Week 3 - Preparation of company accounts

Question 1

What are the 3 categories within Expenses in the SoCI?

Answer 1

1. Administrative expenses
2. Distribution expenses
3. Other operating expenses

Question 2

Other comprehensive income

Answer 2

Items of income and expense (incl. reclassification adjustments) that are NOT RECOGNISED in profit/loss
= UNREALISED income/expense

Question 3

How are IAS 16 PPE & IAS 40 Investment Property accounted for in the I/S or OCI? (ref. to realised vs unrealised gains/losses)

Answer 3

Both are actually unrealised but treated differently. Many times in I/S are unrealised but all in OCI are unrealised.

IAS 16 PPE
(bought for operations/trading purposes)
- recognised in OCI
- accumulate in equity (as other components of equity)

IAS 40 Investment Property
(bought to obtain rent or for capital gain)
- recognised in I/S
- part of Retained earnings

Question 4

3 gains & losses that CANNOT be reclassified from OCI to I/S

Answer 4

1. Changes in REVALUATION SURPLUS where the revaluation method is used under IAS 16 PPE and IAS 38 Intangible Assets
2. REMEASUREMENTS of a NET DB LIABILITY or ASSET recognised in accordance w/ IAS 19 Employee Benefits
3. Gains and losses on REMEASURING fair-value-THROUGH-OCI financial assets in accordance
   with IAS 39 Financial Instruments: Recognition and Measurement (prior to 2018) and IFRS 9 Financial Instruments

Question 5

2 gains & losses that COULD be reclassified from OCI to I/S

Answer 5

1. EXCHANGE DIFFERENCES from translating functional currency to presentation currency in accordance w/ IAS 21 Changes in Foreign Exchange Rates
2. The effective portion of gains and losses on HEDGING intruments in a cash flow hedge under IFRS 9 Financial Instruments

Question 6

Comprehensive income vs Net income/profit

Does comprehensive income increase information usefulness, and therefore enable more informed decision-making?

*can also ref. to foreign currency/operations disposal; CI has no volatility

Answer 6

1. USEFULNESS = a good measure of firm performance?
   Usefulness = value relevant information?
   Usefulness = firm performance predictability? Financial viability and sustainability?
   > can be narrow, ie. depend more than just firm’s numbers, eg. consumer boycott
   - Could potentially add knowledge for decision-making; provide an overview of risks, performance & direction of co.
   - But must still analyse context of item - is it one-off or prolonged? Items can fluctuate depending on market conditions. Can’t jump to conclusions too quickly (argument against. M&S OCI in 2021 would’ve thought continued loss but not true in 2022)

• Dhaliwal et al., (1999) found NO EVIDENCE that CI/OCI is a better measure of firm PERFORMANCE compared with net income

2. Not 100% RELIABLE b/c not based on historical transactions, but helpful for PREDICTABILITY (though rmb that past events are not relevant)
3. Relevant info can be found OUTSIDE fin. stt.s too
   - Can argue that net income is more “useful” than OCI since there is an overlap of info with stt. of changes in equity (SoCE is more detailed)
   - Chambers et al. (2007) found that OCI is more useful when included in SoCE than in SoCI

Conclusion: Research shows mixed findings but more recent research shows OCI or some of its components improve usefulness of reported info on incomes.

Question 7

Components of Statement of changes in Equity (SOCE)

Answer 7

1. Opening R/E balance
2. Profit/(loss) for the year
3. New shares issued {& share buybacks}
4. Dividends declared and paid out - ordinary & preference shares
5. Revaluation reserves
6. Other comprehensive income/(expense)
7. Closing R/E balance

Vertical columns from L to R:
1. Share capital
2. Revaluation reserves
3. Retained earnings
For groups, ^ is under ‘Attributable to owners of the parent’
4. Non-controlling interests (for groups)
5. Total equity

Question 8

5 reasons for share buybacks (in packages)

Answer 8

1. signals confidence of company in market so that won’t dilute share price
2. increase earnings per share (EPS), market confidence increases again
3. readjust capital structure to maybe take on debt when very low interest rate to offset dividends that co. has to pay, also depends on expectations of shareholders
4. to have back more control over company
5. return capital back to owners, again shows confidence of co. in the market

Question 9

Evaluate and discuss limitations of financial statements/disclosure

Answer 9

Cons
1. WEAK REGULATIONS, governance, accountability, internal control
2. Does not give full picture of co. performance, does not take into account non-fin factors & contextual info (b/c cannot be measured)
3. RISK not stated inside fin. stt.s
4. Leave room for interpretation -> true and fair view? Truthful representation?
5. Historical cost accounting in times of inflation (from CPE5 feedback)

Pros
1. Provide info about profitability & economic returns of biz (FINANCIAL side)
2. Historical data might be RELIABLE but IRRELEVANT
3. Adhere to a regulatory framework for comparability
4. Info for shareholders to monitor stewardship of co.