Corporate Reporting: Open Book Notes

These notes summarise the key Financial Reporting and Audit issues for the most examinable parts
of the CR syllabus and therefore serve as a useful and time effective look up in the exam. The notes
also include calculation proformas and reminders.
The Exam Technique Guidance section provides specific advice as to how to approach the different
types of exam question in the CR exam. Our classroom and online tuition classes demonstrate how
to apply these techniques to recent CR exam papers.
Always remember to tailor your answer to the specific scenario. The audit risks and procedures
included below are a sample of common risks and procedures for each area and whilst they feature
regularly in the answers, you should tailor your risks and procedures to the specific issues in the
scenario. Nothing annoys the examiner more than a student who tries to dump a pre-prepared list
of risks and procedures!

Contents:
Exam Technique Guidance (p2)
Assets and Leases (p4)
Financial Instruments (p18)
Revenue & Provisions (p26)
Pensions & SBP (p29)
Tax (p34)
Groups (p38)
Other Standards (p53)
Financial Statements: single entity (p58)

These materials are protected by copyright law. All breaches will be reported.
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ACA Masters.
ICAEW takes no responsibility for the content of any supplemental training materials supplied by the Partner in Learning.

1
 EXAM TECHNIQUE GUIDANCE

Explain FR treatment

• Brief abstract (relevant sections of relevant standards)

• Application (apply above to specific scenario)

• Numbers

• Subsequent numbers

• Immediate correction to draft FS if required for next part of question

See CR Masterclass webinars for practical demonstration using recent exam questions

Explain FR treatment with Audit Risks and Procedures

Issue 1

• Explain FR treatment (as above)

• Overlay numbers to FS

• Audit risks – specific to the exact facts of the scenario: not from generic list

• Audit procedures – specific to the risks above

Issue 2

• Explain FR treatment (as above)

• Overlay numbers to FS

• Audit risks – specific to the exact facts of the scenario: not from generic list

• Audit procedures – specific to the risks above

See CR Masterclass webinars for practical demonstration using recent exam questions

Audit: Other i.e. non-risks and procedures questions

• Pay particular attention to the exact requirement wording: answer exactly what the examiner has
asked for

• Use the requirement wording as headings for your answer e.g. ‘Impact on Audit Plan’ and
‘Recommended changes to plan’; this will keep your answer focussed

• Use the information provided in the exhibits to generate points and not a pre-prepared list

• Points should use the financial data (cash position, falling margins) and non-financial information
(client staff changes, dominating FD, regulatory change, audit sign-off pressure)

2
• Look at linkages between the exhibits and financial and non-financial points e.g. there may a
narrative point that a division has been under-performing but the PPE/IFA note does not show any
impairment

• Keep points brief (2-3 lines max), leave a line between each and aim for a wide range of points

Performance analysis exam technique

• What has moved (Revenue, Revenue mix, GP, GPM, Cash, WC)

• Why it has moved (commercial reason from scenario)

• Further insight / trend (e.g. adjust numbers for better comparison)

• Current and future business impact

See CR Groups and Performance Masterclass webinar for practical demonstration using recent exam
questions

Ethics exam technique

• WWMA - What? Why? Mitigation? Action?

• What is the issue and which principle is under threat?

• Why is it under threat and what type of threat?

• Can it be Mitigated / Debate whether it is actually an issue

• What Action should be taken to resolve threat – safeguards

• Consider specific audit rules around engagement

3
 ASSETS & LEASES

A resource controlled as a result of past events, from which it is probable that economic benefits will flow
to the entity, and the asset can be measured reliably

IAS 16 Capitalisation

• Cost includes all ‘directly attributable’ costs, which includes more than just purchase price – see PPE
note below

• Separate components and enabling costs (e.g. inspections) are capitalised and depreciated
separately

IAS 23 Borrowing costs

• Interest costs on loans which are directly attributable to the PPE are capitalised as part of the asset -
Dr PPE, Cr Cash

• Start capitalising once expenditure on asset is incurred, interest costs have been incurred and asset
is being made ready for use

• Cease capitalisation as soon as asset is ‘ready for use’

Audit Risks Audit Procedures

➢ Incorrect amounts capitalised • Establish whether costs are ‘directly attributable’
to bring asset into use
• Agree interest rate to loan agreement
• Recalculate interest to be capitalised
• Enquire with mgt re: dates when expenditure
started and asset ‘ready for use’

IAS 16 Subsequent measurement

• Cost model: CA = Cost – Depr’ / Impairments

• Reval model: CA = FV – Depr’ / Impairments

• Assets of same class must follow same model i.e. if one building is revalued, all buildings must be
revalued

• The revalued gain is ‘unrealised’ so is recorded in OCI rather than P&L - Dr PPE, Cr OCI

• Going forward, depr is charged on the new revalued amount, so depr is higher…

• So, a reserves transfer can be made for the ‘additional depr’ - Dr Revaluation Reserve, Cr Retained
earnings

• If the asset is overseas, FV is calculated using the Closing Rate (CR) to get the most accurate GBP FV
(even though it is a non-monetary asset)

4
 Audit Risks Audit Procedures
➢ Existence • Physically inspect sample of assets to check
existence and to identify any indications of
➢ Unrecorded assets impairment
• Inspect invoices for sample of additions
➢ Misclassification of assets (do we • Review title deeds/ownership documentation
have the risks and rewards of
ownership?)

➢ Error in capitalisation of revenue • Review schedule of capitalised costs and ensure

expenditure they are asset enhancing costs and not revenue
expenditure
➢ Incorrect valuation of assets • Agree revaluations to external valuer reports
where possible
• Property uplifts
o Obtain a copy of the updated valuation report
o Discuss with valuer / review
assumptions/methodology used and reasons
for the change in value
o Are there motives for management to
increase asset value? Link to other
information in the scenario
➢ Inappropriate depreciation • Review depreciation rates to ensure reasonable
• Recalculate depreciation/perform analytical
procedures on depreciation
➢ Incorrect calculation of profit or • Agree sales proceeds from disposals to bank
loss on disposals statement

IAS 36 Impairment

• Occurs when an asset’s recoverable amount (RA) falls below its carrying amount

• RA amount is higher of: FV minus selling costs and Value in Use (PV of cash the business will
generate from using it)

• If the asset is overseas, RA is calculated using the Closing Fex Rate (CR) as that is what could be
recovered in GBP today. Whereas CA is calculated using the Historic Rate (HR) as it is a non-
monetary asset and therefore not remeasured

• Indicators of impairment – fall in MV, physical damage, competitor product launch, higher interest
rates etc.

