~~AC3091_ZA_2016_d0

This paper is not to be removed from the Examination Halls

UNIVERSITY OF LONDON AC3091 ZA

BSc degrees and Diplomas for Graduates in Economics, Management, Finance

and the Social Sciences, the Diplomas in Economics and Social Sciences

Financial Reporting

Tuesday, 10 May 2016 : 14:30 to 17:45

Candidates should answer FOUR of the following SIX questions. Answer at least one
question from each section. All questions carry equal marks.

Workings should be submitted for all questions requiring calculations. Any necessary
assumptions introduced in answering a question are to be stated.

Extracts from compound interest tables are given after the final question on this paper.

8-column accounting paper is provided at the end of this question paper. If used, it must
be detached and fastened securely inside the answer book.

A calculator may be used when answering questions on this paper and it must comply
in all respects with the specification given with your Admission Notice. The make and
type of machine must be clearly stated on the front cover of the answer book.

PLEASE TURN OVER

© University of London 2016

UL16/0293 Page 1 of 7 D1
SECTION A

Answer at least one question from this section.

1. The statements of comprehensive income for Bread Ltd, Cheese Ltd and Cake Ltd for the
year ended 31 December 2015 are given as follows:

Statements of comprehensive income for the year ending 31 December 2015

Bread Ltd Cheese Ltd Cake Ltd

£ £ £
Sales 13,500,000 7,650,000 5,400,000
Cost of sales (5,310,000) (2,655,000) (2,070,000)
Gross profit 8,190,000 4,995,000 3,330,000
Investment income- 390,000 - -
dividends received
Administration costs (912,750) (639,000) (315,000)
Distribution costs (420,000) (1,017,000) (157,500)
Interest income 225,000 - -
Interest expense (45,000) (81,000) -

Profit before tax 7,427,250 3,258,000 2,857,500

Tax (450,000) (315,000) (423,000)
Profit after tax 6,977,250 2,943,000 2,434,500

Bread Ltd acquired 80 % of Cheese Ltd on 1 January 2003 for £1,008,000, gaining
significant influence over Cheese Ltd. On this date, the share capital of Cheese Ltd was
£300,000 and the retained earnings of Cheese Ltd were £615,000. The non-current assets
of Cheese Ltd were valued at £45,000 above their net book value on 1 January 2003 and
this revaluation was not included in the financial statements of Cheese Ltd.

Bread Ltd acquired 40% of Cake Ltd for £900,000 on 1 January 2005, gaining partial
influence over Cake Ltd. Cake Ltd’s share capital and reserves were £337,500 on 1 January
2005. The share capital of Cake Ltd is 60,000 50p shares.

The interest income in Bread Ltd includes interest income on its 70% holding of bonds issued
by Cheese Ltd. Bread Ltd acquired these bonds from Cheese Ltd, without any goodwill
arising, on 1 January 2003. The interest expense recorded by Cheese Ltd represents the
interest on the full bond issue. All companies have accounted for interest income and interest
expense correctly.

During the year Cheese Ltd sold goods costing £9,000 to Bread Ltd for £63,000. 20% of this
inventory is included in Bread Ltd’s inventory at the year end.

During the year Cake Ltd sold goods costing £27,000 to Bread Ltd for £36,000. 50% of this
inventory is still in Bread Ltd’s inventory at the year end.

Question continues on next page.

© University of London 2016

UL16/0293 Page 2 of 7 D1
 Goodwill is capitalised. Impairment of 50% of the value of the goodwill of Cheese Ltd was
seen in 2010 and impairment of 20% of the value of the goodwill in Cake Ltd is seen in 2015.

At the year-end Bread Ltd charges both Cheese Ltd and Cake Ltd a management fee of 10%
of turnover. None of the companies have accounted for this management fee.

The retained earnings brought forward as at 1 January 2015 and dividend expense for the
year ended 31 December 2015 for Bread Ltd, Cheese Ltd and Cake Ltd were as follows:

Bread Ltd Cheese Cake Ltd

Ltd
£ £ £
Retained earnings 7,240,000 900,000 600,000
brought forward
Dividend expense 270,000 75,000

Required:

(a) What is an associate company and what is a joint venture company? How are joint
venture companies accounted for in consolidated financial statements? (5 marks)

(b) Prepare the consolidated statement of comprehensive income for Bread Ltd for the year
ended 31 December 2015, showing retained earnings brought forward, dividend
expense and retained earnings carried forward either on the face of the statement of
comprehensive income or in the consolidated retained earnings section of the
statement of changes in equity. (20 marks)

2. Kitty Plc has a project that is expected to generate cash flows of £12,000 per annum in
perpetuity. The interest rate is expected to be 10% in perpetuity.

Actual cashflows received at time 1 total £12,000 and the interest rate changes to 20%. The
interest rate is expected to remain at this higher level in the future.

At time 1, expectations change and future cash flows are now expected to double to £24,000.

All cashflows arise at the end of the year.

Required:

(a) Calculate the following for the first period:

i. Hicks’ income number 1 ex ante and income number 2 ex ante.

ii. Hicks’ income number 1 ex post.
iii. Hicks’ income number 2 ex post version A, reconciling your answer to i.
iv. Hicks’ income number 2 ex post version B, reconciling your answer to i.
(13 marks)

(b) Define and explain the relationship between present value and deprival value. What are
the advantages and limitations of both these concepts in financial reporting?
(12 marks)

© University of London 2016

UL16/0293 Page 3 of 7 D1
3. Tram Ltd started trading on 1 January 2015. The statement of comprehensive income and
statement of financial position for the first year of trading are given as follows:

Statement of comprehensive income for the year ended 31 December 2015

£
Revenue 5,400,000

Cost of sales
Opening inventory 300,000
Purchases 3,600,000
Closing inventory (360,000)
(3,540,000)
Gross profit 1,860,000
Expenses (600,000)
Depreciation (168,000)
Comprehensive income 1,092,000

Statement of financial position as at 31 December 2015

£
Non-current assets – net book value 5,592,000
Inventory 360,000
Cash 4,980,000

Total assets 10,932,000

Share capital (£1 shares) 6,000,000

Retained earnings 1,092,000
Accounts payable 3,840,000

Equity and liabilities 10,932,000

The price change indices for the year were identified as follows:
RPI Non- current Inventory
assets
1 January 2015 150 200 180
Average 2015 160 210 190
30 November 2015 170 220 215
31 December 2015 180 230 250

Closing inventory was acquired on 30 November 2015. 50% of the non-current-assets were
acquired on 1 January 2015 and 50% were acquired on 30 June 2015.

Opening inventory was acquired on the first day of trading.

Sales and purchases accrue evenly throughout the year.

A full year’s depreciation is charged in the year of purchase for non current assets.

Question continues on next page.

© University of London 2016

UL16/0293 Page 4 of 7 D1
Required:

(a) Identify how assets are valued within historic cost accounting, current purchasing power
accounting and current value (replacement cost) accounting and discuss the capital
maintenance concepts most closely associated with each of the three conventions.
(7 marks)

(b) Prepare the current purchasing power statement of financial position as at 31

December 2015 and the current purchasing power statement of comprehensive income
for the year ending 31 December 2015 for Tram Ltd. (8 marks)

(c) Prepare the current value (replacement cost) statement of financial position as at 31
December 2015 and the current value (replacement cost) statement of comprehensive
income for the year ending 31 December 2015 for Tram Ltd. (10 marks)

4. (a) What is the share premium reserve and what can this reserve be used for in the UK?
(5 marks)

(b) Cape Ltd buys a new machine on 1 June 2015 from Overseas International for 60,000
‘blues’, the currency in which Overseas International trades, on credit. This is still
outstanding at the year end, 31 December 2015. The exchange rate at the date of
purchase of the machine was 10 blues to £1 and the exchange rate at year end is 8
blues to £1.

Required:

Show how the purchase of the machine and any subsequent exchange gain or loss
would be accounted for on 1 June 2015 and on 31 December 2015. (5 marks)

(c) Two companies, Alpha and Beta, enter into research and development activities of
£500,000 in 2015. Alpha treats this expenditure as research and Beta treats this
expenditure as development.

Required:

Define research and development activities. Compare and contrast the accounting
treatment of the research and development activities for the two companies, Alpha and
Beta and discuss how the different treatments will impact the financial statements of
both companies. How will the different accounting treatments impact the net profit
margin and the gearing ratio? (8 marks)

(d) What is deferred tax? Compare the flow through, partial provision and full provision
methods for determining the deferred tax provision in the financial statements.
(7 marks)

© University of London 2016

UL16/0293 Page 5 of 7 D1
SECTION B

Answer at least one question from this section.

5. Either:

(a) Compare, contrast and critically assess the closing rate method and the temporal
method for accounting for overseas subsidiaries.

Or:

(b) Compare and contrast finance leases with operating leases and discuss how each of
these should be accounted for by the lessee. Discuss the impact that the different
treatments make to the financial statements of the lessee and to key financial ratios.

6. Either:

(a) Discuss both traditional and economic arguments for and against the regulation of
accounting.

