Financial Reporting and Assurance Professional Competence

Suggested Answer
Multi Subject Assessments – Winter 2023

Ans.1 Rawalpindi Industries Limited

(a) Identify key audit risks
Weak internal controls
Procedures performed at the interim audit found that internal controls to identify
related parties and related party transactions are weak. IAS 24 Related Party Disclosures
requires disclosure of related party relationships, transactions and outstanding
balances, including commitments, in the consolidated and separate financial
statements of a parent. There is a risk that the consolidated financial statements of
RIL do not contain the required disclosure for all related parties as per IAS 24 and
are materially misstated.
Nasihat Limited
Nasihat Limited is a significant component of RIL based in Algeria, a country where
Malik Co. does not have a branch and will need to rely on a component auditor
which may not have the appropriate competence or capability. Reliance on a
component auditor increases detection risk in the group audit. There is a risk that the
component auditor may not detect a misstatement in the financial statements of
Nasihat Limited that could cause a material misstatement in the consolidated
financial statements of RIL.
The accounting department at RIL has no experience of translating the financial
statements of a foreign subsidiary to include in RIL's consolidated financial
statements. Due to their inexperience, there is a risk that incorrect exchange rates are
used to translate the financial statements of Nasihat Limited, or that the translation
does not take place at all. This could result in the consolidated financial statements
of RIL being misstated.
Hafiz Chemicals Limited
Hafiz Chemicals Limited (HCL), a 100% owned subsidiary of RIL, has a year-end
date that differs to RIL. IFRS 10 Consolidated Financial Statements, requires HCL to
prepare additional financial information with a year-end date of 30 September 2023
to enable RIL to produce consolidated financial statements, unless it is impracticable
to do so. There is an increased risk of misstatement where there are non-coterminous
year ends in a consolidation. The additional financial information produced by HCL.
for the consolidation might not be appropriate as it might be prepared for the
incorrect time period.
Aam Limited
F&B Co., a customer of Aam Limited (AL), went into liquidation after the year end.
At the year end, a receivable of Rs. 450 million was outstanding. This is 0.6%
(450/73,380) of total assets and is material to the consolidated financial statements.
It is highly unlikely that the receivable is recoverable and a loss allowance should be
recognised in the consolidated financial statements. The loss allowance is calculated
as the present value of the future cash shortfalls. If a loss allowance is not recognised,
trade receivables and consolidated profits will be overstated.
Sacha Limited
A profit on disposal of Sacha Limited(SL). of Rs. 2,750 million has been recorded in
the consolidated financial statements of RIL which is highly material at 40.98%
(2,750/6,710) of profit before tax. There is a risk that not all assets, liabilities and
goodwill related to SL. have been derecognised in the consolidated financial
statements, resulting in an incorrect profit on disposal calculation. Profit on disposal
may have been deliberately overstated in order to present the consolidated financial
statements more favourably. In addition, there is a risk that the relevant disclosures
relating to the sale of SL have not been made.
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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

Convertible loan
A convertible loan was issued in the year raising proceeds of Rs. 2,500 million, which
is material at 3.4% (2,500/73,380) of total assets. There is a risk that the convertible
loan has not been recognised in line with IAS 32 Financial Instruments: Presentation.
IAS 32.29 states that a loan which the holder can convert into a fixed number of
ordinary shares is a compound financial instrument and an entity should recognise
and present the liability and equity components separately in its statement of
financial position. It seems that RIL has recognised the entire convertible loan as a
liability which is not in line with IAS 32 and will result in overstated liabilities and
understated equity.

Acquisition of BAL
There is a risk that the acquisition of BAL has not been recorded in RIL's
consolidated financial statements as per the requirements of IFRS 3. RIL has
correctly included the assets and liabilities of BAL in its consolidated financial
statements but does not appear to have recognised goodwill or the non-controlling
interest. In addition, BAL has incorrectly recognised the equity of BAL in its
consolidated financial statements and the cash cost of the investment. This will result
in an understatement of goodwill and the non-controlling interest and an
overstatement of equity and investments in the consolidated financial statements of
RIL.

