Part 5: Accounting quality and financial statement items

Question 1

How is an asset defined?

Answer 1

A present economic resource controlled by the entity as a result of past events, where an economic resource is a right that has the potential to produce economic benefits

Question 2

How is a liability defined?

Answer 2

Present obligation of the entity to transfer an economic resource as a result of past events

Question 3

What two components does the definition of an asset and a liability contain?

Answer 3

Control (or lack thereof) as a result of past events

Expected future economic benefits (or outflow)

Question 4

How is equity defined?

Answer 4

The difference between assets and liabilities (residual)
In theory it is clearly defined. In practise, however, the distinction between liabilities and equity are not always clear

Question 5

How is income and expenses defined?

Answer 5

Income – increases in assets or decreases in liabilities that result in increases in equity, other than those relating to contributions from holders of equity claims
Expense – decreases in assets or increases in liabilities that result in decreases in equity, other than those relating to distributions to holders of equity claims

Question 6

What are the two bases of measurement?

Answer 6

Historical cost 
	Current value (fair value, value in use, current cost)

Question 7

Explain the three different current value valuations

Answer 7

Fair value – represents the market price of an item, and it can be measured through current market price or through discounted cash flows
Value in use – is based on the discounted cash flows
Current cost – is the price in a hypothetical current transaction

Question 8

Which measurement is the default according to IFRS?

Answer 8

Historical cost

Question 9

In what situations are fair value primarily used?

Answer 9

When historical cost is not relevant, i.e., firm performance is evaluated based on changes in fair value
When historical cost must be estimated because there is no transaction for the individual asset

Question 10

What is the main problem when accounting for assets?

Answer 10

Whether an asset meets the definition and thus should be recognised or not
Typically, this is not a problem with tangible and financial, however, it is often a problem with intangible assets

Question 11

What are the three types of assets?

Answer 11

Tangible (PP&E)
Intangible
Financial

Question 12

What are the three possible measurement models for tangible assets?

Answer 12

Cost model – value equal to cost minus accumulated depreciation and impairment losses
Revaluation model – systematic and periodic revaluations to fair value when there is a material difference between fair value and book value
Fair value model – assets are measured at fair value at balance sheet date

Question 13

What is an intangible asset defined as?

Answer 13

Identifiable non-monetary asset lacking physical substance

Question 14

How can intangible assets be acquired?

Answer 14

Separate external acquisition
External acquisition as part of business combination
Generated internally

Question 15

What are the three measurement models used for financial assets?

Answer 15

Fair value through profit and loss (FVPL)
Fair value through other comprehensive income (FVOCI)
Historic (amortized) cost

Question 16

When is fair value relevant to use when valuing financial assets?

Answer 16

Changes in fair value is likely to be realized in the firm’s cash flows
Changes in value are used internally to assess performance
(Fair value should only be used when faithful representation is obtainable)

Question 17

What is a provision?

Answer 17

A subset of liabilities that are uncertain in terms of timing or amount of future cash outflow and where substantial judgement is often required in recognition and measurement

Question 18

How are liabilities and provisions measured

Answer 18

Liabilities – fair value

Provisions – current value (estimated fair value)

Question 19

What is a contingent liability?

Answer 19

A possible obligation due to past events but whose existence will only be confirmed by further events taking place. This means that it is not possible to make a reliable estimate of amount or the probability. These are only disclosed in the notes.

Question 20

What is the accounting problem with provisions and incentives?

Answer 20

There is substantial managerial judgement involved in accounting for provisions. While such judgement can help management provide important private information to investors, it can potentially also be used to manage earnings

Question 21

What are the two accounting issues related to equity?

Answer 21

The distinction between equity and liabilities

Classification of equity into different items

Question 22

What is the five-step approach to revenue recognition?

Answer 22

Identify the contract
Identify performance obligations
Determine transaction price
Allocate transaction price to performance obligations
Recognize revenue when performance obligation is satisfied

Question 23

What are the two main perspectives of group accounting?

Answer 23

The owner perspective

The entity perspective

Question 24

What are the four levels of control and influence?

Answer 24

Control – over 50% of voting power
Significant influence – 20-49% of voting power
Joint control/joint arrangement
Holding with no real influence – under 20% of voting power

Question 25

What are the four stages of recognising business combinations?

Answer 25

Determine acquirer
Determine transaction price
Allocate transaction price to assets and liabilities
Determine subsequent measurement of assets and liabilities in the acquiree

Question 26

How is goodwill measured?

Answer 26

Historical cost, with no amortization but annual impairment testing