• Accounted for in the same way as depr’ Cr PPE, Dr P&L. Unless, asset has been revalued upwards Cr
PPE, Dr OCI

• If an asset doesn’t have separately identifiable cash flows then the Cash Generating Unit (CGU) as a
whole is tested for impairment

• As the CGU may include several IAS16 assets and goodwill, then the impairment is charged to
goodwill and then prorated to other assets

5
 • If net assets NCI valuation method is used, then GW needs to be grossed up to include NCI element
of GW

• No asset can be impaired to below its recoverable amount

• Impairment reversals can only reinstate an asset up to the lower of: its recoverable amount and its
CA had it never been impaired in the first place

• GW impairments can never be reversed

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6
 Audit Risks Audit Procedures
➢ Impairments not recorded • Review and enquire re: management’s impairment
review
• Investigate for indicators of impairment (use
scenario) e.g. consider market conditions

➢ Impairment loss incorrectly • Agree FV to prices of similar assets if there is an

calculated active market
➢ Recoverable amount requires • If estimation of FV based on expert valuation
estimation and is subjective consider their independence and competence
• Audit the calculation of VIU:
o Obtain management’s calculation and
reperform
o Consider allocation of shared assets / costs
between CGUs
o Compare cash flow projections to recent
budgets to ensure realistic
o Compare to previous calculations of value in
use to ensure all costs have been include
o Ensure proceeds of disposal at end of life
included
o Compare discount rate to published market
rates

IFRS 5 Assets Held for Sale

• Links to IFRS 5: Discontinued Ops – disposal or planned sale of a separate business line

• Results of the division are presented as a single ‘Discontinued Ops’ line in P&L

• Conditions to recognise assets as AHFS – within 12m, intention to sell, actively marketing, saleable in
present condition

• Assets need to be measured at the lower of: FV (minus selling costs) and CA

• If the asset is held under the revaluation model then it needs to be revalued prior to be being
impaired

• Essentially, it is an impairment of the assets to immediately record the loss which will occur on
actual disposal

• Cr PPE, Dr P&L (Loss on discontinued Ops)

• Asset is no longer depr’

• Assets shown as sub-category on SFP

• A Sub can be presented as Discontinued Ops (P&L) and AHfS (SFP) if IFRS5 criteria met

7
8
 Audit Risks Audit Procedures
➢ Failure to separately disclose • Identify discontinued operations criteria through
results from discontinued discussion with management, review of the board
operations minutes and press reports of significant business
➢ Inappropriate disclosure of loss- events
making divisions as discontinued
ops
➢ Incorrect classification of assets • Enquiries of management regarding intentions
as held for sale • Review minutes of management meetings for
evidence of firm plan to sell
• Enquiry of estate agent as to likelihood of
completion within a year
• Subsequent events review
➢ Inappropriate valuation of asset • Ensure assets meet the criteria of IFRS 5 and that
held for sale they are valued appropriately
• Review of sales information/contracts with estate
agents
• Comparison of sales price to sales
information/contract

IAS 38 Intangibles

• Patents, Trademarks, Brands etc.

• Treatment is very similar to tangibles (IAS16 PPE)

• In addition to meeting the generic definition of an asset, it also needs to be separable or arise from
legal rights

• Therefore, does not include internally generated goodwill as it is not separable, does not arise from
legal rights and cannot be measured reliably

• Research costs are expensed as future economic benefits are uncertain

• Development costs are capitalised provided that all criteria are met – future economic benefits,
intention and capability to complete asset, resources to complete etc.

• Revaluation & residual value are rare – can only use if active second-hand market

• Accounting treatment the same as PPE for revaluation, amortisation, impairment and disposals

9
Audit Risks Audit Procedures
➢ Inappropriate recognition in SFP • Obtain purchase agreement to verify that asset
was externally acquired and not internally
generated

➢ Inappropriate capitalisation of • Obtain invoices to verify nature of costs

development costs capitalised and ensure they are asset enhancing
costs and not revenue expenditure
• Enquire as to the intention and feasibility of
completing the project
• Review sales forecasts to ensure future economic
benefits will flow
➢ Inappropriate amortisation • Review amortisation rates to ensure reasonable
• Recalculate amortisation /perform analytical
procedures on amortisation

10
IAS 40 Investment properties

• Properties held for investment purposes rather than for use in the trade (i.e. IAS16 assets)

• Normal asset recognition criteria apply – probable economic benefits, measured reliably, cost plus
directly attributable costs

• If the property is leased, then IAS17 applies. The only difference is how the asset is presented i.e. IP
rather than PPE

Accounting policy choice for subsequent measurement:

• Cost model: CA = Cost – Depr’ - Impairments

• FV model: CA = FV

• FV is MV with increases / decreases recorded in the P&L, unlike IAS16

• Assets of same class must follow same model i.e. if one property is revalued, all properties must be
revalued

• Assets moved from FV model PPE to IP are revalued prior to transfer

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11
Audit Risks Audit Procedures
➢ Misclassification as investment • Enquire with mgt to ascertain that the property is
property being let out or held for capital appreciation
• Confirm that all investment properties are
classified in accordance with IAS 40 definition
➢ Incorrect valuation/ gain or loss • Establish accounting policy (cost v revaluation
in P&L model)
• If cost model adopted ensure compliance with IAS
16
• If fair value model adopted:
o Check that FV reflects market conditions at
the balance sheet date
o Agree valuation to valuer’s certificate
o Use expert to determine FV
o Where current prices in an active market are
not available, confirm that alternative basis of
valuation is reasonable
o Recalculate gain or loss on change in fair
value and agree to balance in P&L

12
IAS 17 Leases

• Finance Lease if ‘risks and rewards’ of ownership transferred:

PV of MLP = FV of asset, lease term = UEL, ownership transferred etc.