Impairment
RIL has a cash generating unit (CGU) on its consolidated statement of financial
position which may be impaired. IAS 36.1 Impairment of Assets requires an entity to
recognise an impairment loss where the carrying amount of an asset or CGU is
greater than its recoverable amount (the higher of fair value less cost of disposal and
value in use). RIL has performed an impairment test on the CGU as required by IAS
36. An impairment review is subjective and there is a risk the figures might have been
manipulated in order to present the consolidated financial statements more
favourably. It appears that the impairment has not been included in RIL's
consolidated financial statements at all. If this is not corrected, property, plant and
equipment and profits will be overstated.

Transfer of property
RIL has property in Hyderabad on its consolidated statement of financial position
with a cost of Rs. 420 million at the year end. This is 0.6% of total assets and is
material.

The Hyderabad property was originally occupied by RIL but has had a change of use
during the year and is now let to tenants. The property is now an investment property
and should be recognised and measured in line with IAS 40 Investment Property. It
appears that the property is still recognised and measured using IAS 16 Property, Plant
and Equipment which is incorrect. If no correction is made, this will be a material
misclassification on RIL's statement of financial position and profits will be
understated by any depreciation expense charged after the change in use and
omission of possible fair value gain on investment property.

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

(b) Financial reporting treatment

Convertible loan
RIL issued a convertible loan on 1 April 2023, raising proceeds of Rs. 2,500 million.
The proceeds have been recognised as a liability in the draft financial statements. A
convertible loan in which a fixed amount of debt is exchanged for a fixed number of
equity instruments does not meet the definition of a financial liability provided in
IAS 32 Financial Instruments: Presentation. Instead, this is a compound instrument
which is initially recognised partly as a financial liability and partly as equity.

The amount to be recognised as a financial liability is equal to the measurement of a

similar instrument with no conversion rights and the balance of proceeds is
recognised as equity. A similar instrument without conversion would attract an
interest rate of 8% and, therefore, the financial liability is calculated as:

Cash flow
Year end Discount rate Rs. in million
(Rs. in million)
31 March 2024 150 1/1.08 138.9
(2,500 × 6%)
31 March 2025 150 1/1.082 128.6
31 March 2026 150 1/1.083 119.1
31 March 2027 2,650 1/1.084 1,947.8
(2,500 + 150)
2,334.4

The equity element of the convertible loan is therefore Rs. 165.6 million (Rs. 2,500m
– Rs. 2,334.4m).

Transaction costs of Rs. 50 million were incurred and these were incorrectly
recognised in profit or loss. These should have been allocated between the liability
and equity elements of the convertible loan to reduce their initial measurement.
Allocation is in proportion to the allocation of proceeds between the elements:

Liability Rs. 50m × 2,334.4/2,500 = Rs. 46.7m

Equity Rs. 50m × 165.6/2,500 = Rs. 3.3m

Therefore, the liability should have been recognised on 1 April 2023 at

Rs. 2,287.7 million (2,334.4 – 46.7) and the equity element at Rs. 162.3 million
(165.6 – 3.3).

Subsequently, the equity element continues to be measured at Rs. 162.3 million

throughout the term of the convertible loan. The liability element should be
accounted for at amortised cost, using the effective interest rate of 8.6%.

Interest to the year end of 30 September 2023 is calculated as:

Rs. 2,287.7 × 8.6% × 6/12 months = Rs. 98.4 million

This is recognised as a finance cost in profit or loss. As there is no payment of interest

until September 2023, it also accrues to the liability, giving a carrying amount at
30 September 2023 of Rs. 2,386.1 million (2,287.7 + 98.4).

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

The journal to correct the draft financial statements is (Rs. 'm):

Debit Credit
------- Rs. in million -------
Finance costs (98.4 – 50) 48.4
Convertible loan (2,500 – 2,386.1) 113.9
Equity 162.3
(To reallocate convertible loan proceeds to equity and recognised interest to the year-end)

Acquisition of BAL
An adjustment is required to eliminate the cash cost of the investment against the
share capital and reserves of BAL, because these should not be included in the
consolidated amounts, and to recognise goodwill and the non-controlling interest.
The non-controlling interest is measured at fair value as permitted by IFRS 3 Business
Combinations and represents the 25% of BAL not owned by RIL.

Goodwill is calculated as:

Rs. in million
Cash consideration 1,280.0
Share-for-share exchange (W-1) 1,687.5
Share option consideration (W-2) 165.0
3,132.5
Non-controlling interest (25% × 10m × Rs. 404) 1,010.0
FV of identifiable net assets of BAL: 100+250+3450 (3,800.0)
Goodwill 342.5

Consideration for a business combination should be measured at fair value. This

includes cash consideration as well as any other forms of consideration. If the
acquiring company issues shares in a share-for-share exchange, they are measured at
the fair value of the newly issued shares at the acquisition date.