Or:

(b) Discuss the main arguments in favour of and against conceptual frameworks in general
and, for a conceptual framework of your choice, critically assess the strengths and
weaknesses of the particular conceptual framework you have chosen.

END OF PAPER

© University of London 2016

UL16/0293 Page 6 of 7 D1
Present Value Tables

Discount rates (r) %

time / 1 2 3 4 5 6 7 8 9 10
Periods
(n)
1 0.990 0.980 0.971 0.962 0.952 0.943 0.935 0.926 0.917 0.909
2 0.980 0.961 0.943 0.925 0.907 0.890 0.873 0.857 0.842 0.826
3 0.971 0.942 0.915 0.889 0.864 0.840 0.816 0.794 0.772 0.751
4 0.961 0.924 0.888 0.855 0.823 0.792 0.763 0.735 0.708 0.683
5 0.951 0.906 0.863 0.822 0.784 0.747 0.713 0.681 0.650 0.621
6 0.942 0.888 0.837 0.790 0.746 0.705 0.666 0.630 0.596 0.564
7 0.933 0.871 0.813 0.760 0.711 0.665 0.623 0.583 0.547 0.513
8 0.923 0.853 0.789 0.731 0.677 0.627 0.582 0.540 0.502 0.467
9 0.914 0.837 0.766 0.703 0.645 0.592 0.544 0.500 0.460 0.424
10 0.905 0.820 0.744 0.676 0.614 0.558 0.508 0.463 0.422 0.386
11 0.896 0.804 0.722 0.650 0.585 0.527 0.475 0.429 0.388 0.350
12 0.887 0.788 0.701 0.625 0.557 0.497 0.444 0.397 0.356 0.319
13 0.879 0.773 0.681 0.601 0.530 0.469 0.415 0.368 0.326 0.290
14 0.870 0.758 0.661 0.577 0.505 0.442 0.388 0.340 0.299 0.263
15 0.861 0.743 0.642 0.555 0.481 0.417 0.362 0.315 0.275 0.239

Discount rates (r) %

time / 11 12 13 14 15 16 17 18 19 20
periods
(n)
1 0.901 0.893 0.885 0.877 0.870 0.862 0.855 0.847 0.840 0.833
2 0.812 0.797 0.783 0.769 0.756 0.743 0.731 0.718 0.706 0.694
3 0.731 0.712 0.693 0.675 0.658 0.641 0.624 0.609 0.593 0.579
4 0.659 0.636 0.613 0.592 0.572 0.552 0.534 0.516 0.499 0.482
5 0.593 0.567 0.543 0.519 0.497 0.476 0.456 0.437 0.419 0.402
6 0.535 0.507 0.480 0.456 0.432 0.410 0.390 0.370 0.352 0.335
7 0.482 0.452 0.425 0.400 0.376 0.354 0.333 0.314 0.296 0.279
8 0.434 0.404 0.376 0.351 0.327 0.305 0.285 0.266 0.249 0.233
9 0.391 0.361 0.333 0.308 0.284 0.263 0.243 0.225 0.209 0.194
10 0.352 0.322 0.295 0.270 0.247 0.227 0.208 0.191 0.176 0.162
11 0.317 0.287 0.261 0.237 0.215 0.195 0.178 0.162 0.148 0.135
12 0.286 0.257 0.231 0.208 0.187 0.168 0.152 0.137 0.124 0.112
13 0.258 0.229 0.204 0.182 0.163 0.145 0.130 0.116 0.104 0.093
14 0.232 0.205 0.181 0.160 0.141 0.125 0.111 0.099 0.088 0.078
15 0.209 0.183 0.160 0.140 0.123 0.108 0.095 0.084 0.074 0.065

© University of London 2016

UL16/0293 Page 7 of 7 D1
 IdentiyAC3091_ZB_2016_d0

This paper is not to be removed from the Examination Halls

UNIVERSITY OF LONDON AC3091 ZB

BSc degrees and Diplomas for Graduates in Economics, Management, Finance

and the Social Sciences, the Diplomas in Economics and Social Sciences

Financial Reporting

Tuesday, 10 May 2016: 14:30 to 17:45

Candidates should answer FOUR of the following SIX questions. Answer at least one
question from each section. All questions carry equal marks.

Workings should be submitted for all questions requiring calculations. Any necessary
assumptions introduced in answering a question are to be stated.

Extracts from compound interest tables are given after the final question on this paper.

8-column accounting paper is provided at the end of this question paper. If used, it must
be detached and fastened securely inside the answer book.

A calculator may be used when answering questions on this paper and it must comply
in all respects with the specification given with your Admission Notice. The make and
type of machine must be clearly stated on the front cover of the answer book.

PLEASE TURN OVER

© University of London 2016

UL16/0294 Page 1 of 8 D1
SECTION A

Answer at least one question from this section.

1. The statements of financial position for Hop Plc, Skip Ltd and Jump Ltd as at 31 December
2015 are given below:
Hop Ltd Skip Ltd Jump Ltd
£ £ £
Non-current assets (land) 435,000 1,425,000 1,050,000
Investments 2,100,000
Inventory 150,000 300,000 750,000
Receivables 555,000 525,000 300,000
Cash 105,000 105,000 135,000
Total assets 3,345,000 2,355,000 2,235,000

Share capital 1,500,000 450,000 300,000

Profit and loss account 1,035,000 1,305,000 1,500,000
reserve
Payables 810,000 450,000 435,000
8% Bonds 150,000
Capital, reserves and liabilities 3,345,000 2,355,000 2,235,000
Hop Plc acquired 75% of Skip Ltd on 1 January 2010 for £1,252,500, gaining significant
influence over Skip Ltd. Skip Ltd's share capital and reserves were £480,000 on 1 January
2010. The fair value of Skip Ltd’s non-current assets on 1 January 2010 was £1,815,000 and
this revaluation has not been incorporated into Skip Ltd’s accounts.
At the same time, Hop Plc acquired 10% of the bonds in Skip Ltd for £15,000. No goodwill
arose on this transaction.
Bond interest payable by Skip Ltd is still outstanding as at 31 December 2015. The bond
interest payable by Skip Ltd and interest receivable by Hop Plc has not been accounted for
as at 31 December 2015.
Hop Plc acquired 40% of Jump Ltd on 1 January 2011 for £600,000, gaining partial influence
over Jump Ltd. Jump Ltd’s share capital and reserves were £450,000 on this date.
Hop Plc’s policy is to capitalise goodwill. Impairment of 50% of all goodwill is seen in 2015.
In 2015, Hop Plc’s inventory includes inventory acquired from Skip Ltd for £25,000 which had
cost Skip Ltd £15,000 and inventory from Jump Ltd for £50,000 which had cost Jump Ltd
£5,000.
The receivables figure in Hop Ltd includes inter-company receivables from Skip Ltd of
£60,000 and inter-company receivables from Jump of £120,000.
The payables figure in Skip Ltd includes inter-company payables of £60,000 to Hop Ltd and
the payables figure in Jump Ltd includes inter-company payables of £120,000 to Jump Ltd.
Required:
(a) What is a subsidiary company and what is an associate company? Identify how both
types of companies should be accounted for? (5 marks)
(b) Prepare the consolidated statement of financial position for Hop Ltd as at 31 December
2015. (20 marks)

© University of London 2016

UL16/0294 Page 2 of 8 D1
2. On 1 January 2010, Puppy Ltd acquired 80% of the ordinary shares of a subsidiary, Kitten
Org. Kitten Org trades in the currency “potts”. On 1 January 2010 the balance on the
accumulated profits of Kitten Org was 480,000 “potts” and the share capital of Kitten Org was
3,600,000 “potts”.

The summary statements of comprehensive income and statements of financial position of

Puppy Ltd and Kitten Org are given as follows:

Statements of financial position as at 31 December 2015

Puppy Ltd Kitten Org
£ “potts”

Non-current assets – land 2,220,000 5,532,000

Investment in Kitten Org 360,000 -
Inventories 660,000 900,000
Inter-company receivable from 96,000 -
Kitten Org
Cash 1,764,000 300,000
Total assets 5,100,000 6,732,000

Share capital 2,160,000 3,600,000

Retained earnings brought forward 1,440,000 1,200,000
Profit for the year 1,500,000 1,740,000
Inter-company payable to Puppy Ltd - 192,000
Equity and liabilities 5,100,000 6,732,000

Statements of comprehensive income

Puppy Ltd Puppy Ltd Kitten Org Kitten Org
£ £ “potts” “potts”
Revenue 9,120,000 4,560,000
Cost of sales
Opening inventory 480,000 600,000
Purchases 6,000,000 2,400,000
Closing inventory (660,000) (900,000)
(5,820,000) (2,100,000)
Gross profit 3,300,000 2,460,000
Other expenses 960,000) (300,000)
Profit before tax 2,340,000 2,160,000
Tax (840,000) (420,000)
Comprehensive income 1,500,000 1,740,000

© University of London 2016

UL16/0294 Page 3 of 8 D1
 The following information is also available:

i. Non-current assets were acquired on 1 January 2010.

ii. Opening inventories were acquired on 12 November 2014 and closing inventories were
acquired on 15 December 2015.

iii. Exchange rates are given as follows;

1 January 2010 £1 = 10 “potts”

12 November 2014 £1 = 4.5 “potts”
1 January 2015 £1 = 5 “potts”
average for 2015 £1 = 3.5 “potts”
15 December 2015 £1 = 3 “potts”
31 December 2015 £1 = 2 “potts”

iv. Impairment of 40% of the goodwill arising on the acquisition of Kitten Org is seen in 2015.

v. The translated retained earnings brought forward for Kitten Org are £240,000.