• This applies the ‘substance over form’ principle as lessee may effectively ‘control’ the asset

Finance Leases

Asset:

• Asset is recorded on BS - Dr PPE, Cr Finance Lease Liability

• The cost of the asset is the lower of: FV and PV of MLP

• Asset is depreciated like any other asset, although UEL will be the lease term if shorter than asset’s
actual UEL

• Lease term includes ‘secondary periods’ at discounted rents

• Remember that Land is not depreciated

Liability:

• Liability is recorded on BS - Dr PPE, Cr Finance Lease Liability

• The value of liability is equal to the asset recognised i.e. the lower of: FV and PV of MLP

• Finance charges are accrued – Dr P&L Finance cost, Cr Lease

• Lease payments reduce liability – Cr Cash, Dr Lease

Lessor Accounting:

• An asset (receivable) is recognised equal to the ‘net investment in the lease’ which is PV of MLP plus
unguaranteed residual value (similar to lessee liability)

• Financing income is included in the I/S

Dealer / manufacturer lessors:

• 2 elements to the sale: Initial Sale and Subsequent Finance income

• Revenue: Lower of: PV of MLP and FV of asset

• CoS: Cost / CA minus unguaranteed residual value

• Finance income: Lease table using ‘Market rate’ of interest

13
Operating Leases

• Lessee doesn’t control asset and R&R have not been transferred

• Simply record the total lease expense (rental expense, lease premium, reverse premium) in P&L on a
straight-line basis over lease term

• For L&B, need to consider each separately to determine if they are finance or operating leases

Sale & Leaseback

14
IFRS 16 Leases

• Effective from 01.01.19

• No Finance / Operating lease distinction: nearly all leases are finance leases

Right of use asset

• Right to control the use of an identifiable asset and obtain the economic benefits from it

• Asset is recorded on BS - Dr Right of Use Asset, Cr Finance Lease Liability

• Cost of the asset is the same as the lease liability i.e. PV of MLP

• Any directly attributable costs are capitalised

• Asset is depreciated like any other asset, although depr’ period will be the lease term if shorter than
UEL

Lease Liability

• Liability is recorded on BS - Dr Right of use asset, Cr Finance Lease Liability

• The value of liability is the PV of MLP

• Finance charges are accrued – Dr P&L Finance cost, Cr Lease

• Lease payments reduce liability – Cr Cash, Dr Lease

• See Lease proforma

Sale & Leaseback

Transfer is a sale under IFRS15:

• Part of the CA is retained as a right of use asset

• Therefore, only part of the asset is actually sold

• If sale is below FV, then loss is treated as a prepayment of the finance lease

• If sale is above FV, then profit is treated as additional financing provided by the lessor

15
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Transfer is not a sale under IFRS15:

• No disposal

• The proceeds received are a loan (IFRS9)

16
Audit Risks Audit Procedures
➢ Misclassification of lease • Assess classification of lease as finance/operating
by reference to terms of lease (review lease
agreement to ascertain if ownership transfers etc.)
• Recalculate PV of MLP and compare to FV
➢ Interest rate used may be • Recalculate implicit interest rate
inappropriate • Recalculate interest element of finance lease
➢ Fair value estimations • Management Representations
• Evaluate the valuation technique adopted
• Obtain a documentation of assumptions, and
ascertain the appropriateness of these
assumptions
• Enquire with 3rd party expert
➢ Depreciation calculations may be • Check asset under FL is depreciated over shorter
incorrect of lease term and UEL
• Recalculate depreciation charge
➢ Lease payments • Agree to lease agreement
• Agree lease payments to bank statement
➢ Incorrect treatment of lease • Confirm that any operating lease incentives have
incentives been deducted in calculating the related income
or expense
➢ Split of finance lease liability • Review calculations of split between current and
between current and non- non- current
current may not be accurate
➢ Disclosures • Check that disclosures comply with IAS17

17
 FINANCIAL INSTRUMENTS

Financial Asset: Right to receive cash, financial assets or equity in another entity

• Trade receivable

• Loans receivable

• Equity in other entities

• Derivative - requires no initial investment and its value changes in response to an 'underlying’ e.g.
forwards, futures, options.

Financial Liability: Obligation to pay cash or financial asset to another party

• Trade payable

• Loans payable

• Derivatives

Classification and Measurement

Financial Assets

3 Categories based on business model and contractual cash flows:

• Amortised cost – held to collect cash

• FV through P&L – held for trading

• FV through OCI – held to collect cash and to trade

Financial Liabilities

• Amortised cost

• FV through P&L – held for trading

18
• Upon initial recognition, any asset can be classified as FVTPL

• Equity does not give rise to contractual cash so cannot be held at Amortised Cost

• Equity can be elected into FVOCI

• Reclassification is permitted if there is a change in business model

19
 Impairment

• Forward looking impairment model: providing for expected losses for all financial assets i.e.
reduction in cash flow

Stage 1 - Upon initial recognition, 12m of expected credit losses are treated as a bad debt allowance
against the asset

Stage 2 – Credit quality deteriorates; Lifetime expected credit losses are treated as a bad debt allowance
against the asset

Stage 3 - Evidence of impairment; Lifetime expected credit losses reduce the carrying amount and
therefore the effective interest rate

• Allowance may increase / reverse in the same way as any other provision

Liability v Equity

• Equity – A residual interest in the net assets of the entity

• Debt – A contractual obligation to make a payment (can be made in either cash or other financial
asset e.g. own shares)

Convertible instruments

• Loans which have the option to ‘convert’ the debt into equity

• Therefore, the instrument has 2 components; the ‘debt’ and the ‘equity option’ – both carry a value

• Need to calculate the ‘liability element’ and the ‘equity element’

• Liability element calculated as normal i.e. the PV of future cash flows using an effective interest rate
equivalent to a similar bond without the conversion option

• Equity element is simply the ‘remainder’

20
 Hedge accounting

• Hedge accounting ensures that the movement on the instrument and the item hits the P&L in the
same period

• To apply hedge accounting, must document: hedged item, hedging instrument, hedging relationship
and risk mgmt. strategy

Fair Value Hedge

• A hedge to reduce exposure from changes in FV of a recognised asset / liability or firm commitment