Where an acquiring company replaces share options that have already been awarded
to the employees of the acquiree, there is an extra element of consideration. This is
equal to the fair value of the share award that relates to the pre-acquisition period.
This reflects the fact that the acquiree must provide future benefit to employees for
service provided in the past.

Before the acquisition journal to recognise goodwill is processed, the two elements
of consideration that have not been accounted for by RIL should be recognised by
(Rs. 'm):
Debit Credit
------- Rs. in million -------
Investment in BAL (1,687.5 + 165) 1,852.50
Share capital 18.75
Share premium 1,668.75
Share option reserve 165.00
(To recognise consideration for the acquisition of BAL)

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

Goodwill is then recognised by: Debit Credit

------- Rs. in million -------
Goodwill 342.5
Share capital 100.0
Other components of equity 250.0
Retained earnings 3,450.0
Investment in BAL 3,132.5
Non-controlling interest 1,010.0
(To recognise goodwill and the non-controlling interest and eliminate the investment in
BAL and acquisition date share capital and reserves of BAL)

Workings
W-1: Share-for-share exchange Rs. in million
Shares issued: (75% × 10m)/4 × Rs. 900 1,687.50
Classified as:
Share capital: (75% × 10m)/4 × Rs. 10 18.75
Share premium: (balance) 1,668.75

W-2: Share option consideration

Fair value of original share option scheme Rs. 247.50 m
Total vesting period 3 years
Pre-acquisition vesting period 2 years
Consideration (2/3 yrs × 247.5) Rs. 165.00 m

Impairment
GT78 is a cash-generating unit however, before applying the requirements of IAS 36
Impairment of Assets to the division as a whole, any individually impaired assets should
be considered. A machine with a carrying amount of Rs. 300 million is damaged
beyond repair and should therefore be impaired in full by (Rs. 'm):

Debit Credit
------- Rs. in million -------
Impairment loss (P/L) 300
Property, plant and equipment 300
(To impair the damaged machine in full)

The revised carrying amount of the division after this impairment is Rs. 3,500 million
(Rs. 3,800m – Rs. 300m).

In order to test GT78 for impairment as a cash-generating unit, a proportion of the

carrying amount of the shared property should be allocated to it. Allocation should
be made on a reasonable and consistent basis, and allocation based on the carrying
amount of divisions using the property is appropriate:

GT78 (Rs. 800m × 3,500/(3,500 + 6,750 + 3,750) = Rs. 200m

The carrying amount of the division including this allocation is Rs. 3,700 million
(Rs. 3,500m + Rs. 200m). The recoverable amount of the division is the higher of its
value in use of Rs. 2,950 million and fair value less costs to sell of Rs. 2,970 million
(Rs. 3,300m × 90%). Recoverable amount is therefore Rs. 2,970 million and, since
this is lower than carrying amount, an impairment of Rs. 730 million should be
recognised.

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

This is allocated to the assets of GT78 that are within the scope of IAS 36 as follows:

Before Impairment After

impairment loss impairment
----------------------- Rs. in million -----------------------
Shared property 200.0 47.0 153.0
730 × 200/3,110
PPE (2,760 – 300) 2,460.0 577.4 1,882.6
730 × 2,460/3,110
Intangible assets 450.0 105.6 344.4
730 × 450/3,110
3,110.0 730.0 2,380.0

The impairment loss in the division is recognised by (Rs. 'm):

Debit Credit
------- Rs. in million -------
Impairment loss (P/L) 730.0
Property, plant and equipment (47 + 577.4) 624.4
Intangible assets 105.6
(To recognise the impairment loss in GT78)

Transfer of property
The property is held to be let to tenants under short-term leases. These leases are
classified as operating leases and, therefore, at the year end, the property meets the
definition of an investment property. A transfer of the property from owner-occupied
to investment property takes place when the definition of an investment property is
met and there is evidence that a change in use has occurred. These conditions are
met on 1 March 2023 when owner occupation ceased.