Required:

(a) Discuss the main differences between the temporal method and the closing rate
method and discuss when each method should be used. (10 marks)

(b) Translate the statement of comprehensive income for the year ending 31 December
2015 and the statement of financial position as at 31 December 2015 of Kitten Org
using the temporal method. (9 marks)

(c) Calculate the following:

i. Goodwill in the consolidated statement of financial position as at 31

December 2015

ii. Goodwill impairment in the consolidated statement of comprehensive income

iii. Consolidated foreign exchange loss in the consolidated statement of

comprehensive income

iv. Non controlling interest in the consolidated statement of comprehensive

income (6 marks)

© University of London 2016

UL16/0294 Page 4 of 8 D1
3. Honey Plc has a project that is expected to generate cash flows of £8,000 per annum in
perpetuity. The interest rate is expected to be 10% in perpetuity.

Actual cashflows received at time 1 total £8,000 and the interest rate changes to 20%. The
interest rate is expected to remain at this higher level in the future.

At time 1, expectations change and future cash flows per annum are now expected to double
to £16,000.

All cashflows arise at the end of the year.

Required:

(a) Calculate the following for the first period:

i. Hicks’ income number 1 ex ante and income number 2 ex ante.

ii. Hicks’ income number 1 ex post.
iii. Hicks’ income number 2 ex post version A, reconciling your answer to i.
iv. Hicks’ income number 2 ex post version B, reconciling your answer to i.
(13 marks)

(b) Define and explain the relationship between present value and deprival value. What are
the advantages and limitations of both these concepts in financial reporting?
(12 mark)

© University of London 2016

UL16/0294 Page 5 of 8 D1
4. (a) Discuss the treatment of contingencies under IAS 37. (5 marks)

(b) Two identical companies, Gamma and Delta, both purchase goodwill for £30,000.
Gamma capitalises and amortises the goodwill over its useful economic life of 10 years.
Delta capitalises the goodwill and undertakes periodic impairment reviews. No
impairment of the goodwill is seen.

Required:

Define goodwill. Discuss the impact the two methods for accounting for goodwill will
have on the statement of financial position and statement of comprehensive income for
both companies. What will be the impact on the net profit margin and the gearing ratio?
(8 marks)

(c) In 2015 Metal Ltd mined 100,000 ounces of copper at a direct cost of £210 per ounce.
Depreciation of the mine, on a unit of depletion basis, amounted to £3,780,000.
Depreciation of the mining equipment on a straight line basis was £420,000.
Administrative overheads amounted to £468,000. 40,000 ounces were sold for
£29,640,000 and delivery costs of £252,000 were paid.

Required:

Show the profit/loss, the cost of sales and the closing inventory value at the year end
according to IAS 2 for the above transactions. (5 marks)

(d) What is deferred tax? Compare the flow through, partial provision and full provision
methods for determining the deferred tax provision in the financial statements.
(7 marks)

© University of London 2016

UL16/0294 Page 6 of 8 D1
SECTION B

Answer at least one question from this section.

5. Either:

(a) Define construction contracts and discuss the application of accounting principles and
concepts to accounting for construction contracts. Critically assess recent
developments in accounting for construction contracts.

Or:

(b) Discuss off balance sheet finance and substance over form, covering the importance of
these concepts, the issues leading to the need for the concepts and the impact they
have on financial statements. Illustrate your answer with two examples.

6. Either:

(a) Discuss both traditional and economic arguments for and against the regulation of
accounting.

Or:

(b) Compare, contrast and critically assess historic cost accounting, current purchasing
power accounting and current value (replacement cost) accounting.

END OF PAPER

© University of London 2016

UL16/0294 Page 7 of 8 D1
Present Value Tables

Discount rates (r) %

time / 1 2 3 4 5 6 7 8 9 10
Periods
(n)
1 0.990 0.980 0.971 0.962 0.952 0.943 0.935 0.926 0.917 0.909
2 0.980 0.961 0.943 0.925 0.907 0.890 0.873 0.857 0.842 0.826
3 0.971 0.942 0.915 0.889 0.864 0.840 0.816 0.794 0.772 0.751
4 0.961 0.924 0.888 0.855 0.823 0.792 0.763 0.735 0.708 0.683
5 0.951 0.906 0.863 0.822 0.784 0.747 0.713 0.681 0.650 0.621
6 0.942 0.888 0.837 0.790 0.746 0.705 0.666 0.630 0.596 0.564
7 0.933 0.871 0.813 0.760 0.711 0.665 0.623 0.583 0.547 0.513
8 0.923 0.853 0.789 0.731 0.677 0.627 0.582 0.540 0.502 0.467
9 0.914 0.837 0.766 0.703 0.645 0.592 0.544 0.500 0.460 0.424
10 0.905 0.820 0.744 0.676 0.614 0.558 0.508 0.463 0.422 0.386
11 0.896 0.804 0.722 0.650 0.585 0.527 0.475 0.429 0.388 0.350
12 0.887 0.788 0.701 0.625 0.557 0.497 0.444 0.397 0.356 0.319
13 0.879 0.773 0.681 0.601 0.530 0.469 0.415 0.368 0.326 0.290
14 0.870 0.758 0.661 0.577 0.505 0.442 0.388 0.340 0.299 0.263
15 0.861 0.743 0.642 0.555 0.481 0.417 0.362 0.315 0.275 0.239

Discount rates (r) %

time / 11 12 13 14 15 16 17 18 19 20
periods
(n)
1 0.901 0.893 0.885 0.877 0.870 0.862 0.855 0.847 0.840 0.833
2 0.812 0.797 0.783 0.769 0.756 0.743 0.731 0.718 0.706 0.694
3 0.731 0.712 0.693 0.675 0.658 0.641 0.624 0.609 0.593 0.579
4 0.659 0.636 0.613 0.592 0.572 0.552 0.534 0.516 0.499 0.482
5 0.593 0.567 0.543 0.519 0.497 0.476 0.456 0.437 0.419 0.402
6 0.535 0.507 0.480 0.456 0.432 0.410 0.390 0.370 0.352 0.335
7 0.482 0.452 0.425 0.400 0.376 0.354 0.333 0.314 0.296 0.279
8 0.434 0.404 0.376 0.351 0.327 0.305 0.285 0.266 0.249 0.233
9 0.391 0.361 0.333 0.308 0.284 0.263 0.243 0.225 0.209 0.194
10 0.352 0.322 0.295 0.270 0.247 0.227 0.208 0.191 0.176 0.162
11 0.317 0.287 0.261 0.237 0.215 0.195 0.178 0.162 0.148 0.135
12 0.286 0.257 0.231 0.208 0.187 0.168 0.152 0.137 0.124 0.112
13 0.258 0.229 0.204 0.182 0.163 0.145 0.130 0.116 0.104 0.093
14 0.232 0.205 0.181 0.160 0.141 0.125 0.111 0.099 0.088 0.078
15 0.209 0.183 0.160 0.140 0.123 0.108 0.095 0.084 0.074 0.065

© University of London 2016

UL16/0294 Page 8 of 8 D1
 Examiners’ commentaries 2016

Examiners’ commentaries 2016

AC3091 Financial reporting

Important note

This commentary reflects the examination and assessment arrangements for this course in the
academic year 2015–16. The format and structure of the examination will change in 2017. Please see
page 2 of this document.

Information about the subject guide and the Essential reading

references

Unless otherwise stated, all cross-references will be to the latest version of the subject guide (2016).
You should always attempt to use the most recent edition of any Essential reading textbook, even if
the commentary and/or online reading list and/or subject guide refer to an earlier edition. If
different editions of Essential reading are listed, please check the VLE for reading supplements – if
none are available, please use the contents list and index of the new edition to find the relevant
section.

General remarks

Learning outcomes

At the end of this course and having completed the Essential reading and activities, you should be
able to:

• explain and apply a number of theoretical approaches to financial accounting

• record and analyse data
• prepare financial statements under alternative accounting conventions
• describe a number of regulatory issues relating to financial accounting
• critically evaluate theories and practices of, and other matters relating to, financial
accounting.

What are the examiners looking for?

The combined questions in Section A will require you to prepare calculations on a variety of topics
as well as show a critical grasp of the theories underlying the techniques. To do well, you need to be
able both to explain and evaluate the theories and prepare a range of financial statements and
calculations.