• e.g. a future to hedge inventory value, a put option to hedge equity investments (if equity is FVOCI
then hedging instrument gains / losses also go through OCI)

21
Cash Flow Hedge

• A hedge to reduce exposure to variability in Cash Flows of a recognised asset / liability or a forecast
transaction

• e.g. Fex option to hedge orders from overseas suppliers (highly probable forecast transaction),
interest rate swap to hedge interest payments

22
23
 24
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Audit Risks Audit Procedures
➢ Incorrect application of IFRS9 • Consider need for specialist staff on the audit
• Classification • Review terms of the instrument and confirm it has
• Measurement been classified correctly
• Valuation • Enquire of management as to their intention to
• Presentation in P&L and SFP hold or sell financial instruments. Corroborate by
• Disclosures reviewing subsequent events
• Agree initial fair value to transaction price
• Verify transaction costs and ensure capitalised /
expenses accordingly
• Recalculate the amount of amortisation to ensure
it has been calculated using the effective interest
method
• Where there is an active market agree fair value to
quoted market price
• Agree EIR to similar instruments
• Where there is no active market assess the
valuation, technique adopted by management
based on level 2 and 3 inputs
• Design audit procedures in accordance with IAPN
1000
• Ensure disclosure of risks is in accordance with
IFRS7

Receivables
• Agree post year end receipts to bank payments
• Review post year end credit notes
• Review correspondence regarding disputes with
customers
• Calculate receivables collection period and
compare to prior year and to agreed credit terms

Payables
• Review purchases ledger for any significant aged
balances. Make enquiries regarding significantly
aged balances.
• Agree sample of balances to supplier statements
• Perform cut off testing by reviewing a sample of
post year end payments from bank statement to
invoice, and check whether correctly
included/excluded at year end

Cash
• Review client bank reconciliation
• Obtain bank confirmation letter as at year end
date

25
 REVENUE & PROVISIONS

IFRS15 Revenue

• Income arising from the ordinary course of business

• 5 step model:

• work out amount to be paid for each good / service to be provided and record revenue when each
good / service is provided

• Performance obligations can be satisfied either:

- at a point in time - when control is transferred e.g. delivery

- over a period of time - according to stage of completion

• Cash paid before goods / services provided = Contract liability i.e. deferred income

• Goods / services provided (but not invoiced) before cash paid = Contract asset

• Goods / services provided (and invoiced) before cash paid = Receivable

• Costs incurred obtaining or fulfilling contracts should be capitalised and amortised over contract life
(to offset associated revenue)

• Deferred payment needs to be discounted to Present Value with the difference recorded as finance
income when full amount is received

• Sales of services only include the proportion of the service performed i.e. stage of completion and
NOT cash received

• If goods and services are ‘bundled’ and the services have not been fully performed, then the
uncompleted service element needs to be stripped out of revenue

26
Audit Risks Audit Procedures
➢ Revenue recognised in wrong • Cut off testing – review a sample of invoices/GDNs
period before and after year end to ensure revenue
recorded in correct period
• Review credit notes post year end (cut off)
➢ Amount of revenue recognised • Obtain contract to determine consideration
• Service revenue: recalculate to ensure that
revenue is correctly spread over the service period
• Credit sales: reperform a sample of present value
calculations to ensure correct split between
revenue and investment income
• Construction: enquire with expert as to % of work
complete
• Contract costs: Obtain schedule of contract costs
incurred to date
➢ Allocation of revenue • Confirm stand alone prices to published price lists

IAS 37 Provisions

• A liability of uncertain timing or amount

• Definition and recognition requirement as per the liability definition…

‘A present obligation as a result of past events. It is probable that settlement will lead to outflow of
economic benefits from the entity which can be measured reliably’

• If the definition of a liability is not fully satisfied then may disclosure a contingent liability / asset

• Onerous contracts: A provision should be recognised when the costs of a contract exceed the
expected benefits e.g. premises rental

• Restructuring: A provision should be recognised when there is a formal plan which has been publicly
announced e.g. redundancies

• Dismantling provision: A provision should be recorded against the asset (Cr Provision, Dr Asset)
when the acquisition of the asset gives rise to a liability e.g. environmental rectification after the
asset has been used.

27
Audit Risks Audit Procedures
➢ Provisions inappropriately • Obtain details of all provisions which have been
recognised included in the accounts and all contingencies that
have been disclosed
➢ Provisions not recognised • Review records and minutes and talk to directors
to determine the existence of any other potential
provisions/contingencies
• Determine for each material provision whether
the company has a present obligation as a result
of past events by:
o Review of correspondence relating to the
item
o Discussion with the directors
o sending a letter to the solicitor to obtain their
views
o Checking for post year end payments
• Provisions for restructuring costs
o Enquire with management to determine
whether there is a detailed formal plan has
been created which includes details of cost
and timescales, as well as being announced
to those affected

➢ Incorrect amounts provided • Obtain a detailed analysis of all provisions showing

opening balances, movements and closing
balances
• Consider whether other costs should have been
included within the provision
• Reperform calculation of expected value

28
 SBP & PENSIONS
IFRS2 SBP

• The entity transfers equity instruments, such as shares and share options, in exchange for goods and
services supplied by employees or third parties

• SBP transactions may be settled in shares (equity settled) or paid in a cash amount which is
dependent on the share price (cash settled)

• Vesting conditions can be non-market based (e.g. period of service, profit target) or market based
(e.g. target share price increase)

Equity settled

• The expense is measured at FV

• If exchanged for goods / services supplied by third parties, then measure at FV of goods / services
received – easy

• If exchanged for services supplied by employees, then measure at FV of options at grant date (using
a valuation model)

• The expense needs to be spread over the vesting period:

CY expense = FV per share option*no. of share options per employee*no. of employees*percentage

expected to vest*vesting period already complete

• Non-market based conditions – consider whether conditions are likely to be met when calculating
‘percentage expected to vest’

• Market based conditions – do not consider whether conditions are likely to be met when calculating
‘percentage expected to vest’

Cash settled

• SBP transactions may be settled in a cash amount which is dependent on the share price (cash
settled)

• Dr Expense, Cr Liability

• The expense needs to be spread over the vesting period:

CY expense = FV per share option*no. of share options per employee*no. of employees*percentage

expected to vest*vesting period already complete

29
 • FV of option is adjusted each period

• As with any liability, it is reduced when the cash is actually paid – Dr Liability, Cr Cash

Complex scenarios

• Options not exercised – these are not reversed as entity has still received the services

• Repricing of exercise price – this will cause a change to the FV of the option; continue to recognise
original FV as normal and also recognise excess FV over remaining period

• Cancellation – any remaining FV is charged to I/S

• Choice of settlement - treat in the same way as a convertible bond i.e. measure the liability
component (cash option) with the balance going to equity

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30
Audit Risks Audit Procedures
➢ Incentive for manipulation • Perform additional work on judgemental areas to
ensure figures have not been manipulated
➢ Understanding of new schemes • Agree terms of schemes to company
documentation / employment contracts
➢ FV of the option is an estimate/ • Determine the basis on which the FV of the option
difficult to determine has been calculated
• If an option pricing model has been used, check it
is appropriate and reflects the nature of the
options
• Obtain written representation from the directors
to confirm the model is appropriate
• Review correspondence with any external experts/
specialists
• Recalculate the FV using the same inputs as the
entity
• Gain supporting evidence for inputs to model, e.g.
share price, exercise price, time to expiry,
volatility, interest rates
• For cash-settled schemes check that the fair
value is recalculated at the end of the reporting
period and at the date of settlement
➢ Number of options may be • Vouch the number of options to the scheme
incorrect
➢ Number of expected options to • Ensure relevant employees are still employed and
vest is based on an estimate qualify for the scheme
• Staff turnover should be discussed with HR
• Compare last year estimate to actual leavers to
ascertain accuracy of entity’s estimates
➢ Likelihood of achieving vesting • Discuss expectations with HR
conditions • Discuss with management, review forecasts
➢ Undisclosed schemes • Obtain written representation that there are no
undisclosed schemes
• Review board minutes for any modifications to
schemes
➢ Disclosure • Ensure disclosures in FS are in accordance with
IFRS2 – options outstanding, P&L expense etc.

31
IAS19 Pensions

Defined contribution

• Company only has an obligation to make a certain level of contributions to employee’s pension fund

• Therefore, liability is the amount of contributions unpaid - easy

Defined benefit

• Company has an obligation to provide a certain level of income to the employee throughout their
retirement (i.e. their pension income)

• Any difference between the liability (future retirement payments) and the asset (contributions
invested) is shown as a net liability or asset

• An actuary estimates the level of pension payments the company will have to make in the future
based on mortality rates, life expectancy etc. This is discounted to PV

32
Audit Risks Audit Procedures
➢ Actuarial assumptions may be • Ascertain competence and independence of
incorrect actuary
• Consider whether it is appropriate to rely on the
actuary’s work
• Obtain an understanding of the assumptions used
and compare to assumptions in prior years
• Enquire about any material changes to the data,
assumptions and methods used by actuary
• Obtain written representation from directors
confirming the assumptions are consistent with
their understanding
• Review correspondence between company and
actuary
➢ Valuation of plan assets and • Obtain confirmation of the scheme assets and
liabilities may be incorrect liabilities
• Agree additional pension entitlement to
employment contracts
• Review minutes to determine whether additional
benefits authorised
• Review the validity and accuracy of the actuarial
valuation
• Agree actuary valuation to SFP figures
➢ Error in calculation/ posting to • Agree the cash contributions paid into the scheme
SPL/ SFP to the bank statement
• Agree benefits paid to pension scheme statements
• Recalculate the net interest component using
market rate
• Agree opening balances to last year’s actuarial
report and financial statements
• Agree closing balances to final actuarial report
• Review postings of actuarial differences to ensure
compliant with IAS19
• Check disclosures for IAS19

33
 TAX
IAS12

Current Tax

• Current tax is the amount actually payable to the tax authorities in relation to the current year i.e.
the tax liability in the tax comp

• The Financial Statements are prepared before the Tax Comp is submitted to the tax authorities so
the P&L number for Current tax is based on a draft Tax Comp - Dr P&L, Cr Tax Payable

• This estimate is then adjusted for in next year’s Financial Statements to take account of the tax
liability in the final Tax Comp i.e. if the liability was actually lower than the draft Tax Comp then Cr
P&L, Dr Tax Payable

Deferred Tax

• The same expenditure can have difference consequences for accounting and tax purposes e.g. PPE

• Differences between accounting and taxable profits can be identified as either: Permanent – e.g.
entertaining, or Temporary – e.g. Depr’ v CAs

• Deferred tax is an accounting measure which is used to eliminate the temporary differences
between the accounting and tax treatment

• In the end, the amount of tax and accounting profits will be the same so deferred tax is used to
offset the increase / decrease in current tax created by temporary differences

• Remember, deferred tax is an accounting device. It does not represent tax payable to the tax
authorities

Exam approach

1. Is there a difference between this year’s accounting profit and taxable profit that will reverse in
future periods because the difference is only temporary?

2. Decide whether the tax payable to the tax authorities will be higher or lower in the future. If higher,
then you have a DTL, if lower then you have a DTA

3. Calculate DTA/DTL at the future tax rate with the other side of the entry going to P&L / OCI / Equity
depending on where the underlying accounting entry went

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Common Examples

• PPE qualifying for Capital Allowances – In the future, tax will be higher or lower due to the difference
between the TWDV (future tax deductions) and Carrying Amount (future depr’)

• PPE not qualifying for Capital Allowances – Exemption applies, no DT

• PPE Revaluation – In the future, tax will be higher as the higher CA will have to be depr’ or sold at a
profit creating a taxable gain. Therefore, creates DTL with the charge recorded in OCI

• Interest taxed when paid not accrued – In the future, tax will be higher. Therefore, creates DTL

• Provisions – In the future, tax will be lower if you only get a deduction when expense is paid, rather
than provided for in the PL. Therefore, creates DTA

• Losses c/f – In the future, tax will be lower as you can offset losses against future profits. Therefore,
creates DTA provided there will be future profits

• Pensions – If you have a deficit, then future tax will be lower as you will make more tax relieving
contributions in the future. Therefore, creates DTA. If you have a pension surplus, then DTL

