Corporate reporting Flashcards

Question

1 ABC sells an investment in shares but retains a call option to repurchase those shares at any time at a price equal to their current market value at the date of repurchase. 2 DEF Co enters into a stock lending agreement where an investment is lent to a third party for a fixed period of time for a fee. 3 XYZ Co sells the rights for some of its receivables to a debt factor for an immediate cash payment of 90% of their value. The terms of the agreement are that XYZ Co has to compensate the factor for any amounts not recovered by the factor after six months. Required: Discuss whether the financial instruments above would be derecognised per IFRS 9.

Answer 1

1) ABC should derecognise as the option to repurchase is at the prevailing market value therefore no risk or reward remains. 2) Dont derecognise as it has retained substantially the risks and rewards of ownership, therefore should be retained on the books even if the legal title has temporarily been transferred. 3) continue to recognise as retains risk and rewards (due to potnetially needing to reimburse the factor), the cash received should be treat as a loan, the 10% the company wont receive should be treat as interest over the 6 month period as an SPL expense and increasing the CV of the loan At the end of the 6 months they should then derecognise the receivables by netting against the amount fo the loan that does not need repaid to the debt factor (any remaining will be bad debts and expesned to the SPL) -note: if there was any indication of irrecoverable debts sooner yhis impairment loss would be recognised sooner

Answer 2

The key issue is whether factored receivables should be derecognised as a financial asset. Receivables should be derecognised when M Ltd has transferred substantially all the asset’s risks and rewards of the receivables. There is a strong case that the £4m immediately received from the factor should be derecognised due to it being non-recourse financing. The terms of the arrangement state interest is payable on the amounts advanced. This means M Ltd retains some slow-moving risk and it is a question of judgement as to whether this is ‘substantial’ in the context of the specific circumstances. £3m not factored are to remain in receivables. Of the £5m factored, it appears £4m should be derecognised as the risk and rewards have been substantially transferred. The balance remaining of £1m is more subjective. 1.25% * £5m = £62,500 credit protection premium. Interest payable 1% * £4m = £40,000 per month * 3 months = £120,000. These amounts would be charged to the profit and loss account. It would be prudent to derecognise the remaining (5m-4m-182.5k fees)=£817,500 as the factor receives settlement.

Answer 3

If an employee obtains shares as an investor, not as an employee Shares issued as consideration on acqn of subsid etc a contract to buy non financial asset that can be settled net in cash Note: IFRS 13 Fair value measurement doesn’t apply to share based payment transactions. We should follow the guidance in IFRS 2 in determining fair value

Answer 4

grant date-when agreement is entered vesting date-when conditions arise exercise-when options are exercised vesting period-between grant and vesting date

Answer 5

The market condition around share price is IGNORED as already factored into fair value a) 500 (no options)*85%*100*£15 (FV of option)*1/3=212.5k Cr equity Dr expenses b) 500*88%*100*£15*2/3=440k less previously recognised 212.5k=£227,500 Cr equity/Dr expenses c) (500-57)*100*£15=664,500-440k previously recognised=224.5k Cr equity/Dr expenses

Answer 6

To remotivate employees: Modifications to existing share option schemes can be made during the vesting period, but why might this happen? The classic example is where a company’s share price has fallen significantly below the exercise price. Imagine holding an option with an exercise price of £10, when the current share price has fallen to £2. It’s not very likely the share price will recover putting the option in the money. As a result, the option’s fair value will have fallen significantly and we’ll have a somewhat demotivated employee. But what if the company decided to modify the option by reducing the exercise price to £3? Well, now we have a good chance of making money on the option - we just need to push the share price up by more than £1 to be in the money. So BINGO! We have a remotivated employee and a more valuable option.

Answer 7

We now recognise the expense in two parts: Continue to spread the original fair value over the vesting period (as before). Over the remaining vesting period, spread the increase in the fair value resulting from the modification. For example, If the FV of the option immediately before the modification was £2 and it is now £5, we would recognise an additional £3 over the remaining vesting period.