For quantitative parts of questions, the examiners are looking for the accurate preparation of
financial statements that follow generally accepted formats with clear headings and accurate
application of accounting techniques to specific areas within financial reporting. Workings should
always be clearly provided.

1
AC3091 Financial reporting

Written components of combined questions require clear and coherent explanations of theories,
techniques and practices. You must critically evaluate theories and practices.

Good answers to essay-based questions in Section B will be structured coherently and logically. They
should include an introduction, a main body and conclusion, and cover all parts of the question.

Typically, an essay-based question will require an explanation of an issue within financial reporting
and a critical analysis of the issue. Explanations should be clear and include a discussion of key
definitions, with examples if appropriate. The analysis should show critical awareness of both sides
of an argument or the application of a theory or concept to financial reporting, with an assessment
of its appropriateness to financial reporting.

Planning your time in the examination

All questions in the examination paper carry equal marks and equal time should be devoted to each
question. It is important that you attempt four questions and all parts of each question you answer.
Marks for each section are shown and should be used to guide your work and time management.
Where questions are in parts, you should avoid excessively long answers to some parts and missing
out other parts.

Key steps to improvement

You can enhance your performance by improving the presentation of your work, providing clear
workings, answering the required number of questions and attempting all sections of a question.
Often candidates seem to focus attention on the preparation of financial statements and the financial
calculations without being able to explain, discuss and evaluate the theories and practices central to
financial reporting.

Changes in the examination paper for 2016–17

The examination to be sat in May 2017 will cover the same syllabus as previous papers but will be structured to
require candidates to attempt more numerically based questions. The structure will be 8 questions in total,
Section A will contain 6 questions of which 4 must be answered, Section B will contain 2 questions of which 1
must be answered. Each question will be worth 20 marks.

The purpose of this change is to bring the examination requirements more in line with the professional
examinations for which exemptions are set.

Changes in the syllabus for 2017–18 onwards

The syllabus will change in 2017–18 to a more analytical focus, enabling newer more advanced management
accounting analyses to be taught and incorporated in the examination paper. Examination of the theoretical
content will be reduced in AC3097 Management accounting but a new theory paper incorporating 50%
financial accounting theory and 50% management accounting theory will be taught and examined from 2018–
19 onwards.

The examination paper will be the same structure as the 2016–17 paper, i.e. 8 questions in total. Section A will
contain 6 questions of which 4 must be answered, Section B will contain 2 questions of which 1 must be
answered. Each question will be worth 20 marks.

2
 Examiners’ commentaries 2016

Examination revision strategy

Many candidates are disappointed to find that their examination performance is poorer than they
expected. This may be due to a number of reasons. The Examiners’ commentaries suggest ways of
addressing common problems and improving your performance. One particular failing is ‘question
spotting’, that is, confining your examination preparation to a few questions and/or topics which
have come up in past papers for the course. This can have serious consequences.

We recognise that candidates may not cover all topics in the syllabus in the same depth, but you
need to be aware that the examiners are free to set questions on any aspect of the syllabus. This
means that you need to study enough of the syllabus to enable you to answer the required number of
examination questions.

The syllabus can be found in the Course information sheet in the section of the VLE dedicated to
each course. You should read the syllabus carefully and ensure that you cover sufficient material in
preparation for the examination. Examiners will vary the topics and questions from year to year and
may well set questions that have not appeared in past papers. Examination papers may legitimately
include questions on any topic in the syllabus. So, although past papers can be helpful during your
revision, you cannot assume that topics or specific questions that have come up in past examinations
will occur again.

If you rely on a question-spotting strategy, it is likely you will find yourself in difficulties
when you sit the examination. We strongly advise you not to adopt this strategy.

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AC3091 Financial reporting

Examiners’ commentaries 2016

AC3091 Financial reporting

Important note

This commentary reflects the examination and assessment arrangements for this course in the
academic year 2015–16. The format and structure of the examination will change in 2017. Please see
page 2 of this document.

Information about the subject guide and the Essential reading

references

Unless otherwise stated, all cross-references will be to the latest version of the subject guide (2016).
You should always attempt to use the most recent edition of any Essential reading textbook, even if
the commentary and/or online reading list and/or subject guide refer to an earlier edition. If
different editions of Essential reading are listed, please check the VLE for reading supplements – if
none are available, please use the contents list and index of the new edition to find the relevant
section.

Comments on specific questions – Zone A

Candidates should answer FOUR of the following SIX questions. Answer at least one question
from each section. All questions carry equal marks.

Workings should be submitted for all questions requiring calculations. Any necessary assumptions
introduced in answering a question are to be stated.

Section A

Answer at least one question from this section.

Question 1

The statements of comprehensive income for Bread Ltd, Cheese Ltd and Cake Ltd
for the year ended 31 December 2015 are given as follows:

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 Examiners’ commentaries 2016

Statements of comprehensive income for the year ending 31 December 2015

Bread Ltd Cheese Ltd Cake Ltd

£ £ £
Sales 13,500,000 7,650,000 5,400,000
Cost of sales (5,310,000) (2,655,000) (2,070,000)
Gross profit 8,190,000 4,995,000 3,330,000
Investment income- 390,000 — —
dividends received
Administration costs (912,750) (639,000) (315,000)
Distribution costs (420,000) (1,017,000) (157,500)
Interest income 225,000 — —
Interest expense (45,000) (81,000) —

Profit before tax 7,427,250 3,258,000 2,857,500

Tax (450,000) (315,000) (423,000)
Profit after tax 6,977,250 2,943,000 2,434,500

Bread Ltd acquired 80% of Cheese Ltd on 1 January 2003 for £1,008,000, gaining
significant influence over Cheese Ltd. On this date, the share capital of Cheese Ltd
was £300,000 and the retained earnings of Cheese Ltd were £615,000. The
non-current assets of Cheese Ltd were valued at £45,000 above their net book value
on 1 January 2003 and this revaluation was not included in the financial statements
of Cheese Ltd.

Bread Ltd acquired 40% of Cake Ltd for £900,000 on 1 January 2005, gaining
partial influence over Cake Ltd. Cake Ltd’s share capital and reserves were
£337,500 on 1 January 2005. The share capital of Cake Ltd is 60,000 50p shares.

The interest income in Bread Ltd includes interest income on its 70% holding of
bonds issued by Cheese Ltd. Bread Ltd acquired these bonds from Cheese Ltd,
without any goodwill arising, on 1 January 2003. The interest expense recorded by
Cheese Ltd represents the interest on the full bond issue. All companies have
accounted for interest income and interest expense correctly.

During the year Cheese Ltd sold goods costing £9,000 to Bread Ltd for £63,000.
20% of this inventory is included in Bread Ltd’s inventory at the year end.

During the year Cake Ltd sold goods costing £27,000 to Bread Ltd for £36,000. 50%
of this inventory is still in Bread Ltd’s inventory at the year end.

Goodwill is capitalised. Impairment of 50% of the value of the goodwill of Cheese

Ltd was seen in 2010 and impairment of 20% of the value of the goodwill in Cake
Ltd is seen in 2015.

At the year-end Bread Ltd charges both Cheese Ltd and Cake Ltd a management fee
of 10% of turnover.None of the companies have accounted for this management fee.

The retained earnings brought forward as at 1 January 2015 and dividend expense
for the year ended 31 December 2015 for Bread Ltd, Cheese Ltd and Cake Ltd were
as follows:

Bread Ltd Cheese Cake Ltd

Ltd
£ £ £
Retained earnings 7,240,000 900,000 600,000
brought forward
Dividend expense 270,000 75,000

5
AC3091 Financial reporting

Required:

(a) What is an associate company and what is a joint venture company? How are
joint venture companies accounted for in consolidated financial statements?
(5 marks)
(b) Prepare the consolidated statement of comprehensive income for Bread Ltd for
the year ended 31 December 2015, showing retained earnings brought forward,
dividend expense and retained earnings carried forward either on the face of the
statement of comprehensive income or in the consolidated retained earnings
section of the statement of changes in equity.
(20 marks)

Reading for this question

Subject guide, Chapter 6.

International financial reporting and analysis, 5th edition, Chapters 25–28.

Approaching the question

This question tests knowledge of types of group companies, how they are accounted for and the
detailed preparation of consolidated income statements.

(a) A good answer will clearly and succinctly define associates and joint ventures and will
clearly identify the correct accounting treatment for each type of company. A weaker answer
will not precisely define associate and joint venture companies or will miss out the definition
of one of the companies or will not be clear about the correct accounting treatments for the
companies.

