GAAP - Graded Questions - Service

GAAP: Graded Questions
Questions on
International Financial Reporting Standards
2019
Cathrynne Service
B Compt (UNISA), B Compt (Hons) (CTA) (UNISA), CA (SA)
University of Queensland Business School
David Kolitz
B Comm (Natal), B Comm (Hons) (SA), M Com (Wits), SFHEA
University of Exeter Business School
Assistant authors
Steffen Wies
Sohil Singh
Sahil Bhaanprakash
Sian Mudaly
University of KwaZulu-Natal
Assistant authors of previous editions
Seventeenth edition
Steffen Wies, Sian Mudaly, Jyoti Maharaj, Thabiso Mtshali and Farnaaz Shaikjee,
Justin Logie and Kayleigh Greenstone
Sixteenth edition
Dietmar Paul, Jyoti Maharaj, Arson J. Malola, Iman Moosa, Ayanda Ngwenya and Ashleigh Forman
Fifteenth edition
Dietmar Paul, Khaya Sithole., Muhammad Muheeb Buckas, Muhammad Shihaab Buckas,
Sally Grinham, Andile Ngwenya, Farnaaz Shaikjee and Yusuf Seedat
Fourteenth edition
Troy Halliday, Thivesan Govender, Errol Prawlall, Zaheer Bux, Kamantha Vengasamy, Deepika Panday,
Dietmar Paul, Zahra Moorad, Vidhur Sunichur and Yusuf Seedat
Thirteenth edition
Tanweer Ansari, Trixy Cadman, Aphrodite Contogiannis, Zaid Ebrahim, Susan Flack,
Haseena Latif, Daleshan Naidoo, Thabo Ndimande, Dietmar Paul, Kate Purnell, Johannes Rice,
Yusuf Seedat and Khaya Sithole
Twelfth edition
Jade Archer, Trixy Cadman, Albertus Louw, Ayanda Magwaza, Adrian Marcia and Carla Tarin
Eleventh edition
Jade Archer, Prekashnee Brijlall, Susan Flack, Ruan Gertenbach, Fathima Khan, Albertus Louw,
Adrian Marcia, Preshan Moodliar, Khaya Sithole, and Carla Tarin
Tenth edition
Prekashnee Brijlall, Gareth Edwardes, Susan Flack, Ruan Gertenbach, Artur Mierzwa,
Preshan Moodliar, Nabilah Soobedaar and Nikky Valentine
Ninth edition
Steve Carew, Justin Cousins, Jarrod Viljoen and Craig Wallington
Eighth edition
Warren Kemper, Byron Cowie, Alastair Petticrew, Gary Klingbiel,
Catherine Friggens and Shiksha Ramdhin
Seventh edition
Tiffiny Sneedon, Ryan Wheeler, Nick Matulovich and Joel Stuhler
Sixth edition
Warren Maroun, Trixy Cadman, Dhiren Sivjattan, Clive Kingsley,
Tarryn Altshuler and Phillipe Welthagen
Fifth edition
Derek Alston, Praneel Nundkumar, Brian Nichol, Kelly McKinnon, Craig Irwin,
Lara Williams and Pawel Szpak
Fourth edition
Warren Maroun, Maria Kritikos, Lara Williams, Blake Davidson, Neil Graham, Pawel Szpak,
Tanya Mauer and Megan Bovey
Second edition
Richard Currie
First edition
Michael Schwenke, Chris Nicholson, Gavin McAllister, Reshagan Moodley
ii
Questions on
First edition 2002

Second edition 2003
Third edition 2004
Fourth edition 2005
Fifth edition 2006
Sixth edition 2007
Seventh edition 2008
Eighth edition 2009
Ninth edition 2010
Tenth edition: 2011
Eleventh edition: 2012
Twelfth edition 2013
Thirteenth edition 2014
Fourteenth edition 2015
Fifteenth edition 2016
Sixteenth edition 2017
Seventeenth edition 2018
Eighteenth edition 2019
© 2019
ISBN softback 978 0 6390 0120 3

e-book 978 0 6390 0134 0
Copyright subsists in this work. No part of this work may be reproduced in any form or by any means
without the publisher’s written permission. Any unauthorised reproduction of this work will constitute a
copyright infringement and render the doer liable under both civil and criminal law.
Whilst every effort has been made to ensure that the information published in this work is accurate, the
editors, authors, publishers and printers take no responsibility for any loss or damage suffered by any
person as a result of the reliance upon the information contained therein.
Formatting and layout: Roger Sowden, Guy Sowden and Michelle Guy
iii
Dedication and acknowledgements
Dedication
To
Maeve
Tarqui and Guy
To our families, a big thank you for your support and encouragement and for coping with the long
hours expended as well as the many and ongoing crises related to the production of this work.
Acknowledgements
Gordon Adams (University of the Western Cape)

Aarthi Algu, Vanessa Gregory and Kerry-Lee Gurr (University of KwaZulu-Natal)
Súne Diedericks and Suzette Snyders (Nelson Mandela University)
Yusuf Hassan (KPMG Technical)
Yusuf Seedat (PWC Technical)
Bongeka Nodada and Mulala Sadiki (SAICA)
Elna Brelage (LexisNexis)
Thank you for your advice and support.
A big thank you for help with the current edition, and under immense time pressure, involving
many very early mornings and very late nights, goes to our talented team of assistant authors
(see first page) who dedicated an enormous amount of their personal time to the clarification
of the IFRSs for the sake of future students
Thank you also to Roger Sowden and Guy Sowden for burning the midnight oil to ensure that
the formatting and layout were correct.
We hope you enjoy your study of financial accounting and that you find our questions and
solutions helpful in clarifying the explosion of recent accounting standards (both the new and
the improved).
Cathy Service
and
Dave Kolitz
December 2019
iv
Preface
Pedagogical philosophy
This book has been designed to meet the needs of students studying financial accounting at a
second year, third year or intermediate honours level. It can be successfully used with the
accounting textbooks:
• ‘Gripping GAAP’ by CL Service; and
• ‘Gripping Groups’ by CL Service and M Wichlinski.
Changes made for the 2019 (eighteenth) edition
Keeping this book up to date is a never-ending task, dictated by the flow of new standards
and interpretations coming from the International Accounting Standards Board (IASB).
This past year saw the publication of the revised Conceptual Framework for Financial Report-
ing. As a consequence, Chapter 2 has been completely rewritten. Although there are some
significant changes, including, for example, new definitions for assets and liabilities and new
recognition criteria, the IASB has stated that it has not updated the IFRSs for these changes
(other than changing the IFRSs to refer to the updated paragraphs in this new Conceptual
Framework). Instead, it has clarified that, since the now superseded definitions have worked
well in the past, no changes to the IFRSs were considered urgent and that the IFRSs will be
updated over time. However, the IASB emphasized that, if a conflict is found to exist between
the requirements of a pre-existing IFRS and the new Conceptual Framework, we should
always remember that the requirements of the IFRS always over-ride the Conceptual
Framework.
Recent years have also seen some sweeping changes resulting from the relatively new
IFRS 15 Revenue from contracts with customers, IFRS Leases, together with the final and
complete version of IFRS 9 Financial instruments. These standards resulted in the creation of
entirely new questions for Chapter 4 (Revenue), Chapters 16 and 17 (Leases: Lessee
accounting and Leases: Lessor accounting), Chapter 21 (Financial instruments – general
principles) and extensive reworking of Chapter 22 (Financial instruments – hedge accounting)
and many of the other chapters. Further work has been done on these chapters for this
edition.
In addition to the above, we have also updated existing questions for changes from the
annual improvement process, incorporating any new standards or amendments that may
have occurred up to and including 1 December 2018. We have also removed some questions
and added many new questions. The new questions were included to add variety, extend the
range and to enable even more effective grading of the questions. Most of our chapters now
start with a crucial set of core-concept questions.
We are aware of the proposals of the SAICA task group looking at the Financial Reporting
syllabus. We decided not to remove significant sections (such as the revaluation of depreci-
able assets found, for example, in Chapters 8 and 9) or to remove an entire chapter (such as
earnings per share) until more clarity is obtained regarding the practical meaning of per-
vasive, core and awareness knowledge levels and also from the wider market who use our
book. We have, however, re-ordered questions in certain chapters so that ‘awareness level’
material is presented separately and ahead of ‘core level’ material. A number of entirely new
questions dealing with the simpler revaluation of non-depreciable assets have also been
generated (see Chapter 8). Further changes will be made as more clarity is obtained.
v
Features
In ensuring that the book is user-friendly, and to enable both lecturers and students to identify
questions easily, the contents page of each chapter includes the name of the relevant entity and
a detailed description of the key issues in each question. We have started a project that involves
continually reworking these key issues to ensure that they are described in the most succinct yet
useful way.
vi
Preface continued…
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We have a Facebook page, called ‘Accounting