RIL uses the cost model for property, plant and equipment and the fair value model
for investment property and, therefore, at the date of transfer, the property should
have been remeasured to fair value with the gain recognised as a revaluation surplus
in other comprehensive income, in accordance with IAS 16 Property, Plant and
Equipment. The gain is calculated as:

Rs. in million
Fair value at date of transfer 400.0
Carrying amount at date of transfer
Cost 420.0
Depreciation (420m/50yrs × 9yrs 1/12m) (76.3)
(343.7)
Gain 56.3

Subsequently, the property should not have been depreciated, and therefore
depreciation for the period 1 March 2023 – 30 September 2023 should be reversed.
This is Rs. 4.9 million (7/12 months × 420m/50yrs).

The property should have been remeasured to fair value at the year-end with any
change since initial recognition as investment property recognised in profit or loss. A
gain of Rs. 20 million (420m – 400m) should therefore be recognised.

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

The required correction journal is (Rs. 'm): Debit Credit

------- Rs. in million -------
Investment property (400 + 20) 420.0
Property, plant and equipment (343.7 – 4.9) 338.8
Revaluation surplus (OCI) 56.3
Administrative expenses (depreciation) 4.9
Gain on remeasurement (P/L) 20.0
(To transfer the property to investment property, reverse depreciation and recognise fair
value gains)

(c) Notes for the audit partner

Managers
The key management personnel of a reporting entity or its parent are related to that
entity. Therefore, the key management personnel of RIL are related to the RIL
Group. The key management personnel of subsidiary companies are related to those
individual subsidiaries, however are only related to RIL group if they have influence
at group level.

It is likely that not all senior RIL managers are related parties. Only those managers
that meet the definition of key management personnel are related. For this to be the
case, they must have authority and responsibility for planning, directing and
controlling the activities of the entity. This definition includes directors but may not
include other layers of management.

For those RIL managers that are key management personnel, share-based payments,
short-term employee benefits, post-employment benefits, other long-term benefits
and termination benefits are all categories of compensation that must be disclosed in
the consolidated financial statements.

Lahore Electronics Company

The reporting entity is RIL Group, and the RIL purchasing director is a member of
its key management personnel. A company over which a member of key
management personnel has control or joint control is related to a reporting entity,
however a company over which the member of key management personnel has only
significant influence is not. The RIL Group and LEC are not related, and no
disclosure of the component sales is required.

Lakeside Retail Company

RIL's chief operating officer (COO) is related to the RIL Group by virtue of being a
member of key management personnel. His wife is related to the RIL Group by virtue
of being a close family member of the COO. The fact that LRC is controlled by the
COO's wife therefore means that LRC is related to the RIL Group.

RIL provided management consultancy services to LRC free of charge, however the
fact that no price was charged does not affect the conclusion that this is a related
party transaction. Disclosure is required of the nature of the related party relationship
as well as information about it, including the fact that no price was charged.

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

(d) Audit procedures

Audit procedures Malik Co. should perform to obtain sufficient appropriate evidence
in relation to the disposal of Sacha Limited in the consolidated financial statements
are as follows.
 Agree the sales price to legal documentation pertaining to the sale of Sacha
Limited and that there is no deferred or contingent consideration which will be
received at a future date.
 Agree the sales price has been received by agreeing to RIL's bank statements.
 Confirm that the assets and liabilities of Sacha Limited. have not been included
in the consolidated financial statements for the year ended 30 September 2023.
 Agree the date of the disposal to legal documentation and that revenue,
expenses and profits from Sacha Limited have been included in the
consolidated financial statements up to this date.
 Perform substantive analytical procedures to determine whether profits from
Sacha Limited included in the consolidated financial statements are reasonable.
 Obtain RIL's calculation of profit on disposal of Sacha Limited and reperform
this calculation.
 Read the disclosures included in the consolidated financial statements relating
to the disposal of Sacha Limited to ensure that these are complete, accurate and
meet the requirements of IFRS 5 Non-current Assets Held for Sale and Discontinued
Operations with regard to discontinued operations.

(e) Ethical matters

Finance and accounting IT system

RIL has asked Malik Co. to perform an additional non-assurance engagement to

design and implement a new IT system for finance and accounting. This will not
create a threat to independence for the audit of financial statement of Malik Co. in
the current year. However, the engagement might create a self-review threat in future
years' audits where Malik Co. has designed and implemented a new finance and
accounting IT system which is then reviewed as part of the audit work.