(b) This question tests your ability to prepare a consolidated statement of comprehensive
income. The question requires the preparation of detailed calculations and these are shown
below. The workings in brackets are in £’000.
Statement of comprehensive income
£
Sales (13,500 + 7,650 − 63) 21,087,000
Cost of sales (5,310 + 2,655-63+10.8) (7,912,800)
Gross profit 13,174,200
Administration costs (912.75 + 639) (1,551,750)
Distribution costs (420 + 1,017) (1,437,000)
Investment income (390 − 60) 330,000
Management fee from a 540,000
Interest rec 225 − (0.7 × 81) 168,300
Interest pay 45 + 81 − 0.7 × 81 (69,300)
Share of Associate’s earnings based 925,200
on Profit before tax
0.4 × (2, 857.5 − 4.5 − 540)
Goodwill impairment (153,000)
Profit before tax 11,926,650
Tax (450 + 315 + 0.4 × 423) (934,200)
Profit after tax 10,992,450

Retained earnings section of Statement of equity

Retained profit brought forward 7,465,000
Profit after tax and NCI 10,559,010
Dividends payable (270,000)
Retained profit carried forward 17,754,010

6
 Examiners’ commentaries 2016

Workings (£’000)
Goodwill S: 1,008 − (0.8 × 300 + 615 + 45) = 240 = impairment = 120,000 = against
retained earnings brought forward.
Goodwill A: 900 − (0.4 × 337.5) = 765 = impairment = 153,000 in Income statements.
Retained earnings brought forward:

7,240 + 80%(900 − 615) + 40%(600 − 307.5) − 120 = 7,240 + 228 + 117 − 120 = 7,465,000.

Non controlling interest and profit attributable to H

Profit after tax 10,992,450
NCI / Mint 20% (2,943 − 10.8 − 765) (433,440)
Profit attributable to H 10,559,010

Different presentations of the information is acceptable, for example non-controlling interest

presented on the face of the statement of comprehensive income is also correct.

Question 2

Kitty Plc has a project that is expected to generate cash flows of £12,000 per
annum in perpetuity. The interest rate is expected to be 10% in perpetuity.

Actual cashflows received at time 1 total £12,000 and the interest rate changes to
20%. The interest rate is expected to remain at this higher level in the future.

At time 1, expectations change and future cash flows are now expected to double to
£24,000.

All cashflows arise at the end of the year.

Required:

(a) Calculate the following for the first period:

i. Hicks’ income number 1 ex ante and income number 2 ex ante.
ii. Hicks’ income number 1 ex post.
iii. Hicks’ income number 2 ex post version A, reconciling your answer to i.
iv. Hicks’ income number 2 ex post version B, reconciling your answer to i.
(13 marks)
(b) Define and explain the relationship between present value and deprival value.
What are the advantages and limitations of both these concepts in financial
reporting?
(12 marks)

Reading for this question

Subject guide, Chapter 3.

International financial reporting and analysis, 5th edition, Chapter 4.

Approaching the question

This question tests knowledge of Hicks’ concepts of income and capital, both in terms of
calculating different income measures and discussing aspects of present value and deprival value.

7
AC3091 Financial reporting

(a) A good answer will calculate the different income measures correctly and provide clear and
correct reconciliations. The calculations are detailed below.
Variables ex ante:
• D1 t0 = 12,000.
• V1 t0 = 12,000/0.1 = 120,000.
• V0 t0 = 12,000/0.1 = 120,000.
Variables ex post:
• D1 t1 = 12,000.
• V1 t1 = 24,000/0.2 = 120,000.
• V0 t1 = 12,000/1.1 + 120,000/1.1 = 120,000.

i. Income number 1 ex ante = £12,000.

Income number 2 ex ante = £12,000.
ii. Income number 1 ex post = £12,000.
iii. Income number 2 ex post version a:

= D1 t1 + V1 t1 − number 2 ex ante/r1 t1 = 12,000 + 120,000 − 12,000/0.2 = 72,000.

Reconciliation:
Ex ante income 12,000

Change in forecasted flows

12,000/0.1 120,000

Change in interest rate

12,000/0.2 − 12,000/0.1 (60,000)

Income nos 2 ex post a 72,000

iv. Income number 2 ex post version b:
Y y 1
V0 t1 = + ×
1 + r0 t1 r1 t1 1 + r0 t0

y y 1
120,000 = + ×
1.1 0.2 1.1
Y = 22,000.

Reconciliation:
Ex ante income 12,000

Change in forecasted flows

12,000/0.2 × 1/1.2 = 50,000

Interest on revision to capital @ 20%

50,000 × 0.2 10,000

Income nos 2 ex post a 22,000

(b) A good answer will define both deprival value and present value and discuss the relationship
between the two. A detailed discussion of the advantages and limitations of both concepts
will also be provided. A less well answered question may define only one of the concepts, not
discuss the relationship between the concepts or provide little assessment of the advantages
and disadvantages of the concepts. It is important to answer all parts of this question and
not just provide definitions.

8
 Examiners’ commentaries 2016

Question 3

Tram Ltd started trading on 1 January 2015. The statement of comprehensive

income and statement of financial position for the first year of trading are given as
follows:

Statement of comprehensive income for the year ended 31 December 2015

£
Revenue 5,400,000

Cost of sales
Opening inventory 300,000
Purchases 3,600,000
Closing inventory (360,000)
(3,540,000)
Gross profit 1,860,000
Expenses (600,000)
Depreciation (168,000)
Comprehensive income 1,092,000

Statement of financial position as at 31 December 2015

£
Non-current assets – net book value 5,592,000
Inventory 360,000
Cash 4,980,000

Total assets 10,932,000

Share capital (£1 shares) 6,000,000

Retained earnings 1,092,000
Accounts payable 3,840,000

Equity and liabilities 10,932,000

The price change indices for the year were identified as follows:

RPI Non-current Inventory

assets
1 January 2015 150 200 180
Average 2015 160 210 190
30 November 2015 170 220 215
31 December 2015 180 230 250

Closing inventory was acquired on 30 November 2015. 50% of the non-current-assets

were acquired on 1 January 2015 and 50% were acquired on 30 June 2015.

Opening inventory was acquired on the first day of trading.

Sales and purchases accrue evenly throughout the year.

A full year’s depreciation is charged in the year of purchase for non current assets.

9
AC3091 Financial reporting

Required:

(a) Identify how assets are valued within historic cost accounting, current
purchasing power accounting and current value (replacement cost) accounting
and discuss the capital maintenance concepts most closely associated with each
of the three conventions.

(7 marks)

(b) Prepare the current purchasing power statement of financial position as at 31

December 2015 and the current purchasing power statement of comprehensive
income for the year ending 31 December 2015 for Tram Ltd.

(8 marks)

(c) Prepare the current value (replacement cost) statement of financial position as
at 31 December 2015 and the current value (replacement cost) statement of
comprehensive income for the year ending 31 December 2015 for Tram Ltd.

(10 marks)

Reading for this question

Subject guide, Chapter 4.

International financial reporting and analysis, 5th edition, Chapters 5–7.

Approaching the question

This question tests knowledge of alternatives to historic cost, both of the alternatives and
preparation of financial statements using alternatives.

(a) A good answer will briefly describe the historic cost, current purchasing power and current
cost/value accounting methods. A good answer will clearly identify and explain the asset
valuation basis for each of the methods and correctly identify and explain the capital
maintenance concepts most closely associated with each of the methods. A less well
answered question may confuse the different methods, just focus on one or two of the
methods or provide little or no explanations.

(b) The preparation of a statement of financial position and a statement of comprehensive

income using both the current purchasing power (CPP) method and the current cost
method (CCA) based on replacement costs is required. The calculations are shown below:

SFP £ Rate CPP

Nca 2,796,000 180/150 3,355,200

Nca 2,796,000 180/160 3,145,500
Invent 360,000 180/170 381,176
Cash 4,980,000 4,980,000
Net assets 10,932,000 11,861,876

Share cap 6,000,000 180/150 7,200,000

Ret profit 1,092,000 Bal 821,876
T pay 3,840,000 3,840,000
10,932,000 11,861,876

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 Examiners’ commentaries 2016

Income statement
£ Index CPP
Sales 5,400,000 180/160 6,075,000
Op invent 300,000 180/150 360,000
Purch 3,600,000 180/160 4,050,000
Cl invent (360,000) 180/170 (381,176)
(3,540,000) (4,028,824)
G profit 1,860,000 2,046,176
Exp (600,000) 180/160 (675,000)
Depn (84,000) 180/150 (100,800)
Depn (84,000) 180/160 (94,500)
Loss on nmwc (354,000)

Net profit 1,092,000 821,876

SFP £ Rate CCA

Nca 2,796,000 230/200 3,215,400

Nca 2,796,000 230/210 3,062,285
Invent 360,000 250/215 418,605
cash 4,980,000 4,980,000
Net assets 10,932,000 11,676,290

Share cap 6,000,000 6,000,000

(c)
Ret profit 1,092,000 IS 1,012,873
T pay 3,840,000 3,840,000

Nca reserve 685,685

Inventory reserve 58,605
Cosa reserve 58,527
Depn reserve 20,600

10,932,000 11,676,290

Income statement
£ Index CPP
Sales 5,400,000 5,400,000
Op invent 300,000 190/180 316,667
Purch 3,600,000 3,600,000
Cl invent (360,000) 190/215 (318,140)
(3,540,000) (3,598,527)
G profit 1,860,000 1,801,473
Exp (600,000) (600,000)
Depn (84,000) 230/200 (96,600)
(84,000) 230/210 (92,000)
Net profit 1,092,000 1,012,873

Question 4

(a) What is the share premium reserve and what can this reserve be used for in the
UK?
(5 marks)
(b) Cape Ltd buys a new machine on 1 June 2015 from Overseas International for
60,000 ‘blues’, the currency in which Overseas International trades, on credit.
This is still outstanding at the year end, 31 December 2015. The exchange rate

11
AC3091 Financial reporting

at the date of purchase of the machine was 10 blues to £1 and the exchange rate
at year end is 8 blues to £1.
Required:
Show how the purchase of the machine and any subsequent exchange gain or
loss would be accounted for on 1 June 2015 and on 31 December 2015.
(5 marks)
(c) Two companies, Alpha and Beta, enter into research and development activities
of £500,000 in 2015. Alpha treats this expenditure as research and Beta treats
this expenditure as development.
Required:
Define research and development activities. Compare and contrast the
accounting treatment of the research and development activities for the two
companies, Alpha and Beta and discuss how the different treatments will
impact the financial statements of both companies. How will the different
accounting treatments impact the net profit margin and the gearing ratio?
(8 marks)
(d) What is deferred tax? Compare the flow through, partial provision and full
provision methods for determining the deferred tax provision in the financial
statements.
(7 marks)

Reading for this question

(a) Subject guide, Chapter 10.