911 by Kolitz and Service’. Go to our page, ‘like’ it Please visit our Facebook page!
and keep yourself up to date with all develop- Accounting 911 by Kolitz and
ments relating to Gripping GAAP, GAAP: Graded Service
Questions and Gripping Groups. We post sum-
maries of various topics to the site, interesting
stories relating to IFRSs and are able to respond
to short questions of principle relating to material from our books.
Assumptions for international students
Since GAAP: Graded Questions has gained international interest, the questions have been
updated to be more country non-specific in terms of tax legislation. In this regard, students
may assume that the business entity is subjected to the following taxes (unless otherwise
indicated):
l A tax on taxable profits at 30% (referred to as income tax); and
l A transaction tax levied at 15% (referred to as VAT or value added tax).
Students may assume that taxable profits are calculated as:
Profit before tax (accounting profits) adjusted for:

• Differences caused by non-taxable income and non-deductible expenses
• Temporary differences (caused by current income that won’t be taxed in the current year
and current expenses that won’t be deductible in the current year).
Students may further assume that where accounting profits include capital profits, the taxable
profit would include only a portion of this capital profit, referred to as a taxable capital gain.
Students may further assume, unless otherwise stated, that this taxable capital gain is calcu-
lated as follows:
• (Proceeds from the sale – Base cost) × 80% inclusion rate
• Unless otherwise stated, students may assume that the base cost equals cost.
Students may also assume that a transaction tax (referred to as VAT) is levied on certain
transactions by business entities that are registered as VAT vendors. VAT vendors are
allowed to claim back from the tax authorities any VAT that they may have paid. Business
entities that are not registered as VAT vendors do not charge VAT on any transactions and
may not claim back from the tax authorities any VAT that they may have paid.
Certain chapters include unavoidable reference to South African legislation. Whilst the prin-
ciples are international, parts of these chapters may possibly not be relevant to some of the
countries using this book. These chapters are:
l Financial reporting environment (Chapter 1)
l Share capital (Chapter 23).
Currency has been denoted by the symbol ‘C’.
vii
Outline
• Chapter 1 provides questions on the environment within which a ‘reporting accountant’
finds himself, including issues related to legislation and the IASB.
• Chapter 2 provides questions on the Conceptual Framework, which reflects the basic
logic underpinning all other IFRSs.
• Chapter 3 provides questions on how financial statements should be presented.
• Chapter 4 is the chapter on revenue, being a critical component of the financial
statements of most entities.
• Chapters 5 and 6 involve questions on taxes. Chapter 5 focuses on current tax while
Chapter 6 focuses on deferred tax. As tax is integral to all topics, the chapters on tax are
included early on in the book.
• Chapters 7–13 provide questions relating to various assets. We start with non-current
assets and proceed to current assets (inventory). Impairment of assets is also included in
this set of chapters, but it is inserted after the chapters covering property, plant and
equipment, intangible assets and investment properties but before non-current assets
held for sale and inventories. This is because the standard on impairments applies to the
former assets but not the latter assets.
• Chapters 14–17 provide questions on borrowing costs, government grants and leases.
These chapters may have an impact on the recognition and measurement of assets and
liabilities. In particular, government grants and borrowing costs have an impact on the
cost of certain assets, for example, property, plant and equipment. For this reason,
although these are covered in two separate chapters, the implications of government
grants and borrowing costs are integrated in other chapters as well.
• Chapters 18–19 provide questions on provisions, contingencies and events after the
reporting period and employee benefits. Both these chapters relate largely (although not
exclusively) to liabilities.
• Chapters 20–24 provide questions covering foreign currency transactions, financial
instruments (general principles and hedge accounting), share capital and, finally, earn-
ings per share.
• Chapter 25 contains questions on fair value measurement and is placed here as it affects
numerous prior chapters.
• Chapter 26 provides questions on the standard covering accounting policies, estimates
and errors. This chapter is placed here since all prior standards can be affected by this
standard. This chapter of questions focuses on the implications involving the standards
on inventory and property, plant and equipment. More complex questions involving other
standards may be found in Appendix B.
• Chapter 27: Questions relating to statements of cash flows are quite distinct from the
principles covered in all prior chapters since it applies the cash concept rather than the
accrual concept and is thus placed near the end of the book.
• Chapter 28: Financial analysis and interpretation is not related to an IFRS and questions
here deal with how the financial statements are analysed by users.
• Chapters 29–31 provide questions on group accounting, starting with the separate finan-
cial statements of a parent and then including two chapters on wholly-owned subsidiaries
and partly-owned subsidiaries.
• Chapters A and Chapter B are our integrated chapters, providing the important skills
required in being able to integrate knowledge over various topics. Chapter A provides
integrated questions on Chapters 1 to 15 and Chapter B provides integrated questions
on Chapters 1 to 27. In other words, the second set of integrated questions (Chapter B)
includes questions on a cumulative basis from the beginning of the book.
viii
Supplements
A detailed set of solutions, in electronic format, is available from the publishers to the relevant
lecturers at those institutions that prescribe this book.
We welcome comments from lecturers, tutors and students to assist us in improving future
editions.
Facebook page: Accounting 911 by Kolitz and Service
Publisher’s webpages www.myacademic.co.za

www.myacademic.mobi
Publisher’s email address: administrator@myacademic.co.za
ix
Contents
1 Financial reporting environment 1
2 Conceptual framework for financial reporting 5
3 Presentation of financial statements 10
4 Revenue from contracts with customers 19
5 Taxation: various types and current income taxation 38
6 Taxation: deferred taxation 47
7 Property, plant and equipment: cost model 67
8 Property, plant and equipment: revaluation model 82
9 Intangible assets and purchased goodwill 97
10 Investment properties 110
11 Impairment of assets 123
12 Non-current assets held for sale and discontinued operations 134
13 Inventories 154
14 Borrowing costs 168
15 Government grants and assistance 179
A Integrated questions: Chapters 1–15 186
16 Leases: lessee accounting 198
17 Leases: lessor accounting 209
18 Provisions, contingencies and events after the reporting period 214
19 Employee benefits 225
20 Foreign currency transactions 234
21 Financial instruments – general principles 240
22 Financial instruments – hedge accounting 261
23 Share capital: Equity instruments and financial liabilities 272
24 Earnings per share 281
25 Fair value measurement 298
26 Accounting policies, changes in accounting estimates and errors 306
27 Statement of cash flows 320
28 Financial analysis and interpretation 330
B Integrated questions: Chapters 1–28 337
29 Separate financial statements of a parent 359
30 Wholly owned subsidiaries 364
31 Partly owned subsidiaries 371
x
GAAP: Graded Questions Financial reporting environment
Chapter 1
Financial reporting environment
Question Key issues
1.1 Short questions Core concepts
1.2 - Meaning of IFRS, standards, interpretations.
1.3 - Compliance with IFRS
1.4 - Convergence and adoption
1.5 - Development of an IFRS standard
1.6 - IFRS Foundation governance