Malik Co. might place too much reliance on an accounting and finance IT system,
which it has designed during audits in future years. It might not apply sufficient
professional scepticism or scrutinise the IT system sufficiently since its objectivity is
compromised. Malik Co. will also be reluctant to disclose any deficiencies in the IT
system if these are discovered in future years' audits as this might reflect unfavourably
on the firm.

Designing and implementing a new system for finance and accounting creates the
threat to Malik Co. assuming a management responsibility which is precluded by the
ICAP Code of Ethics for Chartered Accountants (para. R600.7). Designing and
implementing a new IT system for finance and accounting is related to the internal
controls over financial reporting, and the new system will generate information
forming a significant part of the accounting records or financial statements.

Malik Co. should decline the engagement to design and implement a new IT system
for finance and accounting. No safeguards will mitigate the threats to independence
for audits undertaken in future years. Alternatively, Malik Co. can accept the
engagement but inform that they could not accept any future audits.

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

Malik Co. could suggest reducing the scope of the proposed engagement. The ICAP
Code of Ethics for Chartered Accountants (para. 606.3 A2) states that providing the
following IT systems services to RIL would not usually create a threat as long as
personnel of Malik Co. do not assume a management responsibility:
 Implementing 'off-the-shelf' accounting or financial information reporting
software that was not developed by Malik Co., if the customisation required to
meet the RIL's needs is not significant; or
 Evaluating and making recommendations with respect to an IT system
designed, implemented or operated by another service provider or RIL.

Second opinion
Malik Co. has been asked to provide a second opinion on the application of
accounting standards to specific circumstances or transactions at Jabbar Limited, a
client unrelated to RIL. The ICAP Code of Ethics for Chartered Accountants (para. 321.3
A1) states that a self-interest threat to compliance with the principle of professional
competence and due care, might be created if the second opinion is not based on the
same facts that the existing or predecessor accountant had, or is based on inadequate
evidence.

Malik Co. should evaluate the level of self-interest threat by taking into account the
circumstances of the request and all the other available facts and assumptions
relevant to the expression of a professional judgement.

Examples of actions that might be safeguards to address such a self-interest threat

include:
 With Jabbar Limited's permission, obtaining information from the existing or
predecessor accountant
 Describing the limitations surrounding any opinion in communications with
Jabbar Limited.
 Providing the existing or predecessor accountant with a copy of the opinion

If Jabbar Limited. will not permit Malik Co. to communicate with the existing or
predecessor accountant, Malik Co. shall determine whether it should provide the
second opinion sought.

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

Ans.2 FSG Pharmaceuticals Limited

(a) Investment in SPL

SPL is an associate of FSG due to 35% shareholding. Investment in SPL should be
accounted for using equity method in FSG’s consolidated financial statements.

The following amounts should be presented in the FSG consolidated financial

statements:

Consolidated statement of financial position Rs. in million

Investment in associate 1,855.7
Foreign exchange reserve (27.7)

Consolidated statement of profit or loss and other

comprehensive income
Profit or loss
Share of profit of associate 245.2
Impairment loss in associate (681.0)
Other comprehensive income
Share of OCI of associate 111.2
Exchange loss on translation of a foreign operation (27.7)

The exchange loss arises because the functional and presentation currency of SPL is
the US Dollar, however the group functional and presentation currency is the
Pakistani Rupee. The US Dollar to Rupee exchange rate has changed between the
acquisition date and the year end and, therefore, an exchange difference arises on the
retranslation of amounts that are included in the carrying amount of the investment
in SPL at year end, translated at the closing rate, but which are initially measured
translated at a different rate.

These items are:

 The cost of investment, which is initially translated at the exchange rate on the
acquisition date; and
 The group share of profits for the year, which are translated at average rate for
inclusion in consolidated profit or loss.

IAS 21 requires that an exchange difference arising on the translation of a foreign

operation is presented as other comprehensive income and accumulates in a separate
reserve within consolidated equity. The balance on this reserve is reclassified to profit
or loss on disposal of the foreign operation.