(b) Subject guide, Chapter 6. International financial reporting and analysis, 5th edition,
Chapter 29.
(c) Subject guide, Chapters 8 and 12. International financial reporting and analysis, 5th
edition, Chapter 13.
(d) Subject guide, Chapter 11. International financial reporting and analysis, 5th edition,
Chapter 20.

Approaching the question

This question tests knowledge of five different areas of financial reporting, covering both
discussion type questions and calculation questions.

(a) This question tests knowledge of the share premium account. A good answer will require a
clear definition of the share premium account and will identify what this reserve may be
used for in the UK. A less well answered question may not clearly define the share premium
account and/or not know the uses of the reserve.

(b) This question tests the knowledge of foreign currency transactions with companies and asks
for the accounting treatment of a machine acquired in a foreign currency.
The accounting entries are shown below.

New machine June 2015 31 December 2015

Machine £6,000 Machine £6,000

payable £6,000 payable £7,500
Income statement £1,500 loss

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 Examiners’ commentaries 2016

(c) This question tests knowledge of research and development.

A good answer will briefly define research and development and identify the correct
accounting treatment for each of these. A good answer will also discuss the impact of the
accounting treatments on the financial statements and on the net profit margin and gearing
ratios. A less well answered question may incorrectly define research and development and
would not be able to discuss the impact of the different treatments in the financial
statements and on the ratios.

(d) This question tests knowledge of deferred tax.

A good answer will define deferred tax, identify and explain the flow through, partial
provision and full provision methods for accounting for deferred tax. A less well answered
question will not be able to clearly define deferred tax and be unable to clearly explain the
three different methods for accounting for deferred tax.

Section B

Answer at least one question from this section.

Question 5

Either:

(a) Compare, contrast and critically assess the closing rate method and the
temporal method for accounting for overseas subsidiaries.

Or:

(b) Compare and contrast finance leases with operating leases and discuss how each
of these should be accounted for by the lessee. Discuss the impact that the
different treatments make to the financial statements of the lessee and to key
financial ratios.

Reading for this question

(a) Subject guide, Chapter 6. International financial reporting and analysis, 5th edition,
Chapter 29.
(b) Subject guide, Chapter 7. International financial reporting and analysis, 5th edition,
Chapter 15.

Approaching the question

(a) This question tests the knowledge of closing rate and temporal methods, particularly in
being able to explain financial reporting methods and critically assessing the methods.
A good answer will outline both the closing rate method and the temporal method perhaps
illustrating the definitions with an example. A good range of different areas should be
compared and contrasted for example the following areas should be compared and
contrasted:
• when the methods are used including a definition of the functional currency
• the rates used
• how the FX is calculated
• where the FX is presented
• calculation and translation of goodwill.

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AC3091 Financial reporting

Both methods should be critically assessed with a wide range of both advantages and
disadvantages covered.
A less well answered question may not define the methods, will focus on just the foreign
currency rates used in the methods and provide little or no critical assessment of the
methods.
(b) This question tests knowledge of leases and the impact of these on financial reports and
ratios.
A good answer will define finance and operating leases, perhaps illustrating these definitions
with appropriate examples. The accounting treatment of the leases should be discussed and
key disclosures should be identified. You may also refer to recent developments in
accounting for leases.
The impact of accounting for operating and finance leases on income statement and SFP
should be discussed and the impact on key ratios such as ROCE, gross and net profit
margins, gearing etc. should be discussed.
A less well answered question may focus mainly on the definitions of leases but not cover the
accounting treatments of the different leases or discuss the impact on financial statements
and ratios.

Question 6

Either:

(a) Discuss both traditional and economic arguments for and against the regulation
of accounting.

Or:

(b) Discuss the main arguments in favour of and against conceptual frameworks in
general and, for a conceptual framework of your choice, critically assess the
strengths and weaknesses of the particular conceptual framework you have
chosen.

Reading for this question

(a) Subject guide, Chapter 1.

(b) Subject guide, Chapter 2. International financial reporting and analysis, 5th edition,
Chapter 8.

Approaching the question

(a) This question tests knowledge of regulation.

A good answer will define regulation, perhaps illustrating with examples of different types of
regulation seen in the financial reporting context. Both traditional and economic arguments
such as those presented by Beaver should be discussed and both sides of each argument need
to be presented and explained clearly. A less well answered question will focus on just
traditional arguments, cover only a few points and will not present both sides of the
argument.
(b) This question tests knowledge of conceptual frameworks.
A good answer will define a conceptual framework and briefly outline the main contents of a
conceptual framework. A particular conceptual framework such as statement of principles,
FASB conceptual framework or IASB framework should be identified and definitions and
discussion of the main contents of a conceptual framework in relation to the chosen
framework may be presented. Both the arguments for and against the conceptual framework

14
 Examiners’ commentaries 2016

should be discussed, covering both general arguments and arguments specifically related to
the chosen framework.
A less well answered question may focus just on outlining a conceptual framework with little
explanation and little assessment of the advantages and disadvantages of conceptual
frameworks in general and of a specific conceptual framework project.

15
AC3091 Financial reporting

Examiners’ commentaries 2016

AC3091 Financial reporting

Important note

This commentary reflects the examination and assessment arrangements for this course in the
academic year 2015–16. The format and structure of the examination will change in 2017. Please see
page 2 of this document.

Information about the subject guide and the Essential reading

references

Unless otherwise stated, all cross-references will be to the latest version of the subject guide (2016).
You should always attempt to use the most recent edition of any Essential reading textbook, even if
the commentary and/or online reading list and/or subject guide refer to an earlier edition. If
different editions of Essential reading are listed, please check the VLE for reading supplements – if
none are available, please use the contents list and index of the new edition to find the relevant
section.

Comments on specific questions – Zone B

Candidates should answer FOUR of the following SIX questions. Answer at least one question
from each section. All questions carry equal marks.

Workings should be submitted for all questions requiring calculations. Any necessary assumptions
introduced in answering a question are to be stated.

Section A

Answer at least one question from this section.

Question 1

The statements of financial position for Hop Plc, Skip Ltd and Jump Ltd as at 31
December 2015 are given below:
Hop Ltd Skip Ltd Jump Ltd
£ £ £
Non-current assets (land) 435,000 1,425,000 1,050,000
Investments 2,100,000
Inventory 150,000 300,000 750,000
Receivables 555,000 525,000 300,000
Cash 105,000 105,000 135,000
Total assets 3,345,000 2,355,000 2,235,000

Share capital 1,500,000 450,000 300,000

Profit and loss account 1,035,000 1,305,000 1,500,000
reserve
Payables 810,000 450,000 435,000
8% Bonds 150,000
Capital, reserves and liabilities 3,345,000 2,355,000 2,235,000

16
 Examiners’ commentaries 2016

Hop Plc acquired 75% of Skip Ltd on 1 January 2010 for £1,252,500, gaining
significant influence over Skip Ltd. Skip Ltd’s share capital and reserves were
£480,000 on 1 January 2010. The fair value of Skip Ltd’s non-current assets on 1
January 2010 was £1,815,000 and this revaluation has not been incorporated into
Skip Ltd’s accounts.

At the same time, Hop Plc acquired 10% of the bonds in Skip Ltd for £15,000. No
goodwill arose on this transaction.

Bond interest payable by Skip Ltd is still outstanding as at 31 December 2015. The
bond interest payable by Skip Ltd and interest receivable by Hop Plc has not been
accounted for as at 31 December 2015.

Hop Plc acquired 40% of Jump Ltd on 1 January 2011 for £600,000, gaining partial
influence over Jump Ltd. Jump Ltd’s share capital and reserves were £450,000 on
this date.

Hop Plc’s policy is to capitalise goodwill.Impairment of 50% of all goodwill is seen

in 2015.