1.7 Doodle / Poodle Par value and no-par value shares / CCs
1.8 BitsyBusiness Differential reporting: IFRSs for SMEs
1.9 Coloured Dots Role of SAICA, APB and FRSC in standard setting
1.10 AccPubs Reporting frameworks in South Africa
Chapter 1 1
Question 1.1
a) In developing accounting standards and interpretations, a discussion paper and exposure
draft is usually issued. Outline the differences between these two documents.
b) Assuming a company is permitted to adopt IFRS for SMEs as its financial reporting
framework, discuss the benefits of using IFRS for SMEs.
c) What basis is used by the IASB in developing accounting principles and practices?
d) Describe the extent to which South Africa adopts IFRS?
e) Plutonic Ltd, a South African company chooses to produce financial statements and its
related disclosure in French. The board of directors as well as investors consist mainly of
individuals who are citizens of France and reside in South Africa. Discuss the legality of
this.
f) “Accounting standards require directors’ remuneration to be adequately disclosed in the
notes to the financial statements.” True or false? Provide a reason for your answer.
g) List the recognised accounting frameworks which companies in South Africa may adopt to
prepare financial statements.
h) Discuss briefly the main difference between King III and the Companies Act, 2008.
i) “The principles of King III should only be applied to large listed companies where
directors’ remuneration is a contentious issue”. True or false? Provide a reason for your
answer.
Question 1.2
The IFRS Foundation is a not-for-profit, public interest organisation established to develop a

single set of high-quality, understandable, enforceable and globally accepted accounting
standards - IFRS Standards - and to promote and facilitate adoption of the standards.
(http://www.ifrs.org/about-us/who-we-are/)
Required:
a) Explain the meaning of the term ‘IFRS’.
b) Explain the meaning of the term ‘standards’.
c) Explain the meaning of the term ‘interpretations’.
Question 1.3
“An entity whose financial statements comply with IFRSs shall make an explicit and
unreserved statement of such compliance in the notes. An entity shall not describe financial
statements as complying with IFRSs unless they comply with all the requirements of IFRSs.”
(IAS 1, paragraph 16)
Required:
a) What does compliance with IFRSs mean?
b) Why would a company comply with IFRS?
c) Briefly describe the extent of compliance with IFRS around the world.
You may wish to access the IASB publication ‘Pocket Guide to IFRS Standards: the global
financial reporting language’ (http://www.ifrs.org/news-and-events/2017/05/3-pocket-guide-to-
ifrs-standards-the-global-financial-reporting-language/)
2 Chapter 1
Question 1.4
One of the objectives of the IFRS Foundation is to promote and facilitate the adoption of IFRS
Standards through the convergence of national accounting standards and IFRS Standards.
(IFRS Constitution, paragraph 2 (d)).
Required:
a) Discuss what is meant by ‘convergence’.
b) Explain the difference between ‘convergence’ and ‘adoption’.
c) Discuss why a country may resist adoption of IFRS.
d) Discuss the position of the United States in relation to adoption and convergence.
Question 1.5
“The due process requirements are built on the principles of transparency, full and fair
consultation - considering the perspectives of those affected by IFRSs globally - and
accountability” (Due Process Handbook, IFRS Foundation, 2016)
Required:
List and describe each of the steps in the development of an IFRS standard.
Your answer should consider the agenda consultation, the research programme, the standard
setting programme and the maintenance programme.
Question 1.6
The IFRS Foundation has a three-tier governance structure, based on an independent

standard-setting Board of experts (International Accounting Standards Board), governed and
overseen by Trustees from around the world (IFRS Foundation Trustees) who in turn are
accountable to a monitoring board of public authorities (IFRS Foundation Monitoring Board).
(http://www.ifrs.org/about-us/our-structure/)
Required:
a) List, and briefly discuss the objectives of the IFRS Foundation.
b) Describe the role of each of the following in standard setting process
x The IFRS Foundation
x The IFRS Foundation Trustees
x The International Accounting Standards Board (IASB)
x The IFRS Interpretations Committee
x The IFRS Foundation Monitoring Board
Question 1.7
Bertie is a first year student assigned to work on two clients, Doodle (Pty) Limited and Poodle
CC, two small entities both owned by Ms Jasmine. On starting work, he sends you, the
manager, an email querying two issues:
x Doodle (Pty) Limited has par value shares in issue. Is this permissible in terms of the
Companies Act?
x Is Poodle CC permitted to exist as a close corporation or should it convert to a company?
Required:
Prepare a response to the two queries.
Chapter 1 3
Question 1.8
S Mallfry is the director of BitsyBusiness Limited. He has been doing some reading into
differential reporting after having become interested in this topic due to the following excerpt
that he found on SAICA’s website regarding the new IFRSs for Small and Medium-sized
Entities (SMEs):
The long awaited final accounting requirements for Small and Medium Entities (SMEs)
has finally arrived.
Following from significant worldwide demand by users, pro-active consultation by
SAICA with South African stakeholders, as well as substantive input by SAICA to the
International Accounting Standards Board (IASBs) process, the IASB published an
International Financial Reporting Standard (IFRS) for SMEs on the 9th July 2009.
This is the first set of international accounting requirements developed specifically for
SMEs.
Required:
S Mallfry is unsure of some of the issues and terminologies that he came across whilst
reading up on this topic and has asked that you provide brief explanations to the following
questions:
a) What is differential reporting and briefly explain its purpose.
b) What was significant with regard to South Africa and the IFRSs for Small and Medium-
sized Entities (SMEs) project?
c) How has the IFRSs for Small and Medium-sized Entities (SMEs) benefited the companies
it applies to and explain the inter-relationship with other IFRSs?
d) What type of entity would an SME refer to?
e) What does public accountability mean?
Question 1.9
Coloured Dots is a small IFRS consulting entity. Management is keen to improve their on-line
exposure and have set up a blog on their website.
The first blog posting is to deal with a brief outline of the role of The South African Institute of
Chartered Accountants (SAICA), the Accounting Practices Board (APB) and the newly formed
Financial Reporting Standards Council (FRSC) in standard setting in South Africa.
Required:
Prepare content for the above blog.
Question 1.10
AccPubs Limited is a publisher of accounting text books. As part of an initiative to promote

the sale of an IFRS text book, the company has decided to develop a series of ‘study cards’
covering various important areas.
You have been asked to develop a study card dealing with the reporting frameworks in South
Africa that are applicable to profit and non-profit companies and close corporations.
Required:
Prepare a list of study points for this card. The study points need to be short, and to the point.
4 Chapter 1
GAAP: Graded Questions The conceptual framework for financial reporting
Chapter 2
The Conceptual Framework for Financial Reporting
Question Key issues

2.1 - Core concepts
2.2 - Objective of financial reporting
2.3 - Usefulness of financial information
2.4 - Financial statements and the reporting entity
2.5 - Asset and liability definitions
2.6 - Recognition criteria
2.7 Crusty Bakery Application of definitions of the elements
2.8 Wheat Application of definitions of the elements and recognition
criteria
2.9 Fauntleroy Qualitative characteristics
2.10 Happy Homes Advertising costs
Chapter 2 5
Question 2.1
Consider the following issues relating to the 2018 Conceptual Framework for Financial
Reporting:
a) What is the purpose the Conceptual Framework?