• SBP – In the future, tax will be lower as you only get a deduction when the shares are exercised.
Therefore, creates DTA. Part Cr will be recorded in Equity if the future deduction is greater than the
IFRS2 charge

35
Example

• Company buys PPE for £10k with UEL of 5 years and tax capital allowances of 18% p/a

• For tax, accounting depr' expenditure is disallowed and replaced with capital allowances

• Therefore, the difference between tax and accounting profits is the depr' amount v capital
allowances amount

• This difference is 'temporary' because by the end of the asset’s life the £10k cost will have been
written off completely for both tax and accounting

• Some differences e.g. entertaining are never deductible for tax so the difference between
accounting and tax is permanent

36
Audit Risks Audit Procedures
➢ Recoverability of assets • Review future forecasts to confirm that losses can
assumptions may be be offset against future taxable profits
unreasonable
➢ Complex calculations lead to an • Obtain a copy of the deferred tax workings and
inherent risk the corporation tax computation
• Check the arithmetical accuracy of the deferred
➢ Incorrect measurement of tax working
deferred tax balances • Agree the opening position on the deferred tax
account to the prior year financial statements
• Agree the figures used to calculate timing
difference to those on the tax computation and
the financial statements
• Review any correspondence with HMRC for
evidence that the tax computation may require
changes
➢ Incorrect disclosures • Review disclosures in reference to IAS 12
• Review any changes in accounting policy and
discuss reasons for change

37
 GROUPS

• Control is generally indicated by a holding of over 50% of ordinary share capital / voting rights
(taking into account share options)

• Group accounts reflect the fact they are effectively a single economic unit – ‘substance over form’

• The assets under common control are consolidated to reflect the economic reality they are one
entity

ICAEW learning materials © ICAEW 2018 All rights reserved. Reproduced by ACA Masters with the permission of ICAEW
38
 Goodwill

• The ‘excess’ of what the P pays for its share in the S and the value of S’s assets on its SFP

• A company is nearly always worth more than the value of the assets on its SFP as many assets of the
business are not recognised in the FS e.g. internally generated intangibles, reputation

• The ‘excess’ of what P pays is ‘goodwill’ and relates to these attributes of S which are not recognised
in the accounts

Consideration + NCI – FV of net assets acquired = Goodwill

• Note: we use the equity section to calculate NA as ‘A-L = NA = E’

• All assets in S are remeasured to FV to allocate this ‘excess’ to specific assets as far as possible e.g.
PPE, Customer lists etc. Therefore, more assets exist in Group FS than in individual FS

• Test GW annually for impairment – Dr P&L, Cr GW

• Can be remeasured within first 12m of acquisition

• Cumulative impairments are recorded in Retained earnings

• Any ‘gain on bargain purchase’ is recognised immediately in the P&L

Consideration

• Everything that P is giving in exchange for its shares in S needs to be included

• E.g. Cash, deferred cash, shares, contingent cash

• Measured at FV and / or PV if payment is in future periods

Step Acquisitions

• The original investment is treated as if it were disposed of at fair value and re-acquired at fair value
with any gain/loss recorded in P&L (unless investment was held as FVOCI)

• This previously held interest at fair value, together with any further consideration transferred, is the
'cost’ of acquisition used in calculating the goodwill

NCI

• The shares which are not owned by the controlling company need to have their ownership interest
(equity) reflected in the accounts

• Two methods of valuing NCI: % of Net Assets and FV method

• FV nearly always gives a higher amount as it attributes the NCI’s proportion of the goodwill to the
NCI, rather than just the NCI’s proportion of the Net Assets

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GW Impairment

• If FV method is used, then a portion of any GW impairment needs to be charged against NCI as their
proportion of GW is recognised in the SFP

• If NA method used, when impairment testing a CGU (IAS36) the GW needs to be grossed up to
include NCI element of GW - although any impairment is not seen in the FS as the NCI GW is not in
the FS

ICAEW learning materials © ICAEW 2017 All rights reserved. Reproduced by ACA Masters with the permission of ICAEW

41
 SFP

Intragroup balances

• Any intragroup balances need to be eliminated as group is a single economic entity e.g. eliminate
payables / receivables

Provision for Unrealised Profit (PURP)

• Eliminate unrealised profit on inventories and PPE which have resulted from intragroup trading

• The SELLER’S P&L/RE is reduced, as is the purchaser’s inventory / PPE

Dr P&L (Seller), Cr Inventories / PPE (Purchaser)

I/S

Intragroup balances

• Any intragroup balances need to be eliminated as group is a single economic entity e.g. Revenue /
CoS

Inventory PURP

• The SELLER’S P&L is reduced, as is the purchaser’s inventory

Dr P&L (Seller), Cr Inventories (Purchaser)

PPE PURP

• Need to adjust the profit on sale against the SELLER’s income (same as an inventory PURP)

• In addition, need to reduce the depr’ charged to reflect the charge based on the original cost to the
group

Associates

• Significant influence is generally indicated by a holding of over 20% of ordinary share capital & voting
rights

• Rather than consolidating on a line by line basis, the investment is held at:

Cost + P’s share of post-acq profits – Impairments – Depr’ on FV uplift = CA on SFP

• This is known as ‘equity method’ of accounting as we are accruing our share of A’s equity

• There is no consolidation of A+L or GW calculation, simply a single line on C-SFP

• The C-IS shows a single line for P’s share of CY profits minus CY impairment

Intragroup balances

Any intragroup balances are not eliminated as Parent and Associate are not single economic entity

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Need to remove dividend income from C-IS and replace with P’s share of A’s profits

PURP’s

Eliminate unrealised profit on inventories and PPE which have resulted from trading with A – but only by
P% holding

The SELLER’S P&L is reduced, as is the purchaser’s inventory / PPE;

Dr P&L (Seller), Cr Inventories / PPE (Purchaser) or Cr

Investment in A if A is the purchaser (as inventories / PPE not in C-SFP)

JV

• Joint operations do not involve a jointly controlled entity

• Joint ventures involve setting up a separate company or partnership which is under ‘joint control’ by
the venturers

• The joint venturers are those investors who have control over the entity i.e. together they own >50%
and make the decisions

