, licenses, patents, etc.

Research costs are written off as incurred as they either are not controlled by the entity or are not
sufficiently certain to generate future benefits. Paragraph 57 of IAS 38 gives the test for deciding if an

Page 41
expenditure is research (write off) or development (treat as an asset). Expenditure is development cost
if (mnemonic RAT PIE):

• Resources are adequate to complete the project

• Ability to complete
• Technically feasible
• Probable economic benefit (ie expected to be profitable)
• Intend to complete the project
• Expenditure on the project can be separately recorded.

An intangible asset may be acquired by an entity individually, or may arise as a result of a business
combination (ie goodwill in group accounting).

Initial valuation

All costs directly attributable. Similar rules to IAS 16, Property, Plant and Equipment.

If negative goodwill arises on a business combination, first check all the figures in the calculation. If all
the figures appear to be correct, recognise immediately in profit as income.

Write-off period

For intangible assets with a definite (ie known) life, such as patents: similar rules to IAS 16, Property,
Plant and Equipment.

For intangible assets with an indefinite (ie unknown) life, such as goodwill, do not amortise, but test
annually for impairment.

All intangible assets have a finite (ie limited) useful life.

Impairments

Recognise any losses in profit, unless to reverse any previous upwards revaluation shown in equity. See
notes on IAS 36 impairments.

Revaluation

Default accounting policy is simple historical costs. If choose to revalue a non-current asset, there are
similar consequences as for IAS 16 Property, Plant and Equipment.

Intangible assets can be revalued upwards only by reference to a market value in an active market.
Paragraph 8 of IAS 38 defines an active market as:

• the items traded in the market are homogeneous

• willing buyers and sellers can normally be found at any time; and
• prices are available to the public.

Page 42
It is common for intangible assets to be unique or at least very distinctive (ie not homogenous) or for
the market in them to be shallow. Active markets in intangibles are therefore rare so it is rare for
intangibles to be revalued upwards. Goodwill relating to a business is unique, so can never be revalued
upwards.

Additions

Further costs must be added to the asset’s value if the cost enhances the earnings-generating potential
of the asset above its original specification, eg upgrade of a server’s memory capacity. Other cost (eg
repair of hardware) must be expensed immediately.

Key workings/methods
Profit or loss on disposal

Proceeds (what is coming into the SOFP in the transaction) X

Less: Carrying value derecognised (what leaves the SOFP) (X)

Profit or loss on disposal (the increase or decrease in net assets) X

Goodwill on a business combination

Fair value of consideration transferred X

Less: Fair value of identifiable net assets acquired, calculated as:

Capital and share premium of target X

Reserves of target at acquisition date X

Net assets (equity) of target at target’s book value X

Fair value adjustments to target’s net assets X/(X)

Net assets (equity) of target at fair value X

X % acquired (X)

Goodwill arising in books of parent for consolidation X

This figure may then be “grossed up” to full goodwill. See notes on business combinations.

Page 43
 IAS 36

The Big Picture

An asset cannot be shown in the SOFP at a valuation greater than the economic benefits it’s expected to
generate, since this would violate the Framework definition of an asset.

Key workings/methods
Cash generating unit

A cash generating unit is the smallest identifiable group of assets that generates cash inflows that are
largely independent of the cash inflows from other assets or groups of assets. In practical terms, it’s the
smallest group of assets which together could be a going concern. CGUs exist since individual assets
often do not generate cash inflows on their own.

Any asset which appears to have been impaired must be reviewed for an impairment, with any loss
recognised as given below. Assets with a finite but indefinite life (eg purchased goodwill) must be
reviewed for impairment each period, even if there is no indicator of impairment.

Determining impaired value

The value in use is calculated using the NPV of expected future net cash flows (profit before interest and
tax) from the asset:

• In its current condition (ie not allowing for expected enhancements), although there is no
prohibition on considering the most profitable potential use of the asset in its current condition
(eg switching from making product X to product Y).
• Over a period of five years, unless a longer period can be justified by reference to past accuracy
in budgeting income streams longer than five years.
• Using the latest general market risk-free interest rate.
• Expected revenue less costs necessarily incurred to generate that revenue.
• Mutually compatible, eg if future cash flows are “money” flows including expected inflation, they
must be discounted at an appropriate “money” discount rate, not “real” rate.

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 • Foreign currency cash flows must be translated at the spot rate on the date of the impairment
review.

Impairment indicators: external to the business include:

• Decline in market value

• Adverse technological or environmental changes
• Long-term increase in interest rates
• Obsolescence.

Impairment indicators: internal to the business include:

• Change in intended use

• Poor performance
• Physical damage.

Reporting impairment losses: individual assets

Reverse any prior revaluation gain in equity (other comprehensive income), then charge to profit.

Reporting impairment losses: cash generating unit

• Any assets physically damaged or otherwise specifically impaired, then

• Goodwill attributable to the CGU, to a minimum value of zero, ie do not recognise internally
generated negative goodwill, then
• Other assets pro rata to value but never impair an asset below its potential net sales value, as
the rational thing would be to sell an asset if it appears to have a higher value to somebody else
than it does to the current owner.

Reversal of impairments

This is possible if the circumstances creating the impairment no longer exist. The reversal would be
reported wherever the initial impairment had been recorded, which is normally as a credit to profit.

BUT impaired goodwill can never be reversed.

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 IFRS 15

The Big Picture

IFRS 15 Revenue from Contracts with Customers says that an entity recognises revenue by applying the
following five steps:

1. Identify the contract(s) with a customer

2. Identify the performance obligations in the contract

3. Determine the transaction price

4. Allocate the transaction price to the performance obligations in the contract

5. Recognise revenue when the entity satisfies a performance obligation.

Example
If a car is sold for $30,000 with three years of free servicing, recognise this as:

Total sales value 30,000

Less: Market value of three year servicing agreement
(to be recognised over 3 years) (3,000)
Value of goods sold (recognise immediately) 27,000

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 IAS 8

The Big Picture

Preparation of financial statements involves inclusion of many accounting estimates, such as:

• Depreciation method (estimate of how assets generate a revenue stream)

• Provisions
• Tax payable for the year.

It is normal for estimates to be wrong. They are normally simply corrected the following year with the
following year taking the profit and loss effect of the correction.

Accounting estimates Accounting errors

•
•
•
Normal
Expected
Affects profit of the year
discovered
≠ •
•
•
•
Not normal
Possibly careless
Adjust prior year
Normally no effect on profit in
the year the error is discovered

Accounting estimates and treatment of changes

• Changes in accounting estimates result from new information or new developments and,
accordingly, are not corrections of errors.
• Changes in accounting estimates are simply absorbed the following period as an expense (or
income) in that following period. No adjustment is made to the previously published financial
statements of the previous period.

Accounting errors (prior period errors)

These are errors and omissions the entity’s financial statements for prior period(s) arising from a failure
to use reliable information that:

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 • was available when financial statements for those periods were authorised for issue and
• could reasonably be expected to have been obtained and taken into account in the preparation
and presentation of those financial statements.

To make an error in an accounting estimate is to be human. To make a general accounting error is to

be careless! Accounting errors are corrected by amending the previously issued financial statements of
the previous year, meaning that there is not normally a profit effect in the current year when the error is
discovered.

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