b) Can the Conceptual Framework overrise the requirements of any IFRS?
c) How does the Conceptual Framework describe the objective of financial reporting?
d) According to the Conceptual Framework, what are the qualities that make financial
information useful?
e) How does the Conceptual Framework describe a reporting entity?
f) How does the Conceptual Framework define an asset and liability?
g) How does the Conceptual Framework define income and expenses?
h) State the recognition criteria of the Conceptual Framework.
i) Describe measurement in terms of the Conceptual Framework and state the
measurement bases
Required:
With reference to The Conceptual Framework for Financial Reporting, provide the answers to
the above questions.
Question 2.2
Chapter 1 of the Conceptual Framework describes the objective of financial reporting, the
information needed to achieve that objective and the users of financial reports.
Required:
Briefly discuss the information needed by users to meet the objective of financial reporting.
Question 2.3
Chapter 2 of the Conceptual Framework clarifies what makes financial information useful, that
is, information must be both relevant and must faithfully represent the substance of financial
information.
Required:
Briefly discuss the significance of prudence, substance over form and measurement
uncertainty on the usefulness of financial information.
Question 2.4
Chapter 3 of the Conceptual Framework describes the objective and scope of financial
statements and provides a description of the reporting entity.
Required:
Briefly describe the scope of financial statements and define a reporting entity, in terms of the
Conceptual Framework.
6 Chapter 2
Question 2.5
The focus of the definition of an asset in the Conceptual Framework is on the existence of a
right that has the potential to produce economic benefits rather than on an expected inflow of
economic benefits.
Similarly, the focus of the definition of a liability in the Conceptual Framework is on the
existence of an obligation to require the transfer of economic benefits, rather than on an
expected outflow of economic benefits.
Required:
Discuss the implications of the existence of a right or obligation on the recognition of an asset
or liability.
Question 2.6
The recognition criteria for the elements of financial statements in the Conceptual Framework
refer explicitly to the qualitative characteristics of useful information.
Required:
Explain what is meant by recognition and discuss in detail the criteria to be met for recognition
of an asset, liability, income and expense.
Question 2.7
The Crusty Bakery is a small business in Umhlanga, a town in South Africa, which makes a
range of breads and cakes that it sells to coffee shops in and around Umhlanga. The
business rents a building in Umhlanga Business Park from a landlord under a short-term
lease at a cost of C20 000 per month.
Part of the building is sublet by The Crusty Bakery to The Coffee Cup, an artisanal coffee
outlet, for C3 000 per month under a short-term lease. Subletting part of the building has
been successful in encouraging customers to come and buy cakes to have with their coffee.
Consider the following four unrelated scenarios relating to The Crusty Bakery rental
agreements during December 20X5:
A-1 Rent of C20 000, owed to the landlord for rent of the building during December 20X5,
was still payable at the end of December 20X5.
A-2 Paid cash of C60 000 at 20 December 20X5 to the landlord in respect of rent for the
building for the period from 1 January 20X6 to 31 March 20X6.
B-1 Rent of C3 000, due from the tenant (The Coffee Cup) for rent of part of the building
during December 20X5, was still receivable at the end of December 20X5.
B-2 Received cash of C9 000 at the end of December 20X5 from The Coffee Cup in
respect of rent for the sub-lease of part of the building from 1 January 20X6 to
31 March 20X6.
Required:
For each of the scenarios listed above, and assuming the recognition criteria are met:
a) Indicate the journal entry to be recorded for each transaction.
Chapter 2 7
b) Explain, with reference to the relevant definitions in the Conceptual Framework, whether
the transaction results in an asset, liability, income or expense being recognised in the
financial statements of The Crusty Bakery for the year ended 31 December 20X5.
Question 2.8
Wheat Limited is a diversified company listed on the JSE. The financial reporting team is
preparing the financial statements for the year ended 31 August 20X7.
The following issues need to be considered:

1. The accounts receivable on the trial balance at 31 August amount to C50 million.
Included in this balance is an amount of C5 million owed by Regal Airways, which was
declared bankrupt in the early hours of the morning of 30 August 20X7.
2. The company has incurred costs of C2 million for staff training during the year ended
31 August 20X7. The HR director believes that Wheat plc will benefit from this training for
the next three years and suggests that the amount be capitalised and amortised over
three years.
3. Wheat plc entered into a contract with Jumbo Equipment Limited on 1 March 20X7 to
lease equipment (as a lessee) for a period of five years. The cash price and fair value of
the equipment is C3 million. Ownership of the equipment remains with Jumbo Equipment
Limited.
4. On 1 July 20X7, a visitor to Wheat Limited’s office park slipped and injured herself on the
pathway and is suing the company for damages amounting to C500 000. Wheat Limited
has taken legal advice and is disputing the claim.
Required
Discuss the impact of each issue on the financial statements of Wheat plc for the year ended
31 August 20X7.
You must refer to the Conceptual Framework’s definitions and recognition criteria of the
elements of the financial statements.
Question 2.9
The accountant of Fauntleroy Limited is preparing financial statements for the current year
end but is struggling to establish which information is more important. He has a short list of
questions which need to be solved:
a) In preparing the description of a very complex transaction he has two options:

i) to use information from a close friend who holds shares in the company: the
information prepared by his friend is somewhat biased but is very clear and concise; or
ii) to use the information prepared by an independent analyst: this information is
complex to the average person.
Which piece of information is more appropriate for use in the financial statements?
b) A transaction took place during the year which is capable of impacting the economic
decisions of the users, both currently and potentially in the future. The exact details of the
transaction are still not available but are likely to be finalised half way through the next
financial year. Should the information, in its current state, be included in the current
financial statements?
8 Chapter 2
c) Two transactions took place in the year which met the definition and recognition criteria of
an expense. The transactions did, however, have a distinct difference which is highlighted
below:
i) Transaction one resulted in the decrease of the bank account, an asset; and
ii) Transaction two resulted in a loan liability being created
As the accountant was confused with the conceptual treatment of the transactions, he
examined another set of financial statements, showing non-compliance with IFRS, which
treated transaction one as an expense but transaction two as the issue of equity
preference shares. The accountant has therefore decided to follow this treatment but is
concerned it is not correct. Do you agree with the treatment?
Required:
Provide an answer, based on the Conceptual Framework, to each of the accountant’s

questions.
Question 2.10
Happy Homes Limited is a new real estate agency that specialises in finding holiday homes
for the upper middle class market. As part of its aggressive product development strategy, a
decision has been taken by the management team of the company to open a new office in
Ballito.
In order to gain market share in Ballito and achieve a strong opening, the company decided to
engage the services of renowned advertising firm Sand & Sea Inc. On 31 August 20X5 the
company paid C550 000 to Sand & Sea Inc. for the design and printing of advertising
brochures to be distributed to homes in Johannesburg and Pretoria. The brochures were
delivered on the same day. The brochures will be distributed from 1 November 20X5 until 28
February 20X6, at which point they will have distributed all the brochures.
In addition, Happy Homes Limited paid C75 000 to Ballito News for advertisements in the
newspaper, to appear during November 20X5. The amount was paid on 25 October 20X5.
Required:
Discuss, in terms of the Conceptual Framework, how these two payments should be
accounted for in the financial statements of Happy Homes Limited for the year ended
31 October 20X5.
Chapter 2 9
GAAP: Graded Questions Presentation of financial statements
Chapter 3
Presentation of financial statements
Question Key issues