• Each venturer records their investment using the equity method of accounting - as per Associate

43
 Disposals

C-SFP

• Don’t consolidate as S no longer under ‘control’ of group

• Need to record cash received and remove ‘investment in S’ in P’s books

C-IS

• Consolidate S’s results up to the point of disposal and the profit attributable to NCI

• Need to record profit on sale in P’s books

• Disclose S’s results + profit on sale as discontinued operations per IFRS5

Step disposals

• On disposal any retained interest (as an associate or trade investment) is measured at fair value

• This fair value is added to ‘Proceeds’ in the calculation of the gain or loss on disposal, and also
becomes the carrying amount for subsequent accounting for the retained interest which needs to be
accounted for as either an associate or investment

44
Subs held for Sale

• A Sub can be presented as Discontinued Ops (P&L) and AHfS (SFP) if IFRS5 criteria met

• If an entity acquires a subsidiary exclusively with a view to its subsequent disposal it can classify the
asset as held for sale only if the sale is expected to take place within one year and it is highly
probable that all the other IFRS5 criteria will be met within 3 months

Transaction between owners

• If control is still retained (e.g. an investment goes from a 60% subsidiary to an 80% subsidiary or vice
versa), the increase / decrease is treated as a transaction between owners as the sub has not been
acquired / disposed of

Step 1. Record the cash proceeds (Dr) / or consideration paid (Cr)

Step 2. Record the increase (Cr) / decrease (Dr) in the NCI due to the change in ownership structure

Step 3. The balance is the change in the parent’s equity

Fair value of consideration paid (X)

Decrease in NCI in net assets at date of transaction X

Decrease in NCI in goodwill at date of transaction X

Adjustment to parent's equity (X)

45
 Foreign Sub

• Foreign sub may have different functional currency to Parent so sub accounts need to be translated
prior to consolidation in Group’s presentational currency

Full Consolidation Steps:

Income statement (CY Retained Earnings)

• Translate income and expenditure in the income statement using the average rate

• Therefore, CY Retained Earnings in the SFP will be at the AR

Statement of financial position

• Translate all assets and liabilities (both monetary and non-monetary) in the current statement of
financial position using the closing rate and translate b/f equity amounts at the historic rate. The
‘balancing figure’ in equity is the FX gain / loss on NA translation

NA Translation gain / loss

• Report the exchange differences which arise on translation as other comprehensive income; and
where a foreign subsidiary is not wholly owned, allocate the relevant portion of the exchange
differences to the NCI

• Note: The Parent’s share is held in separate translation reserve on the SFP whereas the NCI is
subsumed in the NCI amount

The above exchange differences comprise:

1. Differences arising from the translation of the statement of profit or loss and other comprehensive
income at exchange rates at average rates and the translation of assets and liabilities at the closing
rate (AR v CR)

2. Differences arising on the equity retranslation at a closing rate that differs from the previous closing
rate (HR v CR)

Therefore, rather than translating all assets, liabilities and equity, the FX gain/loss on NA translation can
be calculated as:

Opening Net Assets at HR x

Profit for the year at AR x
FEX GAIN / LOSS (bal.) X / (X)
Closing Net Assets at CR x

If you are not required to prepare the full C-SFP, the above is the easiest way to calculate the Fex gain /
loss on NA translation of the sub.

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GW Translation gain / loss

• GW is just another asset of the sub so needs to be translated

• It is firstly calculated in the functional currency of the Sub and then translated at the closing rate
each year. Compare with the historic rate and record the exchange difference in OCI.

GW at HR x
FEX GAIN / LOSS (bal.) X / (X)
GW at CR x

• The NCI does not include any of the exchange gain or loss arising on the retranslation of goodwill
unless NCI is valued under the FV method - in which case the NCI has a share of the GW and
therefore needs to take a share of the exchange gain / loss on GW retranslation

Note: The NCI in total comprehensive income always includes the NCI proportion of the exchange gain
or loss on translation of the subsidiary financial statements

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48
49
50
Audit Risks Audit Procedures
➢ Use of another auditor increases • Evaluate the independence, skills, competence
risk and experience of component auditors
• Clear instructions to component auditors
• Review component auditor’s audit strategy and
plan
• Ensure communication with component auditor
under ISA 600 – ethics confirmation, risk
identification etc.

➢ Extent of work required on • If likely to include significant risks of material

components misstatement of the group FS, the group auditors
will require one of the following:
- A full audit using component materiality
- An audit of specified account balances
related to identified significant risks
- Specified audit procedures relating to
identified significant risks
- Components that are not significant will
be subject to analytical review at a group
level

➢ Misclassification of investments • Inspect share certificates to determine total

(Subsidiary v Associate v IFRS9) number of shares held to calculate % holding
• Review contract or agreements between
companies to identify key terms which may
indicate control and any restriction on control e.g.
right of veto of third parties

➢ Acquisition of new subsidiary • Ensure that the entity has been correctly classified
as a subsidiary (i.e. not an associate)
• Review purchase agreement to identify date
of control
• Review of valuation of net assets to confirm fair
value at acquisition
- Review any external/ professional
valuation reports
- Review trade journals
- Ensure contingent liabilities included
• Review FV measurement of consideration at
acquisition (including deferring or contingent
consideration using appropriate discount rate)
- Agree to bank statement
- Agree to purchase agreement
• Recalculate goodwill
• Impairment review of goodwill based of Sub
performance
• Review purchase agreement to identify date of
control.