Working: Exchange
US$ '000 Rs. in million
rate
Cost of investment 9,600 230 2,208.0
Share of profits of the year
(35% × $6.2m × 6/12) 1,085 226 245.2
Share of other comprehensive income
(35% × $1.4m) 490 227 111.2
Impairment loss (3,000) 227 (681.0)
1,883.4
Exchange difference (balancing amount) (27.7)
Closing balance 8,175 227 1,855.7

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

(b) FSG consolidated statement of profit or loss and other comprehensive income for
the year ended 30 September 2023
Consol'd
Rs. in million
Revenue (12,200 + 7,910 – 81) 20,029.0
Operating costs (W-1) (15,237.1)
Impairment of associate [part (a)] (681.0)
Share of profit of associate [part (a)] 245.2
Operating profit 4,356.1
Finance costs (130 + 70) (200.0)
Profit before tax 4,156.1
Tax on profits (690 + 440) (1,130.0)
Profit for the year 3,026.1

Other comprehensive income

Items that will not be reclassified to profit or loss
Revaluation surplus (470 + 220) 690.0
Share of other comprehensive income of associate [part (a)] 111.2
Other comprehensive income
Items that may be reclassified subsequently to profit or loss
Exchange difference on translation of foreign operation [part (a)] (27.7)
Total comprehensive income for the year 3,799.6

Profit allocated to:

Owners of FSG 2,877.1
Non-controlling interests (W-4) 149.0
3,026.1
Total comprehensive income allocated to:
Owners of FSG 3,628.6
Non-controlling interests (W-4) 171.0
3,799.6

Workings
W-1: Operating costs Rs. in million
FSG 9,400.0
MPL 5,250.0
Impairment of goodwill (W-2) 270.0
Excess amortisation of research costs (300/10yrs) 30.0
Intercompany sales (81.0)
Unrealised profit (81m × 25% × 40%) 8.1
Correction of error – R&D (W-3) 360.0
15,237.1

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

W-2: Goodwill in MPL Rs. in million

Cost 7,120
NCI 760
FV of identifiable net assets:
Carrying amount 6,310
Goodwill (non-identifiable) (80)
Research costs (identifiable by virtue of being separable) 300
(6,530)
Goodwill 1,350
Impairment loss (20%) 270

W-3: R&D costs at MPL Rs. in million

Write off:
Project Xdel research costs (85m + 40m) 125
Project Zibb development costs before regulatory approval
obtained 180
Plivigor launch costs (marketing costs) 60
Reversal of amortisation of Plivigor launch costs
(60m/10 years × 10/12m) (5)
Net correction 360

W-4: NCI in MPL Rs. in million

Share of profit of MPL (10% × 2,150m) 215
Impairment of goodwill in MPL (10% × 270m) (27)
Excess amortisation of research costs (10% × 30m) (3)
Correction of error – R&D (10% × 360m) (36)
149
Share of OCI of MPL (10% × 220m) 22
171

(c) Ethical matters

Financial interest
Your spouse has recently accepted a role at FSG and is eligible for a bonus, based on
FSG's annual profits. A spouse is an immediate family member as per the ICAP Code
of Ethics for Chartered Accountants. Having a financial interest, or knowing of a
financial interest held by an immediate or close family member, might create a self-
interest threat to compliance with the principle of objectivity. Since you have
influence over the calculation of the profit figure, the value of that bonus might be
directly affected by decisions made by you. You might be tempted to manipulate
information or make decisions that result in a higher profit figure in order that your
spouse receives a higher bonus.

The significance of the threat will be influenced by the significance or materiality of

the bonus to yourself and your spouse. The threat will also be less significant if there
are internal policies requiring you to disclose your interest to those charged with
governance at FSG or internal or external audit procedures specific to addressing
issues that give rise to this financial interest.

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

Conflict of interest
Accepting the job at HP would result in you working for two competitors, which
might create a conflict of interest. A conflict of interest could occur where you acquire
confidential information from one of your employers that might be used by you to
the advantage or disadvantage of the other employers.

The ICAP Code of Ethics for Chartered Accountants requires all chartered accountants in
business to take reasonable steps to identify circumstances that might create a conflict
of interest, including identifying the nature of the relevant interests and relationships
between the parties involved and the activity and its implication for relevant parties
(R 210.5).

Before accepting the role at HP, you should disclose the conflict of interest to both
FSG and HP and also obtain consent to accept the job from both organisations. If
either party does not provide consent, you cannot accept the second job.

