Chapter 4: Accounting for revenues

and reporting financial performance

Chapter 4: Accounting for
revenues and reporting
financial performance
• 4.1: Accounting for revenues
• 4.2: Accounting policy changes, changes in estimates,
errors
• 4.3: Additional issues in reporting financial performances
– Non current assets held for sales and discontinued
activities
– EPS
PART 4.2
 IAS 8 Accounting policy
changes, changes in
estimates and errors
• The objective of IAS 8 is to enhance comparability of
financial statement data over time within the same firm
and between firms.
• In order to improve comparability IAS 8 focuses on the
criteria for selecting accounting policies, the accounting
treatment and disclosure of changes in accounting
policies, changes in accounting estimates and errors.
 Accounting policy

• The first part of IAS 8 deals with how to select

and apply accounting policies
• IAS 8 deals with how a change in accounting
policy needs to be accounted for:
– if the change is required by a standard
– if the change results in order to provide more
reliable and relevant information
Accounting policy changes are
permitted when:
Accounting policy changes
arise when:
Accounting for policy changes
Changes in accounting estimates

• 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 for errors.
 Errors
Prior period errors are omissions from and
misstatements in the entity’s financial statements for
one or more periods arising from a failure to use, or
misuse of, reliable information that:
•was available when financial statements for those
periods were authorised for issue
•could reasonably be expected to have been obtained
and taken into account in the preparation and
presentation of those financial statements
 Correction of Errors

The correction of the error has to be accounted for in a

retrospective way, in the first set of financial statements
authorized for issue after their discovery by:
•restating the comparative amounts for the prior
period(s) in which the error occurred
•or, if the error occurred before the earliest period
presented, restating the opening balances of assets,
liabilities and equity for the earliest period presented
Disclosure requirements –
Errors
 Examples

• Changes in inventory costing methods

• Discussion: Question 13 – chapter 4 Eliot
 Retrospective Approach: Most
Changes in Accounting Principle
Let’s look at an examples of a change from LIFO to FIFO.
At the beginning of 2013, Air Parts Corporation changed from
LIFO to FIFO. Air Parts has paid dividends of $40 million
each year since 2006. Its income tax rate is 40 percent.
Retained earnings on January 1, 2011, was $700 million;
inventory was $500 million. Selected income statement
amounts for 2013 and prior years are (in millions):

Previous
2013 2012 2011 Years
Cost of goods sold (LIFO) $ 430 $ 420 $ 405 $ 2,000
Cost of goods sold (FIFO) 370 365 360 1,700
Difference $ 60 $ 55 $ 45 $ 300

Revenues $ 950 $ 900 $ 875 $ 4,500

Operating expenses 230 210 205 1,000
 Revise Comparative Financial
Statements
For each year reported, Air Parts makes the comparative
statements appear as if the newly adopted accounting
method (FIFO) had been in use all along.

Income Statements ($ in millions)

2013 2012 2011

Revenues $ 950 $ 900 $ 875
Cost of goods sold (FIFO) 370 365 360
Operating expenses 230 210 205
Income before tax $ 350 $ 325 $ 310
Less: Income tax expense (40%) 140 130 124
Net income $ 210 $ 195 $ 186
 Revise Comparative Financial
Statements
For each year reported, Air Parts makes the comparative
statements appear as if the newly adopted accounting
method (FIFO) had been in use all along.

Previous
2013 2012 2011 Years
Cost of goods sold (LIFO) $ 430 $ 420 $ 405 $ 2,000
Cost of goods sold (FIFO) 370 365 360 1,700
Difference $ 60 $ 55 $ 45 $ 300

Comparative balance sheets will report 2011 inventory $345

million higher than it was reported in last year’s statements
Retained earnings for 2011 will be $207 million higher.
[$345 million × (1 – 40% tax rate)]
 Revise Comparative Financial
Statements
For each year reported, Air Parts makes the comparative
statements appear as if the newly adopted accounting
method (FIFO) had been in use all along.

Previous
2013 2012 2011 Years
Cost of goods sold (LIFO) $ 430 $ 420 $ 405 $ 2,000
Cost of goods sold (FIFO) 370 365 360 1,700
Difference $ 60 $ 55 $ 45 $ 300

Comparative balance sheets will report 2012 inventory $400

million higher than it was reported in last year’s statements.
Retained earnings for 2012 will be $240 million higher.
[$400 million × (1 – 40% tax rate)]
 Revise Comparative Financial
Statements
For each year reported, Air Parts makes the comparative
statements appear as if the newly adopted accounting
method (FIFO) had been in use all along.

Previous
2013 2012 2011 Years
Cost of goods sold (LIFO) $ 430 $ 420 $ 405 $ 2,000
Cost of goods sold (FIFO) 370 365 360 1,700
Difference $ 60 $ 55 $ 45 $ 300

Comparative balance sheets will report 2013

inventory $460 million higher than it would have
been if the change from LIFO had not occurred.
Retained earnings for 2013 will be $276 million higher.
[$460 million × (1 – 40% tax rate)]
 Adjust Accounts for the Change

On January 1, 2013, the date of the change,

the following journal entry would be made
to record the change in principle.

January 1, 2013:
Inventory ....................................................... 400,000,000
Retained earnings ............................... 240,000,000
Income tax payable ……….………..…. 160,000,000
To increase inventory, retained earnings, and income
tax payable as a result of the change from LIFO to FIFO.

40% of $400,000,000
 Disclosure Notes

In the first set of financial statements after the

change is made, a disclosure note is needed to

Report any per

Point out that
Provide share amounts
comparative
justification affected for the
information has
for the change. current and all
been revised.
prior periods.