In 2015, Hop Plc’s inventory includes inventory acquired from Skip Ltd for £25,000
which had cost Skip Ltd £15,000 and inventory from Jump Ltd for £50,000 which
had cost Jump Ltd £5,000.

The receivables figure in Hop Ltd includes inter-company receivables from Skip Ltd
of £60,000 and inter-company receivables from Jump of £120,000.

The payables figure in Skip Ltd includes inter-company payables of £60,000 to Hop
Ltd and the payables figure in Jump Ltd includes inter-company payables of
£120,000 to Jump Ltd.

Required:

(a) What is a subsidiary company and what is an associate company? Identify how
both types of companies should be accounted for?
(5 marks)
(b) Prepare the consolidated statement of financial position for Hop Ltd as at 31
December 2015.
(20 marks)

Reading for this question

(a) Subject guide, Chapter 6. International financial reporting and analysis, 5th edition,
Chapters 25–28.
(b) Subject guide, Chapter 6. International financial reporting and analysis, 5th edition,
Chapter 29.

Approaching the question

(a) This question tests knowledge of types of group companies, how they are accounted for and
the detailed preparation of consolidated statements of financial position.
A good answer will clearly and succinctly define subsidiaries and associates and will clearly
identify the correct accounting treatment for each type of company. A weaker answer will
not precisely define subsidiary and associate companies or will miss out the definition of one
of the companies or will not be clear about the correct accounting treatments for the
companies.
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AC3091 Financial reporting

(b) This question tests your ability to prepare a consolidated statement of financial position.
The question requires the preparation of detailed calculations and these are shown below.
The workings are in £’000.
Workings
Non current assets – land 2,250,000 435 + 1,815
Investments 232,500 2,100 − 1,252.5 − 600 − 15
Goodwill 300,000
Share in A 912,000

Inventories 440,000 150 + 300 − 10

Trade receivables 900,000 555 + 525 − 60 − 120
Interco receivables from a 120,000
Cash 210,000 105 + 105
5,364,500

Share capital 1,500,000

Ret earnings 1,987,950

NCI 530,750
payables 1,200,000 810 + 450 − 60
interest payable 10,800 12 − 1.2
Bonds 135,000 150 − 15
5,364,500

Goodwill (workings in £000)

S = 1,252,5 − 75% (480 + 390) = 600,000.
A = 600 − 40% (450) = 420,000.
Goodwill S = 600,000.
Impairment S = 50% = £300,000.
Impairment A = 50% × 420 = £210,000.
reserves H S A

Ret earnings 1,035,000 1,305,000 1,500,000

Purp (10,000) (45,000)
Interest payable (12,000)
Interest receivable 1,200

Revised ret earnings 1,036,200 1,283,000 1,455,000

Share cap 1,500,000 450,000 300,000
Revaln 390,000
net assets 2,536,200 2,123,000 1,755,000

Interest payable by S = 150,000 × 0.08 = 12,000.

Interest receivable by H = 1,200.
Ret earnings:

= 1,036.2+75%(1, 283−30)+40%(1,455−150)−510 = 1,036.2+939.75+522−510 = 1,987,950.

NCI = 2,123 × 25% = 530,750.

Share in A = 600 + 40% × (1,455 − 150) − 210 = 912.

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 Examiners’ commentaries 2016

Question 2

On 1 January 2010, Puppy Ltd acquired 80% of the ordinary shares of a subsidiary,
Kitten Org. Kitten Org trades in the currency ‘potts’. On 1 January 2010 the
balance on the accumulated profits of Kitten Org was 480,000 ‘potts’ and the share
capital of Kitten Org was 3,600,000 ‘potts’.

The summary statements of comprehensive income and statements of financial

position of Puppy Ltd and Kitten Org are given as follows:

Statements of financial position as at 31 December 2015

Puppy Ltd Kitten Org
£ ‘potts’

Non-current assets – land 2,220,000 5,532,000

Investment in Kitten Org 360,000 —
Inventories 660,000 900,000
Inter-company receivable from 96,000 —
Kitten Org
Cash 1,764,000 300,000
Total assets 5,100,000 6,732,000

Share capital 2,160,000 3,600,000

Retained earningsbrought forward 1,440,000 1,200,000
Profit for the year 1,500,000 1,740,000
Inter-company payableto Puppy Ltd — 192,000
Equity and liabilities 5,100,000 6,732,000

Statements of comprehensive income

Puppy Ltd Puppy Ltd Kitten Org Kitten Org

£ £ ‘potts’ ‘potts’
Revenue 9,120,000 4,560,000
Cost of sales
Openinginventory 480,000 600,000
Purchases 6,000,000 2,400,000
Closing inventory (660,000) (900,000)
(5,820,000) (2,100,000)
Gross profit 3,300,000 2,460,000
Other expenses (960,000) (300,000)
Profit before tax 2,340,000 2,160,000
Tax (840,000) (420,000)
Comprehensive income 1,500,000 1,740,000

The following information is also available:

i. Non-current assets were acquired on 1 January 2010.

ii. Opening inventories were acquired on 12 November 2014 and closing inventories
were acquired on 15 December 2015.

iii. Exchange rates are given as follows:

1 January 2010 £1= 10 ‘potts’

12 November 2014 £1 = 4.5 ‘potts’
1 January 2015 £1 = 5 ‘potts’
average for 2015 £1 = 3.5 ‘potts’
15 December 2015 £1 = 3 ‘potts’
31 December 2015 £1 = 2 ‘potts’

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AC3091 Financial reporting

iv. Impairment of 40% of the goodwill arising on the acquisition of Kitten Org is
seen in 2015.

v. The translated retained earnings brought forward for Kitten Org are £240,000.

Required:

(a) Discuss the main differences between the temporal method and the closing rate
method and discuss when each method should be used.
(10 marks)

(b) Translate the statement of comprehensive income for the year ending 31
December 2015 and the statement of financial position as at 31 December 2015
of Kitten Org using the temporal method.
(9 marks)

(c) Calculate the following:

i. Goodwill in the consolidated statement of financial position as at 31

December 2015.
ii. Goodwill impairment in the consolidated statement of comprehensive income.
iii. Consolidated foreign exchange loss in the consolidated statement of
comprehensive income.
iv. Non controlling interest in the consolidated statement of comprehensive
income.

(6 marks)

Reading for this question

Subject guide, Chapter 6.

International financial reporting and analysis, 5th edition, Chapter 29.

Approaching the question

This question tests knowledge of foreign currency translations.

(a) A good answer will outline both the closing rate method and the temporal method perhaps
illustrating the definitions with an example. A good range of different areas should be
compared and contrasted, for example the following areas should be compared and
contrasted:

• when the methods are used including a definition of the functional currency
• the rates used
• how the FX is calculated
• where the FX is presented
• calculation and translation of goodwill.

A less well answered question may not explain the methods clearly and will focus on the
rates used in the methods rather than covering a wide range of differences.

(b) The question requires the preparation of financial statements using the temporal method –
translating the single company financial statements and calculating parts of the consolidated
financial statements. The calculations are shown below.

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 Examiners’ commentaries 2016

SFP Kitten potts Rate Kitten £

Nca 5,532,000 10 553,200

Invest
Invent 900,000 3 300,000
Cash 300,000 2 150,000
Interco rec
6,732,000 1,003,200

Share cap 3,600,000 10 360,000

P+L bfwd 1,200,000 Given 240,000
Profit for year 1,740,000 Bal 307,200
Interco pa 192,000 2 96,000
Cap + res 6,732,000 1,003,200
Income statement
Kitten potts Rate Kitten £

Sales 4,560,000 3.5 1,302,857

Op invent 600,000 4.5 133,333
Purch 2,400,000 3.5 685,714
Cl invent (900,000) 3 (300,000)
(2,100,000) (519,047)
Gross profit 2,460,000 783,810
Exp (300,000) 3.5 (85,714)
FX (270,896) Balancing figure

Pbt 2, 160,000 427,200

Tax (420,000) 3.5 (120,000)
Pat 1,740,000 307,200 From SFP
(c) i. Goodwill (360,000 × 10 − 80% × 4,080,000) = 336,000 potts.
Goodwill = 336,000 − 134,400 = 201,600 potts = £20,160.
ii. Impairment = 40% × 336,000 = 134,400 potts = £13,440.
iii. FX reserves in income statement = (270,896).
iv. Non-controlling interest in income statement = 20% × 307,200 = 61,440.

Question 3

Honey Plc has a project that is expected to generate cash flows of £8,000 per
annum in perpetuity.The interest rate is expected to be 10% in perpetuity.

Actual cashflows received at time 1 total £8,000 and the interest rate changes to
20%.The interest rate is expected to remain at this higher level in the future.

At time 1, expectations change and future cash flows per annum are now expected
to double to £16,000.

All cashflows arise at the end of the year.