Answer 8

The total cost to the entity of the original option scheme was: 1,000 shares × 20 managers × £20 = £400,000 This was being recognised at the rate of £100,000 each year as this is a four year vesting period. The cost of the modification is: 1,000 × 20 managers × (£11 – £2) = £180,000 This additional cost should be recognised over 30 months, being the remaining period up to vesting, so £6,000 a month. The total cost to the entity in the year ended 31 December 20X5 is: £100,000 + (£6,000 × 6) = £136,000.

Answer 9

STEP 1: If an equity instrument is settled or cancelled during the vesting period:  The fair value not yet recognised in the statement of profit or loss should be recognised at that date. STEP 2: If on cancellation/settlement the entity makes a payment to the employees:  This payment is treated as a share buy back Dr Equity Cr Cash If the payment is greater than the fair value of the option at the date of cancellation, the excess should be recognised in the statement of profit or loss. The excess above FV is considered compensation for the FV of the shares, and not for the options granted, so an extra expense is incurred.

Answer 10

STEP 1: The original cost to the entity for the share option scheme was: 2,000 options × 23 managers × £33 = £1,518,000 This was being recognised at the rate of £506,000 in each of the three years. At 30 June 20X5 the entity should recognise a cost based on the amount of options it had vested on that date. The total cost is: 2,000 × 24 managers × £33 = £1,584,000 After deducting the amount recognised in 20X4, the 20X5 charge to profit or loss is £1,078,000 (1,584,000 – 506,000). STEP 2: The compensation paid is: 2,000 × 24 × £63 = £3,024,000 Of this, the amount attributable to the fair value of the options cancelled is: 2,000 × 24 × £60 (the fair value of the option, not of the underlying share) = £2,880,000 This is deducted from equity as a share buyback. The remaining £144,000 (£3,024,000 less £2,880,000) is charged to profit or loss.

Answer 11

It’s very easy to get confused between the treatment of equity settled and cash settled transactions, so be mindful of the following: Equity settled schemes are accounted for using the fair value at the grant date, but cash settled schemes use the fair value at each year-end, which means this number will change each year in your calculations. For equity schemes we credit equity, but for cash-settled schemes we credit liabilities.

Answer 12

For equity you Cr equity for cash you Cr liability For equity you use the FV at the grant date, for cash you reassess using FV at the year end therefore this can fluctuate throughout Still recognised cumulatively though

Answer 13

The way in which an entity is managed, controlled and directed comprising the rules and practises of directors Important to prevent corporate collapse, exmaples of bad corp gov include: Domination of a board by one individual Poor internal control Lack of board involvement Lack of transparency Lack of scrutiny Short term goal focus Lack of comms with shareholders Uk code is principles based and is on comply or explain approach (comply with code or explain why not) - 18 core principles

Answer 14

1) leadership and company purpose - board goal is to ensure long term success, tone at the top, engage with shareholders and staff, ensure resources are sufficient, have remuneration (NEDs only), audit (only NEDs) and nomination committee 2) division of responsibilities - mostly neds, CEO/Chair roles, resources to make effective decisions 3) composition, succession and evaluation - appointment should be fair and transparent, board should have the necessary skills to govern, directors should be evaluated 4) audit, risk and internal control - should eval risks, give internal audit access to neds and resources, ensure audit is effective and independent 5) directors remuneration - NEDS should have time based remuneration not performance, directors should have strategic targets, directors cant be involved in their own and the determination must be transparent

Answer 15

US and is more prescriptive rather than principles therefore not adhering could result in fines or otherwise The CEO and CFO must certify that they have reviewed the financial statements and find that they are accurate and free from material misstatement. must include increase corp gov disclosures SOX includes a code of ethics that applies to senior financial staff. The code includes requirements to promote honest and ethical conduct and to comply with relevant laws and regulations. SOX includes restrictions on share dealings by company officers, along with prohibition of company officers soliciting or receiving loans from the company. Systems and controls must be documented and tested. One of the external auditor’s responsibilities is to test and report upon the internal control system. SOX outlaws some classes of non-audit work such as the provision of internal audit services or the provision of ‘expert’ services such as providing valuations. Any non-audit work performed must be monitored to ensure that it does not compromise auditor independence.