If HP and FSG both consent to you accepting the second role, safeguards will need
to be applied to address the threat such as:
 Restructuring or segregating certain responsibilities and duties
 Obtaining appropriate oversight, e.g. acting under the supervision of an
executive or non-executive director

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

Ans.3 Batura Cuisine Limited

(a) Normalised return on capital employed
Normalised operating profit × 100%
Normalised ROCE =
Capital employed

Normalised operating profit: 2022 2023

---------- Rs. in million ----------
Operating profit – F/S 1,807 1,930
Impairment of 'Good4Baby' 70
Impairment of division 140 160
Redundancy costs 130
Profit on disposal (650)
Adjusted profit 1,947 1,640

Capital employed: 2022 2023

---------- Rs. in million ----------
Total assets 6,241 6,550
Deferred tax (140) (160)
Current liabilities (594) (790)
5,507 5,600

Normalised ROCE: 35.4% 29.3%

1,947÷5,507×100% 1,640÷5,600×100%

Analysis of changes
Normalised ROCE has fallen from 35.4% in 2022 to 29.3% in 2023, meaning that
the share options are unlikely to vest based on this year's performance.

The fall in normalised ROCE will be affected by the decision to close a

manufacturing operation and pull out of the baby and toddler food market. Although
direct costs associated with these events and the gain on property disposal are
excluded from 2023's normalised operating profit, there is no adjustment for the
revenue and costs relating to these operations that are included in 2022 profits. The
manufacturing operation made only negligible profits prior to closure, however the
profit made in the baby and toddler food market may have been more significant.

To analyse the change in further detail, it is useful to break down ROCE into asset
turnover and normalised operating profit margin:

2022 2023
Asset turnover 1.93 1.76
10,629÷5,507 9,850÷5,600
Normalised operating profit margin 18.3% 16.6%
1,947÷10,629×100% 1,640÷9,850×100%

This reveals that the fall in ROCE is affected by a fall in asset turnover, together with
a greater fall in normalised operating profit margin.

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

Normalised operating profit margin has fallen due to a variety of factors. BCL has
reduced its selling prices due to increasing competition in the mid-market in which
the company operates. In addition, cost of sales has increased due to supply
shortages, particularly of grain and wheat, and the increasing cost of imported
ingredients due to the depreciation of the Rupee. Cost increases associated with
increasing transport and utility expenses further squeeze the normalised operating
profit margin. It is unclear whether selling prices will be able to increase or costs will
decrease in the future and, therefore, it is difficult to predict how the operating profit
margin will change.

Asset turnover has fallen because:

(i) Revenue has dropped, presumably as a result of the withdrawal from the baby
and toddler food market, closure of manufacturing operations and difficult
trading conditions resulting in a necessary drop in prices; and
(ii) Capital employed has increased, as the company is investing in more efficient
manufacturing technology.

(b) Revaluation policy

Accounting for change in policy

Guidance in IAS 16 applies to a change in accounting policy from use of the cost
model to use of the revaluation model. This requires that the change is accounted for
prospectively, rather than retrospectively as required for other policy changes.

The fair value of the two properties should have been determined at
30 September 2023 and any increase over carrying amount recognised as other
comprehensive income that will not be reclassified to profit or loss.

An additional deferred tax liability arises as a result of a revaluation, and this is

recognised in other comprehensive income.

Fair value measurement

The fair value of a non-financial asset should be measured based on the highest and
best use of that asset, assuming that the use is legally permissible, physically possible
and financially feasible.

It appears that Property A could be converted into residential use, even though BCL
has no intention of doing so. The selling price of the property based on residential
conversion is higher than that based on continuing commercial use and, therefore,
the fair value of the property is determined to be Rs. 2,100 million. IFRS 13 does not
permit fair value to be adjusted for the transaction costs associated with the sale.

Property B is located within a legally established commercial zone and repurposing

of the property for residential use would require a rezoning application, which is
unlikely to be successful. The only legally permissible use is commercial and
therefore the fair value of the property is Rs. 1,750 million.

The fair value of Property A is Rs. 650 million (2,100m – 1,450m) greater than its
carrying amount; the fair value of Property B is Rs. 740 million (1,750m – 1,010m)
greater. The total fair value increase is therefore Rs. 1,390 million. This increase gives
rise to additional deferred tax liability of Rs. 403.1 million (Rs. 1,390m × 29%).