Required:

(a) Calculate the following for the first period:

i. Hicks’ income number 1 ex ante and income number 2 ex ante.
ii. Hicks’ income number 1 ex post.
iii. Hicks’ income number 2 ex post version A, reconciling your answer to i.
iv. Hicks’ income number 2 ex post versionB, reconciling your answer to i.
(13 marks)

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AC3091 Financial reporting

(b) Define and explain the relationship between present value and deprival value.
What are the advantages and limitations of both these concepts in financial
reporting?
(12 mark)

Reading for this question

Subject guide, Chapter 3.

International financial reporting and analysis, 5th edition, Chapter 4.

Approaching the question

This question tests knowledge of Hicks’ concepts of income and capital, both in terms of
calculating different income measures and discussing aspects of present value and deprival value.

(a) A good answer will calculate the different income measures correctly and provide clear and
correct reconciliations. The calculations are detailed below.
Variables ex ante:
• D1 t0 = 8, 000.
• V1 t0 = 8,000/0.1 = 80,000.
• V0 t0 = 8,000/0.1 = 80,000.
Variables ex post:
• D1 t1 = 8,000.
• V1 t1 = 16,000/0.2 = 80,000.
• V0 t1 = 8,000/1.1 + 80,000/1.1 = 80,000.

i. Income number 1 ex ante = £8,000.

Income number 2 ex ante = £8,000.
ii. Income number 1 ex post = £8,000.
iii. Income number 2 ex post version a:

= D1 t1 + V1 t1 − number 2 ex ante/r1 t1 = 8,000 + 80,000 − 8,000/0.2 = 48,000.

Reconciliation:
Ex ante income 8,000

Change in forecasted flows

8,000/0.1 80,000

Change in interest rate

8,000/0.2 − 8,000/0.1 (40,000)

Income nos 2 ex post a 48,000

iv. Income number 2 ex post version b:

Y y 1
V 0 t1 = + ×
1 + r0 t1 r1 t1 1 + r0 t0

y y 1
80,000 = + ×
1.1 0.2 1.1
Y = 14,667.

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 Examiners’ commentaries 2016

Reconciliation:
Ex ante income 8,000

Change in forecasted flows

8,000/0.2 × 1/1.2 = 33,333

Interest on revision to capital @ 20%

33,333 × 0.2 6,667

Income nos 2 ex post a 14,667

(b) A good answer will define both deprival value and present value and discuss the relationship
between the two. A detailed discussion of the advantages and limitations of both concepts
will also be provided. A less well answered question may define only one of the concepts, not
discuss the relationship between the concepts or provide little assessment of the advantages
and disadvantages of the concepts. It is important to answer all parts of this question and
not just provide definitions.

Question 4

(a) Discuss the treatment of contingencies under IAS 37.

(5 marks)
(b) Two identical companies, Gamma and Delta, both purchase goodwill for
£30,000. Gamma capitalises and amortises the goodwill over its useful economic
life of 10 years. Delta capitalises the goodwill and undertakes periodic
impairment reviews. No impairment of the goodwill is seen.
Required:
Define goodwill. Discuss the impact the two methods for accounting for
goodwill will have on the statement of financial position and statement of
comprehensive income for both companies. What will be the impact on the net
profit margin and the gearing ratio?
(8 marks)
(c) In 2015 Metal Ltd mined 100,000 ounces of copper at a direct cost of £210 per
ounce. Depreciation of the mine, on a unit of depletion basis, amounted to
£3,780,000. Depreciation of the mining equipment on a straight line basis was
£420,000. Administrative overheads amounted to £468,000. 40,000 ounces were
sold for £29,640,000 and delivery costs of £252,000 were paid.
Required:
Show the profit/loss, the cost of sales and the closing inventory value at the
year end according to IAS 2 for the above transactions.
(5 marks)
(d) What is deferred tax? Compare the flow through, partial provision and full
provision methods for determining the deferred tax provision in the financial
statements.
(7 marks)

Reading for this question

(a) Subject guide, Chapter 10. International financial reporting and analysis, 5th edition,
Chapter 19.
(b) Subject guide, Chapter 8. International financial reporting and analysis, 5th edition,
Chapter 13.

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AC3091 Financial reporting

(c) Subject guide, Chapter 9. International financial reporting and analysis, 5th edition,
Chapter 16.
(d) Subject guide, Chapter 11. International financial reporting and analysis, 5th edition,
Chapter 20.

Approaching the question

This question tests knowledge of five different areas of financial reporting, covering both
discussion-type questions and calculation questions.

(a) This question tests knowledge of contingencies.

A good answer will provide a clear definition of contingencies and discuss the accounting
treatment of contingencies. A less well answered question will not provide a clear definition
of contingencies or not be able to explain the accounting treatments.
(b) This question tests knowledge of goodwill.
A good answer will provide a definition of goodwill, discuss the accounting treatment
adopted by the two companies in relation to goodwill and the difference this makes to
financial statements and the net profit margin and the gearing ratios. A less well answered
question may not define goodwill very carefully and be unable to explain the different
accounting treatments and impact on financial statements and ratios.
(c) This question tests knowledge about the valuation of inventory.
The solutions are given as follows:
Sales 29,640,000
Cost of sales
Mined copper 100,000 × £252 = £25,200,000
Closing inventory 60,000 × £252 = (£15,120,000)
Cost of sales (10,080,000)
19,560,000
Admin (468,000)
Delivery (252,000)
Net profit 18,840,000
Closing inventory = direct cost plus depletion of mine plus depreciation of equipment =
£210 + 3,780,000/100,000 + 420,000/100,000 = 210 + 37.8 + 4.2 = £252.
(d) This question tests knowledge of deferred tax.
A good answer will define deferred tax, identify and explain the flow through, partial
provision and full provision methods for accounting for deferred tax. A less well answered
question will not be able to clearly define deferred tax and be unable to clearly explain the
three different methods for accounting for deferred tax.

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 Examiners’ commentaries 2016

Section B

Answer at least one question from this section.

Question 5

Either:

(a) Define construction contracts and discuss the application of accounting

principles and concepts to accounting for construction contracts. Critically
assess recent developments in accounting for construction contracts.

Or:

(b) Discuss off balance sheet finance and substance over form, covering the
importance of these concepts, the issues leading to the need for the concepts
and the impact they have on financial statements. Illustrate your answer with
two examples.

Reading for this question

(a) Subject guide, Chapter 9. International financial reporting and analysis, 5th edition,
Chapter 16.
(b) Subject guide, Chapter 7. International financial reporting and analysis, 5th edition,
Chapter 16.

Approaching the question

(a) This question tests knowledge of construction contracts.

A good answer should provide a definition of construction contracts, perhaps illustrating
with a suitable example. Key accounting principles such as relevance, reliability, prudence
and matching should be defined and a discussion of the application of these concepts to
construction contracts, for example when to recognise profits, how to allocate contract
revenue and cost to accounting periods in which work is undertaken, how to value
construction contracts in SFP, whether completion of contract is appropriate, attributable
profit and how to deal with foreseeable losses. Profit recognition methods such as
percentage of completion method and how to determine stage of completion should be
discussed. Recent changes such as how to determine stage of completion and revenue
recognition changes may also be discussed.
(b) This question tests knowledge of off balance sheet finance and substance over form.
A good answer should explain and discuss the concepts of off balance sheet finance and
substance over form. The importance and impact of these concepts should be discussed and
illustrated using two examples. Any two examples may be given such as leases, sale and
leaseback, quasi subsidiaries, debt factoring or any other suitable example, for example from
FRS 5. Discussion in relation to the two examples should explain and define the
transaction, why the area was problematic, how off balance sheet finance and substance over
form are applied in the area, the impact this makes on the financial statements and key
ratios. A less well answered question would not explain the concepts of substance over form
and off balance sheet finance in relation to the examples or only discuss one example.

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AC3091 Financial reporting

Question 6

Either:

(a) Discuss both traditional and economic arguments for and against the regulation
of accounting.

Or:

(b) Compare, contrast and critically assess historic cost accounting, current
purchasing power accounting and current value (replacement cost) accounting.

Reading for this question

(a) Subject guide, Chapter 1.

(b) Subject guide. Chapters 4 and 5. International financial reporting and analysis, 5th edition,
Chapters 5–7.

Approaching the question

(a) This question tests knowledge of regulation.

A good answer will define regulation, perhaps illustrating with examples of different types of
regulation seen in the financial reporting context. Both traditional and economic arguments
such as those presented by Beaver should be discussed and both sides of each argument need
to be presented and explained clearly. A less well answered question will focus on just
traditional arguments, cover only a few points and will not present both sides of the
argument.
(b) This question tests alternatives to historic cost accounting.
A good answer should explain and discuss historic cost accounting, current purchasing
power and current cost/current value accounting, perhaps illustrating with suitable
examples. The methods should be compared and contrasted for example in terms of the
capital maintenance concepts, asset valuations, proprietor or company focus, the
adjustments required, where the reserves are recorded and concepts such as net monetary
working capital adjustment if appropriate. A critique of all three methods should be
provided covering a wide range of advantages and disadvantages. A less well answered
question would provide only brief details of the three methods, with little or no critical
assessment or might focus on just one of two of the methods rather than all three methods.

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