Answer 16

Limited assurance rather than audit so limit to the depth of procedures performed, limited to: enquiry analytical procedures management representations

Answer 17

Type 1-description and design of controls Type 2-description design and effectiveness

Answer 18

If services are signifcant then the whole property should be treat as PPE, if they are not eg maintenance of a building then the building should be classed as investment property remember investment property is held for capital appreciation or rental yield, land held for an indeterminate time is also classed as such but note a company whose business is to sell houses would have the buildings classed as inventory

Answer 19

Both accounted for as inital cost For investment can still hold under cost model but can also hold under fair value model (similar to reval method) so how is this different? Well any gains or losses on investment property are taken directly to the SPL rather than recognition through OCI once chosen but be used for ALL investment properties

Answer 20

owner occupation (IP to PPE) treatment under FV: Restate to FV prior to transfer and any change taken to SPL cessation of occupation (PPE to IP) treatment under FV: Restate to FV prior to transfer with any change taken to OCI and reval reserve! refurb prior to sale (IP to Inventory) if co decides to sell but has to refurb then must be classed as inventory Treatment under FV: restate to FV prior with changes taken through SPL Inception of an operating lease eg housebuilder cant sell the asset so decide to then lease short term in hope market upturns (Inventory to IP) Treatment under FV: Restate to FV and transfer with any changes recorded in the SPL For cost model all you would do is transfer at the carrying amount If FV method (see above for each scenario)

Answer 21

A hedge has three components: hedged item hedging instrument hedged risk

Answer 22

Fair value hedge (existing asset/liab/unrecog firm commitment) Cash flow hedge (highly probable future cash flow/associate cashflow w existing asset/liab) Net investment hedge (consol only - invest in subsid) Exception to the rule-firm commitment forex risk can be either cash flow or fair value!

Answer 23

Intrinsic is the only part to hedge account (intrisnic being diff between share price and exercise price) Time value is taken through OCI (TV being fair vlaue vs intrinsic value)

Answer 24

If swap fixed to variable this is a fair value hedge (as the hedged item is the fair value of the fixed rate loan) If swap is variable to fixed this is a cash flow hedge as the hedged item is the future cash outflow of the fixed interest payments

Answer 25

If a contract is entered into to buy or sell a non-financial item (such as inventory) that is used in the business or is being sold on to customers, it does not fall within the remit of IFRS 9. For example, if a company enters a forward contract directly with a supplier to buy goods at a fixed price to be used in the business, this does not qualify as a financial instrument. As such, the purchase of inventory is simply recorded when it occurs in the usual fashion.

Answer 26

If a company enters into a derivative contract for any other reason than to hedge a risk (such as for speculative purposes), the normal rules of IFRS 9 are applied and the derivative is classified as fair value through profit or loss.

Answer 27

The recoverable amount is the higher of value in use and FV less costs to sell. When CV>recoverable amount

Answer 28

Apportion based on proportional carrying amounts of each CGU CGU is cash generating unit (smallest that can be to generate cash) eg for kaplan would be a building for lectures For impair you still apportion however use any purchased goodwill first (as effectively this would likely be gone if there is an impairment anyway), also never impair below each assets recoverable amount, by the same virtue we ignore inventory as this is valued at lower of cost vs NRV therefore is already in theory at its recoverable amount Note: goodwill impairment cant ever be reversed, impairment can be reversed through SPL but gain cant be if no previous impairment, moreover can only recognised the excess if no previous is fv method is adopted

Answer 29

Indefinite intangibles Goodwill on acquisition of a business When indicators are present

Answer 30

Defined contribution schemes are normally a % of a salary and the future pension depends on how the fund performs. Defined benefit schemes guarantee an outcome and usually depends on final salary and the number of years worked

Answer 31

Recognise contributions payable as an expense in the SPL in the period in which the employee provides services (unless they are to be capitalised) Recognise a liability for unpaid contributions

Answer 32

13.5m*5%=675k Dr SPL 675k Cr Cash £510k Cr liability (accruals) £165k

Answer 33

PV of the defined benefit obligation Less FV of plan assets

Answer 34

Opening balance X Interest cost X Service costs X Retirement benefits paid (X) Closing balance X Plan assets is: Opening balance X Interest in assets X Contributions paid X Retirement benefits paid (X) Closing balance X Note: re measurement component is in the middle of the working and closing balance as a balancing figure This is taken to OCI and not reclassified to SPL in the future and is due tot the actuary valuation based on other assumptions Meanwhile the net interest cost (ie py obligation less assets * discount rate) * service cost are expensed to SPL