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 • Review consolidation schedules to ensure
amounts have been time apportioned if
appropriate
➢ Incorrect calculation of profit/ • Agree sales proceeds to documentation and vouch
loss on disposal to bank statement
• Recalculate profit or loss on disposal to determine
➢ Incorrect classification of results if calculated in accordance with IFRS5
of subsidiaries disposed of • Assessment of the remaining holding to determine
(Continuing v Discontinued) the appropriate accounting treatment post
disposal – IFRS9 or Associate
• Identification of documentation showing the date
of the change in holding
• Assessment of the fair value of any remaining
holding
• Recalculate to ensure amounts have been
appropriately time apportioned e.g. income and
expense items
• If disposal meets definition of discontinued
operation then ensure it has been correctly
presented under IFRS5
➢ Incorrect consolidation • Review consolidation schedules, purchase, sales
adjustments e.g. failure to ledger and intra-group accounts to identify any
eliminate intra- group items intra-group transactions or outstanding balances
properly and ensure these have been eliminated in the
group accounts.
• Consider whether treatment of existing subs and
associates is still correct
• Obtain goodwill impairment review from client
• Ensure both FS prepared under same accounting
basis e.g. IFRS
• Recalculate retranslation of foreign subs using
published Fex rates
• Ensure Fex gains & losses on translation are
apportioned between P & NCI
➢ Non- compliance with IAS 21, for • Obtain working papers and recalculate exchange
e.g. difference
- Incorrect exchange rate • Confirm exchange rates in financial press
- Incorrect posting of exchange • Agree exchange differences to reserves working
difference

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 OTHER STANDARDS

IAS21 - Fex

Functional currency

• Currency used in the FS

• Determined by Primary indicators (Selling prices, regulatory forces, costs) and Secondary indicators
(Financing)

Transactions (current year)

• Foreign currency sales and purchases made on credit are recorded at the spot price i.e. transaction
date price

• When they are settled, the exchange rate may have moved so any gain / loss is recorded in the P&L

Assets / Liabilities

• Monetary items, (e.g. receivable, bond) are remeasured at the rate at BS date - any gain / loss is
recorded in the P&L

• Non-monetary items (e.g. PPE, equity investment) are recorded at the rate on the original
transaction date, i.e. historical rate

IAS8 – Policies, Estimates and Errors

• Policy changes are applied retrospectively with RE and comparatives adjusted e.g. change in
inventory NRV methodology

• Estimate changes are applied prospectively e.g. UEL for depr’

• Errors are corrected retrospectively with RE and comparatives adjusted e.g. incorrect inventory
valuation

IAS2 - Inventories

• Goods sold in the ordinary course of business i.e. the trade

SFP

• Capitalised at the lower of: cost and net realisable value

• Costs include all directly attributable costs

• CR Cash, Dr Inventory

• Cost includes directly attributable costs (similar to PPE)

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P&L

Cost of sales = Opening Inventory + Purchases – Closing Inventory

• This calculates the value of the inventory sold in the period

• Remeasuring inventory value to NRV is basically just an inventory ‘impairment’ - similar to IAS 36 for
PPE

IAS20 - Grants

• Recognise the income if the conditions of the grant will be met

• Two methods – Capital and Income

• Capital: Recognise against cost of the asset which has been purchased

Cr PPE, Dr Cash

• Income: Recognise the income over the period which the grant conditions apply

Cr Deferred Income, Dr Cash – then release to P&L over grant period

IFRS 13 – Fair Value

• Fair value: 'The price that would be received to sell an asset or paid to transfer a liability in an
orderly transaction between market participants at the measurement date’

• It is a market-based measurement - the amount for which the holder of an asset could sell it and the
amount which the holder of a liability would have to pay to transfer it

• It is assumed that the transaction to sell the asset or transfer the liability takes place either:

(a) in the principal market for the asset or liability; or

(b) in the absence of a principal market, in the most advantageous market for the asset or liability

• Fair value is not adjusted for transaction costs but may be taken into account when determining the
most advantageous market

• Three-level hierarchy for the inputs to measure fair value:

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 Reporting

IAS 33 – EPS

• Applies to Listed companies

• Key Performance Measure

• Profit / Shares = Profit per share

Basic EPS

• Need to deduct div paid on irredeemable prefs as this is not already in P&L

• Bonus issue / Shares Consolidation: Comparatives are restated as if the new number of shares were
always in issue

• Rights issue: The adjustment factor is used to increase the number of shares in issue before the
rights issue to take into account the bonus element

Diluted EPS

• Takes into account future increase in shares and changes in profit due to conversion of convertible
instruments already issued e.g. convertible bonds, share options

Each item may be:

• Dilutive - if their conversion to ordinary shares would decrease EPS (take into account for DEPS) or;

• Antidilutive when their conversion to ordinary shares would increase EPS (ignore for DEPS)

55
IAS 34 - Interims

• IASB strongly recommends that Listed entities prepare half year accounts

• Condensed statements are prepared, with same major components as FY accounts

• Experts are not required to be used to value PPE, Pensions etc. – estimates will suffice

• Tax rates for the FY should be estimated and then applied to the half year profits

• Forecast costs e.g. year-end bonuses are not included as there is no constructive obligation at the
interim date

• Notes on seasonality, accounting policy changes, changes in finance structure, dividends paid and
significant events

IFRS8 – Operating Segments

• Listed entities need to disclose results from each business segment

• An operating segment is reportable where:

It earns its own revenue and incurs expenses

Has separate financial info available

Any of the following size criteria are met:

• Segment revenue ≥ 10% of total (internal and external) revenue

• Segment profit or loss ≥ 10% of the profit of all segments

• Segment assets ≥ 10% of total assets

• At least 75% of total external revenue must be reported by operating segments. Where this is not
the case, additional segments must be identified (even if they do not meet the 10% thresholds)

IAS24 – Related Parties

What must be disclosed?

• A related party relationship between parent and subsidiaries

• Compensation received by key management personnel

• The nature of the relationship

• The amount of the transactions

• The amount of any balance outstanding at the year end

• The terms and conditions attaching to any outstanding balance (for example, whether security or
guarantees have been provided and what form the payment will take)

• If an amount has been provided against or written off any outstanding balance due

56
• Disclosure of the fact that transactions are on an arm's length basis

IAS10

Adjusting events

• Events that provide evidence of conditions that existed at the reporting date

• e.g. settlement of a court case, bankruptcy of a customer, finalisation of prices for assets sold or
purchased before year end

Non - Adjusting events

• Events that are indicative of conditions that arose after the reporting date

• e.g. destruction of assets, decline in the market value of investment properties after the reporting
date

• The cut-off date for the consideration of events after the reporting period is the date on which the
financial statements are authorised for issue to shareholders

• Errors identified before the authorisation date will be adjusted in the current financial statements

• Those identified after the financial statements have been published should be dealt with in a
subsequent period under IAS 8

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