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

Effect on normalised ROCE

As a result of the revaluation in 2023, normalised operating profit is unchanged at
Rs. 1,640 million, and capital employed increases by Rs. 986.9 million (Rs. 1,390m
– Rs. 403.1m) to Rs. 6,586.9 million (Rs. 5,600m + Rs. 986.9m). Normalised ROCE
therefore decreases from 29.3% to 24.9% (Rs. 1,640m/Rs. 6,586.9m × 100).

The revaluation skews normalised ROCE downwards due to the increase in capital
employed. In future years, if property prices continue to rise, the increased
depreciation will reduce profits and further revaluation surpluses will increase capital
employed, meaning that ROCE will become more skewed.

There is a case for the effect of the revaluation being stripped out of profit and capital
employed figures when calculating normalised ROCE for the remainder of the
vesting period, in order that it is calculated on a consistent basis. Failure to do this
may result in the vesting condition not being met solely as a result of a change in
accounting policy.

(c) Quality control issues

Review of audit documentation

Raja Shah, the audit engagement partner responsible for the audit of BCL has
delegated their review of audit documentation to the audit manager. ISA 220 Quality
Control for an Audit of Financial Statements states that 'on or before the date of the
auditor's report, the engagement partner shall, through a review of the audit
documentation and discussion with the engagement team, be satisfied that sufficient
appropriate audit evidence has been obtained to support the conclusions reached and
for the auditor's report to be issued'. If the documentation review is delegated to the
audit manager, then the requirement of ISA 220 is not met.

Raja Shah will personally need to perform a review of the BCL audit documentation
prior to the auditor's report being signed. Being busy is not a valid excuse for this
lapse in audit quality. An inappropriate auditor's report could be signed if insufficient
and inappropriate audit evidence has been obtained.

Independence of audit team

Jinani Khatoon, a member of the audit team, is the daughter of the finance director
of BCL. The ICAP Code of Ethics for Chartered Accountants (R521.5) prohibits an
individual from participating as an audit team member where an immediate family
member is a director of the audit client. The issue should have been identified during
planning stage. It seems that independence forms were not filled by the team.

Jinani Khatoon should be removed from the audit team immediately.

Assignment of audit team

Alina Bux, an audit junior, has been assigned work on revenue, a high-risk area
where they have no prior experience. ISA 220.14 requires the engagement partner to
ensure the engagement team have the appropriate competence and capability to
perform the engagement in accordance with the ISAs.

Alina Bux has expressed a concern that she does not have the competence and
capability to perform the audit of revenue at BCL. The requirements of ISA 220 have
not been met. Ultimately, SB is placing itself at a higher risk of issuing an
inappropriate auditor's report by allocating high-risk work to low-level staff. This
work should be performed by a more experienced team member.

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 Financial Reporting and Assurance Professional Competence
Suggested Answer
Multi Subject Assessments – Winter 2023

(d) Agreed-upon procedures engagement

The matters SBC needs to agree in relation to the terms of agreement for the agreed-
upon procedures engagement will be included in the engagement letter. They can be
found in ISRS 4400 (Revised) Engagements to Perform Agreed-Upon Procedures Regarding
Financial Information, and are as follows:
 Identification of the subject matter(s) on which the agreed-upon procedures will
be performed;
 The purpose of the engagement and the intended users of the agreed-upon
procedures report as identified by the engaging party;
 If applicable, the responsible party as identified by the engaging party, and a
statement that the agreed-upon procedures engagement is performed on the
basis that the responsible party is responsible for the subject matter on which
the agreed-upon procedures are performed;
 Acknowledgement of the relevant ethical requirements with which the
practitioner will comply in conducting the agreed-upon procedures
engagement;
 A statement as to whether the practitioner is required to comply with
independence requirements and, if so, the relevant independence requirements;
 The nature of the agreed-upon procedures engagement, including statements
that:
 An agreed-upon procedures engagement involves the practitioner
performing the procedures agreed with the engaging party (and if
relevant, other parties), and reporting the findings;
 Findings are the factual results of the agreed-upon procedures performed;
and
 An agreed-upon procedures engagement is not an assurance engagement
and accordingly, the practitioner does not express an opinion or an
assurance conclusion;
 Acknowledgement by the engaging party that the agreed-upon procedures are
appropriate for the purpose of the engagement;
 Identification of the addressee of the agreed-upon procedures report;
 The nature, timing and extent of the procedures to be performed, described in
terms that are clear, not misleading and not subject to varying interpretations;
and
 Reference to the expected form and content of the agreed-upon procedures
report.
(THE END)

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