Answer 35

Dr plan obligations Cr plan assets Dr/cr SPL The SPL charge is treated as part of the service costs

Answer 36

Dr plan obligations Cr plan assets Dr/cr SPL The SPL charge is treated as part of the service costs

Answer 37

Threshold to ensure any define benefit scheme is carried at no more than the recoverable amount (restriction to cash savings available to the entity in the future

Answer 38

Same as pension but remeasurment taken to SPL and less uncertainty over the payment

Answer 39

Provision is demonstrably committed to providing

Answer 40

Due to the time difference there is a significant financing component to this consideration and therefore this needs reflected as 4m*1/1.05^3=£3.45m to reflect this Revenue should be recognised when each performance obligation is satisfied, therefore revenue and receivable should be recognised for this amount on 31st Dec 20X1 The receivable would then fall under IFRS 9 financial instruments

Answer 41

900k asset The service needs to be 120k/0.4=300k Thus receiving 200k discount Need to apportion across PO as: 900k/1200k*1m=750k And 300k/1200k*1m=250k =1m The asset recognised upon receipt The service would be recognised over the 12 month period

Answer 42

9m Nil as no costs are recoverable (if outcome cannot be reliably measured then revenue recognised is restricted to the costs incurred that are recoverable from the customer)

Answer 43

No -Fixed repurchase price therefore the bank is not exposed to risks and rewards of changes in the property market -Long term benefits remain with potter as still access to the building and is expected to exercise their right due to being below MV significantly As such potter should not recognise a sale and should continue to recognise the property in its own accounts This should be treated as a £5m loan on the property with interest of £2m: Dr cash £5m Cr loan £5m Interest (£7-5m=£2m*0.5 year =1 m·year= Dr finance costs £1m Cr loan £1m SOFP loan £6m SPL finance costs £1m

Answer 44

Recognise 3k refund liability Revenue of 197k (200k-3k) Asset of 4*300=1200 should be recognised Dr cash 200k Cr revenue 197k Cr refund liability 3k Dr right to cover (assets) £1200 Dr cost of sales (19700*4) £78800 (think balancing figure as only cost of 19700 items as other 309 returned) Cr inventories 20k*4 £80k

Answer 45

Record initially at historic rate on transaction If settled then realise forex gain through SPL and re-record transaction using date on that date If unsettled there will be an outstanding asset or loan, if this is a monetary item retranslate at closing taking diff to SPL If forex relates to trading it is disclosed with OOI or opex If forex relates to non trading it is recorded as interest receivable and similar income/finance costs

Answer 46

If cost model they are recorded at HR and carried forward at this rate (not retranslated) If fair value the forex goes where the asset valuation goes eg revalued ppe would have revaluation reserves therefore forex changes would be recognised in equity where as FVPL assets have forex taken to SPL It would also be retranslated on the spot date when fair value is decided eg bought Poe for 600k at 1£:2$ but then decided FV is 900k 1£:1.8 dollars you would retranslate and take the difference in these to the correct place based on above

Answer 47

Assets/liabs use closing rate Income and expenses at average rate Equity (pre acq) use historic rate

Answer 48

Assets/liabs use closing rate Income and expenses at average rate Equity (pre acq) use historic rate

Answer 49

Stop depreciating the asset transfer to held for sale category in SOFP Write the asset down to FV less expected selling costs if below CV (if held at depreciated historic cost) If revalued amount do the same but the selling costs are expensed to the SPL

Answer 50

Component of an entity identified on a managerial basis Aggregation can occur if similar eg products, production processes, types of customer, distn methods, regulatory environment Segments must meet one of 3 tests: >=10% total sales >= 10% result of combine result of all segments in profit or all segments in loss (whichever is greater in absolute) >=10% total assets Note that the external revenue identified as reportable also needs to be 75% of external revenue Can choose to report others if management think useful to do so

Answer 51

Advisable for public entities for at least 6 months of the year and available no later than 60 days after the end of the interim period Basically gives condensed stsements and explanatory notes

Answer 52

Estimates are prospective (going forward change) Policy change is prospective (ie restatement of pu and py adj)