3.1 Short Core concepts
questions
3.2 Cathedral Formats for profit reporting
3.3 Ace Consistency of presentation
Accountancy
3.4 Kudu Non-current / current liability distinction, refinancing of loan
3.5 Villa Dividend declared before / after reporting date
3.6 Eskimo Basic financial statements and notes disclosure, analysis of expenses
by function, dividend declared before / after reporting date
3.7 ABC Basic financial statements and notes disclosure, analysis of expenses
by function
3.8 Bath Basic financial statements and notes disclosure, analysis of expenses
by function, revaluation of non-depreciable asset, dividend declared
before / after reporting date
3.9 The Boatyard Basic financial statements and notes disclosure, analysis of expenses
by function, depreciation, dividend declared before / after reporting
date
10 Chapter 3
Question 3.1
‘…IAS 1 Presentation of Financial Statements prescribes the basis for presentation of general
purpose financial statements to ensure comparability both with the entity’s financial
statements of previous periods and with the financial statements of other entities. It sets out
the overall requirements for the presentation of financial statements, guidelines for their
structure and minimum requirements for their content…’ IAS 1.1
Required:
a) State the objective of IAS 1 Presentation of Financial Statements.
b) List the five statements that make up a complete set of financial statements.
c) List six possible components of ‘other comprehensive income’.
d) List the general features of financial statements as outlined in IAS 1 Presentation of
Financial Statements.
e) Fair presentation, which is listed in IAS 1 as a general feature, is the same as ‘faithful
representation’, which is listed in the Conceptual Framework as a fundamental qualitative
characteristic. True / False? Explain.
f) If one wishes to be able to conclude that the financial statements comply with IFRSs,
departure from IFRSs is expressly prohibited. True / False? Explain.
g) It is management’s responsibility to ensure that the entity is a going concern. True /
False? Explain.
h) Explain the difference between the nature method and the function method of disclosing
expenses on the statement of comprehensive income.
Question 3.2
You are the financial manager at Cathedral Limited and a young accountant under your
supervision requires clarification on the preparation of financial statements, particularly in
respect of profit for the year. The accountant is accustomed to a simple ‘income statement’
through his studies and has very little know-how of IFRS.
Required:
Explain to the accountant the options available to Cathedral Limited for reporting of profit
within a complete set of financial statements in accordance with IAS 1 Presentation of
Financial Statements. Provide examples of the various disclosures permitted by IAS 1
Presentation of Financial Statements to the accountant to assist him with his understanding.
Question 3.3
Ace Accountancy is a national tuition provider. As part of their ongoing development of

course material, new notes need to be written on ‘consistency of presentation’, one of the
general features when preparing a set of financial statements.
Required:
Prepare notes explaining:
a) what ‘consistency of presentation’ means in relation to the presentation of financial
statements.
b) why it is important for an entity to retain the presentation and classification of items in the
financial statements from one period to the next.
c) the circumstances under which a change in the presentation of financial statements may be
made.
Chapter 3 11
Question 3.4
The financial director of Kudu Limited is in the process of finalizing the financial statements for
the year ended 31 December 20X2.
Kudu Limited has financed its operations by borrowing funds from three different lenders. All
of the loans are repayable in three annual equal instalments and the first instalment of each
loan is due to be repaid on 30 June 20X3.
The financial director is preparing the financial statements of the company for the year ending
31 December 20X2.
Loan A: A loan of C3 000 000. The existing loan agreement provides the entity with the
option to refinance the first instalment for a further seven months and the entity signs the
agreement on 20 December 20X2.
Loan B: A loan of C1 500 000. The existing loan agreement provides the entity with the
option to refinance the first instalment for a further four months and the entity signs the
agreement on 20 December 20X2.
Loan C: A loan of C750 000. The existing loan agreement provides the entity with the option
to refinance the first instalment for a further seven months and the entity signs the agreement
on 5 January 20X3.
Required
Show how each loan will be classified in the statement of financial position of Kudu Limited at
31 December 20X2 in conformity with International Financial Reporting Standards.
Question 3.5
Villa Limited has an issued ordinary share capital of C500 000, comprising 1 000 000 shares
of no par value.
The directors are deciding when to declare the final dividend for the year and want to know
the implication that this will have on the recognition and disclosure of the dividend. They are
considering two options:
Option A: Declare a dividend of C50 000 on 20 December 20X2, payable on

31 January 20X3.
Option B: Declare a dividend of C50 000 on 5 January 20X3, payable on 31 January 20X3.
Required
Show the disclosure related to the dividend in the financial statements of Villa Limited for the
year ended 31 December 20X2 under each of the two options.
12 Chapter 3
Question 3.6
The following is the trial balance of Eskimo Limited at 31 December 20X8:
ESKIMO LIMITED
TRIAL BALANCE AT 31 DECEMBER 20X8
Debit Credit
Retained earnings (1/1/20X8) 145 000
Non-current liabilities: Loan from AB Bank 25 000
Revaluation surplus (1/1/20X8) 20 000
Ordinary share capital 240 000
Revenue: Sales 580 000
Interest income 12 500
Rent income 23 000
Cost of sales 300 000
Interest on bank overdraft 9 500
General expenses 113 000
Bad debts expense 20 000
Repairs and maintenance expense 30 000
Marketing expense 22 000
Fuel expense 40 000
Depreciation expense 25 000
Salaries 50 000
Investments in listed companies 50 000
Accounts receivable 250 000
Bank 23 000
Current tax payable 12 800
Inventories 120 000
Accounts payable 225 000
Land 200 000
Equipment: Cost 100 000
Equipment: Accumulated depreciation 40 000
Income tax expense 1 800
Dividends 15 000
1 346 300 1 346 300
Additional information:
x Share capital constitutes 120 000 ordinary shares of no par value. 20 000 shares were
issued for C40 000 on the first day of the year.
x The interest and rental income are incidental to main business operations.
x Eskimo Limited classifies expenses according to their function. Management categorise
the functions of the business into the areas of sales, administration and distribution.
- Salaries of C30 000 relate to the administrative function and C20 000 to the
distribution function.
- Depreciation on equipment of C10 000 relates to the administrative function and
C15 000 to the distribution function.
- The bad debts and marketing expenses relate to the administration function.
- The repairs and maintenance and fuel expenses relate to the distribution function.
x Dividends of C15 000 in respect of the year ended 31 December 20X7 were declared and
paid during January 20X8. Dividends of C20 000 in respect of the year ended
31 December 20X8 were declared on 15 January 20X9.
x There are no movements in other comprehensive income.
Required:
a) Prepare the statement of comprehensive income including earnings per share (EPS) of
Eskimo Limited for the financial year ended 31 December 20X8 in accordance with
International Financial Reporting Standards.
b) Prepare the statement of changes in equity of Eskimo Limited for the financial year ended
31 December 20X8 in accordance with International Financial Reporting Standards.
Chapter 3 13
c) Prepare the statement of financial position of Eskimo Limited at 31 December 20X8 in

accordance with International Financial Reporting Standards.
d) Prepare the ‘profit before tax’ and ‘dividends’ notes to the financial statements in
Question 3.7
ABC Limited is a diversified travel company, involved in arranging tours and also publishing
travel guides.
The trial balance at 28 February 20X9 has been presented to you. This trial balance has
been extracted before taking the additional information into account.
ABC LIMITED
TRIAL BALANCE AT 28 FEBRUARY 20X9
Debit Credit
Retained earnings – 1/3/20X8 100 250
Non-current liabilities : Loan from Swift Bank 52 750
Share capital 36 500
Revenue: Sales 600 000
Interest expense 9 500
Salaries and wages 250 000
Revaluation surplus increase 52 500
Depreciation 100 000
Rates 10 000
Electricity and water 25 000
Bank 3 000
Finished goods 72 000
Work-in-progress 36 000
Raw materials 21 000
Electricity prepaid – 1/3/20X8 1 000
Wages payable – 1/3/20X8 2 000
Equipment (Carrying amount) 40 000
Vehicles (Carrying amount) 30 000
Land 130 000
Taxation expense 6 000
1 026 000 1 026 000
x An amount of C500 has been paid towards the next year’s wages.
x Electricity of C2 000 is still payable at 28/2/20X9.
x Salaries and wages are split between administration, distribution and operations on a
30:20:30 basis.
x Rates are allocated between administration, distribution and operations on the basis of
floor area used: the administration department uses 25% of the floor area, the distribution
department 15% and the operations departments the balance.
x Electricity is allocated between the operations and administration such that the operations
departments are allocated three times as much as is allocated to administration.
x Depreciation is made up of depreciation on office equipment (30%) and vehicles (70%).
Operations and administration use office equipment equally. Depreciation on vehicles
constitutes 20% depreciation on directors’ company vehicles, (considered to be another
expense) and 80% delivery vans.
14 Chapter 3
x The land was revalued upwards by C50 000 but the accountant was unsure what to credit
and thus simply credited ‘revaluation surplus increase’. This C50 000 is other
comprehensive income. There are no tax consequences relating to this revaluation
surplus increase.
x There is no movement in OCI during the year other than that which is evident from the
information provided
x Eskimo Limited classifies expenses according to their function.
Required:
a) Prepare the statement of comprehensive income of ABC Limited for the financial year
ended 31 December 20X9 in accordance with International Financial Reporting
Standards.
b) Prepare the statement of changes in equity of ABC Limited for the financial year ended 31
December 20X9 in accordance with International Financial Reporting Standards.
c) Prepare the statement of financial position of ABC Limited at 31 December 20X9 in
d) Prepare the following notes to the financial statements in accordance with International
Financial Reporting Standards:
x Profit before tax
x Other comprehensive income
x Inventories
x Trade and other receivables
x Trade and other payables
Question 3.8
Bath Limited is a retailer listed on the JSE Securities Exchange’s AltX Listing. The trial
balance of the company at 28 February 20X6 is shown below:
BATH LIMITED
TRIAL BALANCE AT 28 FEBRUARY 20X6
Debit Credit
Ordinary share capital 4 000 000
Revaluation surplus 160 000
Retained earnings 1 250 000
Dividends 100 000
Land 140 000
Buildings: Cost 8 000 000
Buildings: Accumulated depreciation 1 280 000
Equipment: Cost 500 000
Equipment: Accumulated depreciation 200 000
Long term borrowings 1 100 000
Inventory 258 000
Bank 131 000
Sales 10 500 000
Cost of sales 7 500 000
Depreciation: Buildings 160 000
Depreciation: Equipment 100 000
Salaries and wages 1 212 000
Postage of marketing pamphlets 20 000
Packaging for purposes of safe transport 30 000
Telephone 27 000
Electricity 51 000
18 631 000 18 631 000
Chapter 3 15
The following information is relevant:

x The authorised share capital comprises 10 000 000 ordinary shares of no par value.
1 000 000 shares were issued at C1 on 30 November 20X5.
x The land and buildings are used for the supply of goods and for administration purposes.
The buildings were revalued on 28 February 20X6 to a fair value of C6 720 000. This
represented an increase of C160 000 over the previous carrying amount. This has
already been processed. There are no deferred tax consequences from this revaluation.
x All property, plant and equipment is depreciated using the straight-line method.
x The building is 320 square metres in area, of which 180 square metres are used for the
warehouse (used to store goods prior to despatch) and the remaining 140 square metres
is used as the company head-office.
x The equipment consists of items used in the despatch area and office equipment. The
office equipment accounts for 40% of the depreciation of equipment and the balance
relates to depreciation of the equipment used in the despatch area.
x C570 000 of the salaries and wages relates to the employees hired in the despatch area
and C642 000 relates to employees employed in the head office.
x Postage and packaging for purposes of safe transport relate purely to the despatch area.
x Telephone of C27 000 was incurred during the year. Of this, C15 000 was incurred in the
despatch department and C12 000 was incurred in the head-office.
x Electricity of C51 000 was incurred during the year. Of this, C35 000 was incurred in the
despatch department and C16 000 was incurred in the head-office.
x Dividends of C100 000 were declared on 18 March 20X5 in respect of the year ended
28 February 20X5. Dividends of C150 000 were declared on 15 March 20X6 in respect of
the year ended 28 February 20X6.
x The tax expense for the year has been correctly calculated at C353 220.
Required:
a) Prepare the statement of comprehensive income of Bath Limited for the year ended
28 February 20X6 in conformity with International Financial Reporting Standards.
b) Prepare the statement of changes in equity of Bath Limited for the year ended
28 February 20X6 in conformity with International Financial Reporting Standards.
c) In so far as information is available, prepare the following notes to the financial statements
for the year ended 28 February 20X6 in conformity with International Financial Reporting
Standards.
x Statement of compliance
x Accounting policies for the basis of preparation and property, plant and equipment.
x Profit before tax
x Dividends declared after the reporting date.
16 Chapter 3
Question 3.9
The Boatyard Limited is a distributor of boats that are used by fishermen and recreational
users for ocean and freshwater use. The draft trial balance of the company for the year
ended 31 December 20X6 is as follows:
THE BOATYARD LIMITED

DRAFT TRIAL BALANCE AT 31 DECEMBER 20X6
Debit Credit
Land: Cost 5 000 000
Office equipment: Cost 1 100 000
Office equipment: Accumulated depreciation 550 000
Motor vehicles: Cost 2 000 000
Motor vehicles: Accumulated depreciation 800 000
Inventory 2 225 000
Cash and bank 1 477 500
Borrowings 5 600 000
Sales 9 125 000
Salaries expense 905 000
Marketing expense 100 000
Depreciation: Motor vehicles 400 000
Depreciation: Office equipment 275 000
Repairs and maintenance 30 000
Travel expense 82 500
Other costs 275 000
Dividends declared 125 000
20 427 500 20 427 500
x The ordinary share capital consists of 1 600 000 shares issued at C1.25.
x C500 000 of the borrowings are repayable on 31 July 20X7.
x Boatyard Limited classifies expenses according to their function. Management categorise
- The bad debts, marketing and depreciation on office equipment relate to the
administration function.
- The repairs and maintenance, travel and depreciation on motor vehicles relate to the
- The other costs are all individually not material and relate C162 500 to administration
and C112 500 to distribution.
x The land is being held with the intention of building its own distribution and viewing outlet
thereon, so as to save on renting costs.
x Depreciation on office equipment is recognised on the straight line basis over four years
with no residual value.
x The motor vehicles are all delivery vehicles used to deliver boats to customers.
Depreciation on motor vehicles is recognised on the straight line basis over five years with
no residual value.
x Interest of C20 000 for December 20X6 has not yet been paid and is not yet included in
the draft trial balance.
Chapter 3 17
x An amount of C30 000 of the marketing expense included on the draft trial balance has
been paid in advance in respect of the following period.
x The income tax expense for the current year has been correctly calculated at C162 000
and has not yet been processed or paid.
x The final dividend for the year ended 31 December 20X5 of C125 000 was declared on
18 January 20X5. The final dividend for the year ended 31 December 20X6 of C150 000
was declared on 15 March 20X7. No interim dividends were declared. Ignore the effects
of dividends tax.
x There are no components of other comprehensive income.
x The financial statements have not yet been authorised for issue.
Required:
a) Prepare the statement of comprehensive income of The Boatyard Limited for the year
Standards.
b) Prepare the current assets and current liabilities sections only of the statement of financial
position of The Boatyard Limited at 31 December 20X6 in accordance with International
Financial Reporting Standards.
c) Prepare the statement of changes in equity of The Boatyard Limited or the year ended
d) Prepare the following notes to the financial statements of The Boatyard Limited for the
year ended 31 December 20X6 in accordance with International Financial Reporting
Standards.
x Statement of compliance
x Basis of preparation
x Accounting policies for land, office equipment, motor vehicles, and inventory
x Profit before tax
x Trade and other receivables and payables
x Dividends.
18 Chapter 3
GAAP: Graded Questions Revenue from contracts with customers
Chapter 4
Revenue from contracts with customers
Question Key issues
4.1 Short questions Core concepts:

Part A: Definitions and overview of the process
Part B: Identifying the contract (step 1)
Part C: Determine the transaction price (step 3)
Part D: Allocating the transaction price (step 4)
Part E: Performance obligations (step 5)
4.2 Apple, Oranges, Calculating the transaction price involving:

Lemon, Lime - settlement discounts
- rebates
- financing components
4.3 Multiply TP: involving a settlement discount (settlement discount is forfeited)

PO: satisfied at a point in time
4.4 GoTheDistance Comparison of terms: receivable, contract asset and contract liability
Recognition of the asset: receivable or contract asset
Timing of recognition of revenue and the related asset:
- cancellable contract versus
- non-cancellable contract
4.5 Mars Cancellable contract: variable consideration: discount: granted/not granted

Non-cancellable contract: variable consideration: discount: granted/not granted
4.6 Gold Customer A:

TP: involves variable consideration (rebate)
PO: satisfied over time
Refund liability
Customer B:
TP: involves variable consideration (rebate): Variable consideration
changes
PO: satisfied over time
Refund liability
4.7 Macrobyte Collectability issues and expected credit losses
4.8 Luthor a) Identification of performance obligations

b) 5- step revenue recognition (bill and hold sale: insignificant)
c) Contract modification (bill and hold sale: significant)
4.9 Alphabet Contract involves services over a 3-year period

Part A: Services considered to be three separate POs (no SASPs are
available)
Part B: Services considered to be one single PO (satisfied over time)
Continued on the next page…
Chapter 4 19
Question Key issues continued …
4.10 Boutique Sale of goods involving:

- a service-type warranty,
- an assurance-type warranty and
- a right of return
4.11 Sunflower TP: involves volume rebates, advance payments and arrear payments
4.12 Marleybone TP: allocation of a discounted TP to POs in a bundle
4.13 Fitness Contract involves two fees (joining and membership), a financing benefit and
renewal option
Option to renew provides customer with services similar to original contract
4.14 Mocca Discussion, calculation and journals: Contract definition, identification of

performance obligations and assessment of period of satisfaction.
- Assessment of transaction price with variable consideration and contract
bonus
- Financing component
4.15 New Edition Refund liability, sale with right of return and journals for actual returns
4.16 TeraDrive Identification of performance obligations

Allocation of TP and discount based on stand-alone prices
4.17 Tech-People Advance payment

Allocation of transaction price to multiple performance obligations
4.18 Supasave Customer loyalty programme – over one-year period
4.19 Nu-Kinekor Customer loyalty programme – over two-year period
4.20 BlackRock Multiple performance obligations involving goods and services
4.21 Defender Instalment sale transaction with significant financing component
4.22 Network TV Allocation of discounted TP to multiple performance obligations
4.23 Grincor Construction contract with advance payments
20 Chapter 4
Question 4.1
Part A – Definitions and overview of the process
a) Indicate whether the following statement is true or false and briefly explain your answer:
All revenue is income but not all income is revenue.
b) Indicate whether the following statement is true or false and briefly explain your answer:
IFRS 15 would not apply to a contract in which the related customer does not meet the
definition of a customer per IFRS 15.
c) List the 5 steps involved when recognising and measuring revenue.
d) Indicate whether the following statement is true or false and briefly explain your answer:
A ‘customer’ is defined in IFRS 15 as a party that has contracted with an entity to obtain
goods or services that are an output of the entity’s ordinary activities
e) Fill in the missing words:

A ‘contract’ is defined in IFRS 15 as __________ (2 words) between __________
(4 words) that creates __________ (1 word) rights and obligations.
f) Indicate whether the following statement is true or false and briefly explain your answer.
There is no difference between a contract asset and a receivable.
Part B – Identifying the contract (step 1)
If the definition of a contract is not met, any amounts received from the related customer
may not be recognised as revenue but would be recognised as a contract liability instead.
b) Select the correct words:

Before we may conclude that we have a contract that falls within the scope of IFRS 15,
there are certain criteria that the contract must meet. These criteria include, amongst
others, the requirement that the payment terms be _________ (identifiable/reasonable),
the contract must have _________ (economic/ commercial) substance and the contract
must identify the _________(amount of consideration/ payment terms/ transaction price).
c) Indicate whether the following statement is true or false and briefly explain your answer:
Before we may conclude that we have a contract that falls within the scope of IFRS 15,
one of the criteria that must be met is that it must be probable that the entity will collect
the transaction price.
d) Fill in the missing word/s:

The definition of a ‘performance obligation’ refers to a _________(1 word) to_________
(1 word) to a customer a good or service (or a bundle of goods of services) that is
_________ (1 word) or a series of such goods or services that are _________ (3 words)
and have the same_________ (3 words) to the customer.
e) Fill in the missing word/s:

If the date of transfer of the goods or services is not the same as the settlement date, we
conclude that the contract contains a _________ (2 words).
Part C – Determining the transaction price (step 3)
The transaction price is defined in IFRS 15 as being the portion of the consideration to
which the entity believes it is entitled in exchange for the transfer of goods or services to
the customer.
Chapter 4 21
An entity signs a contract with a customer where the contract price is C300 000 but the
entity estimates, at contract inception, that only 80% thereof will be recovered. The
transaction price is C300 000
c) Fill in the missing words:

The process of constraining an estimate is used when determining the amount of the
_________ (2 words) to be included in the _________ (2 words). The amount that is to be
included must be _________ (1 word) in a way that ensures it is _________ (2 words)
that a ___________(2 words) of ___________(1 word) will not be required when the
________ (1 word) is eventually resolved.
d) Briefly describe the two-step process involved in calculating the amount of the variable
consideration to be included in the transaction price.
e) Indicate whether the following statement is true or false and briefly explain your answer:
The transaction price must always exclude the effects of a financing component.
f) Briefly explain how to calculate how much of a transaction price relates to the financing
component of the contract.
g) Briefly explain how to determine the appropriate discount rate to use when calculating the
cash price of a transaction.
Part D – Allocating the transaction price (step 4)
a) Briefly explain what is meant by the allocation of a transaction price, how this transaction
price is normally allocated (assuming it includes neither a variable consideration nor an
inherent discount) and once allocated, when revenue can be recognised.
b) Briefly explain how to allocate the transaction price to an item which is sold as part of a
bundle but has not been sold on its own before.
c) Briefly explain how to allocate the transaction to an item that has been sold separately
before, but which is now sold as part of a bundle.
Part E – Performance obligations (step 5)
a) Fill in the missing words:

Performance obligations can either be ________ (3 words) or _______ (1 word) at a
______ (1 word) in ______ (1 word), solely depending on when/ how control is passed.
When a performance obligation is satisfied at a point in time, we need to measure the entity’s
‘progress towards complete satisfaction of a performance obligation’.
c) Indicate whether the following statement is true or false. If false, provide the correct
methods and give an example of each:
The cost method and the sales method are the two methods of measuring progress
towards complete satisfaction of a performance obligation.
Required:
Provide brief answers to each of the questions posed above.
22 Chapter 4
Question 4.2
Part A
An entity signs a contract to sell Mr Apple honey for an amount of C100 000. At contract inception
the entity expects that the customer will qualify for an early settlement discount of C10 000.
Required:
a) Calculate the transaction price.
b) Briefly explain your answer.
Part B
An entity signs a contract with Mr Orange to sell him vitamin tablets for an amount of
C100 000 on 1 January 20X1. At contract inception, the entity expects that the customer will
qualify for a rebate (price reduction) of C40 000.
Required:
a) Calculate the transaction price.
b) Briefly explain your answer.
Part C
An entity signs a contract with Mr Lemon to sell him vodka for an amount of C100 000 on
1 January 20X1.
x The terms of the contract require that the goods be transferred to the customer
immediately but require that the customer pay the entity on 30 June 20X1.
x The appropriate discount rate, determined at contract inception, is 10%.
Required:
a) Calculate the transaction price assuming that the effect of the financing is considered to
be insignificant.
b) Calculate the transaction price assuming that the effect of the financing is considered to
be significant.
c) Briefly explain your answer to part (a) and part (b) above.
Part D:
An entity signs a contract with Mr Lime for an amount of C100 000 on 1 January 20X1. The
terms of the contract require that the goods be transferred to the customer immediately but
that the customer pay the entity on 31 December 20X2. The appropriate discount rate,
determined at contract inception, is 10%.
Required:
a) Calculate the transaction price assuming that the effect of the financing is considered to
be insignificant and show the journal entries for the year-ended 30 June 20X1 assuming
that the goods were transferred to the customer on 1 January 20X1.
b) Calculate the transaction price assuming that the effect of the financing is considered to
be significant and show the journal entries for the year-ended 30 June 20X1 assuming
that the goods were transferred to the customer on 1 January 20X1.
c) Briefly explain your answer to part (a) and part (b) above.
Ignore loss allowances.
Chapter 4 23
Question 4.3
This is the first year in which Multiply Limited is applying IFRS 15 Revenue from contracts
with customers and thus its accounting department has requested your advice on how to
account for the following agreement that it entered into on 1 January 20X7:
x Multiply Limited was to deliver 1 000 glass bottles to Rewards Limited
x The contract price was C300 000
x An early settlement discount of C30 000 is available if payment is made before
31 March 20X7.
x The expectation, at contract inception, was that it was likely that Rewards Limited would
qualify for the early settlement discount.
x Delivery date was on 1 March 20X7 (control passed on this date).
x Rewards Limited settled its account on 5 April 20X7.
Required:
Draft a memorandum briefly explaining the accounting treatment of the sale of bottles during
the year ended 30 June 20X7. Support your discussion with calculations and journals.
Question 4.4
On 1 July 20X7, GoTheDistance Limited entered into a contract to supply 50 000 widgets to a
customer. The contract stipulated a selling price of C6 per unit and a due date for payment,
in full, of 15 July 20X7.
GoTheDistance Limited satisfied its performance obligations on 31 July 20X7, but at 31 August
20X7, (its financial year end), it had not yet received any payments from the customer.
Required:
a) Provide the definitions for the terms ‘contract asset’, ‘receivable’ and ‘contract liability’ and
identify the essential difference between each of these terms.
b) List the steps to be followed before revenue may be recognised in terms of
IFRS 15 Revenue from contracts with customers and apply them to the widget contract.
c) Briefly explain how GoTheDistance Limited should account for the information above and
provide the necessary journals. Assume:
i) the contract is cancellable.
ii) the contract is non-cancellable.
Ignore loss allowances
Question 4.5
On 1 July 20X7, Mars Limited entered into a contract (within the scope of IFRS 15) with the
following terms:
x Units: 50 000 bars of chocolates
x Contract price: C4 per chocolate bar
x Delivery date: 1 August 20X7 (the chocolates were delivered on this date)
x Payment due date: 15 July 20X7
At inception of the contract the customer requested a discount of 10%. Though Mars Limited
did not agree to the discount initially, they opened the floor for negotiation. Mars Limited
thought it probable that it would provide the discount. The customer eventually settled their
account on 1 September 20X7.
24 Chapter 4
Required:
a) Prepare all journals relevant to the information provided above, assuming that the
contract is cancellable, if:
i) A decision was made on 1 September to grant the discount.
ii) A decision was made on 1 September to not grant the discount.
b) Using the same information provided above, except that the contract is now non-
cancellable. Prepare all relevant journals if:
i) A decision was made on 1 September to grant the discount.
ii) A decision was made on 1 September to not grant the discount.
Question 4.6
Gold Limited entered into two separate service contracts with two customers, the contracts
are detailed below:
Description Customer A Customer B

Contract inception 1 January 20X6 1 January 20X6
Contract price (at inception) C200 000 C600 000
Rebate (price reduction) C80 000 Various options
Note 1 and 2 Note 3 and 4
Service duration Two-month period Three-month period
Services provided January and February January and February
Amounts paid as at 28 February 20X6 C140 000 -
Note 2
Note 1: Qualification for this rebate depends on customer A providing an environmental

certificate before 28 February 20X6. Gold Limited expected customer A to provide
the certificate in a timely fashion. However, the customer had not presented the
certificate by 28 February 20X6.
Note 2: This payment was received from the customer in part-payment on 5 February 20X6.
Note 3: Gold Limited offered customer B a rebate depending on its BEE rating. To prove this
rating, customer B needs to produce a BEE certificate within a certain period of
time. The prescribed rebates are as follows:
BEE Contribution Rebates (C)

Level 1 240 000
Level 2 180 000
Level 3 and below 0
At contract inception, Gold expected that customer B would provide (in a timely
fashion) a BEE certificate proving a level 1 contribution.
Note 4: Customer B presented the necessary documentation on time. Upon an analysis
thereof, it was determined that customer B was actually a level 2 contributor.
Required:
Show the journals that Gold Limited must process relating to the information presented above
(relating to the transactions with both customers A and B) for the 28 February 20X6 financial
year. Provide an explanation of your journals with specific reference to IFRS 15 Revenue
from contracts with customers
Chapter 4 25
Question 4.7
Macrobyte Limited finalised a cancellable contract with a customer. The contract:

x was signed on 1 February 20X3, and
x required Macrobyte to supply the customer with 550 000 widgets at C1 each.
The customer:
x took delivery (control passed at the same point in time) on 28 February 20X3. On this
date, Macrobyte estimated that the lifetime expected credit losses were equal to 50% of
the transaction price, and that the probability of default was 50%.
x went into provisional liquidation on 15 March 20X3, on which date Macrobyte received a
letter confirming this fact and stating that the customer will be able to pay a maximum of
40% of the transaction price. On this date, Macrobyte estimated that the loss allowance
relating to the receivable would be equal to 60% of the contract price.
x finally made a payment of C165 000, on 5 August 20X3, with the remainder of the
balance due being considered to be unrecoverable.
Required:
Using Macrobyte Limited’s general journal, prepare all journal entries to account for the above
information for the financial year ended 30 September 20X3.
Question 4.8
Luthor Limited manufactures specialised plant and equipment for the military. On
15 October 20X0, Luthor Limited entered into an agreement with Lana Limited to design and
construct a weaponry system, which Lana Limited will be installing on a warship. The
contract price was set at C1 540 000. Below is a summary of events as they unfolded:
x 1 December 20X0 – design phase complete
x 2 January 20X1 – manufacturing complete
x 3 January 20X1 – inspection by machine reveals that the equipment does not meet strict safety
specifications. Luthor Limited commences work to rectify issues identified on the same date.
x 8 January 20X1 – follow-up inspection by Lana Limited reveals that the equipment now
meets the safety specifications. On the same date, Luthor Limited signs the paper work
transferring legal title. All amounts due were settled on this date.
Due to delays in the construction of the weaponry system, Lana Limited requested that Luthor
Limited retain the plant for a few more days as Lana was now working on another part of the
warship with the result that it was now currently inconvenient to take delivery.
x Luthor Limited has agreed to store the system in a secure storage area on its premises.
x This storage area is dedicated to storing complete plant and equipment awaiting
collection by customers.
x Luthor Limited normally charges monthly storage fees of C10 000, but since Lana Limited
is a long-standing and valuable customer, it agreed to waive these fees.
Required:
a) Determine (with appropriate discussion) the number of performance obligations in the
original agreement between Luthor Limited and Lana Limited.
b) Explain, using the 5-step process in IFRS 15, how Luthor Limited should account for this
contract in its financial statements for the year ended 28 February 20X1.
c) Explain how your answer to (b) would change if Lana Limited requested Luthor Limited to
store the plant for a 6-month period ending 30 June 20X1 (i.e. not just for a few days).
26 Chapter 4
Question 4.9
Part A:
On 1 January 20X8, Alphabet signed a contract with a customer agreeing to provide services
over a 3-year period at a contract price of C48 000, payable in advance.
x The estimated costs of providing the annual services are as follows:
Estimated cost (C)
Year 1 12 000
Year 2 18 000
Year 3 27 000
x A reasonable mark-up on cost for all performance obligations is considered to be 20%.

x Assume the following:
All services are performed at year-end.
The effect of any financing benefit is considered to be insignificant.
The three annual services are considered to be three separate performance obligations.
Required:
Prepare the journals that Alphabet should process for the year ended 31 December 20X8 and
31 December 20X9, in order to account for the three-year service contract.
Part B:
Alphabet entered into a contract to provide car maintenance services to another customer.
The maintenance was to be provided over a 3-year period for a fee of C48 000. Each
chronological service has been carefully designed to attend to different aspects of the vehicle
engine as it ages and thus it is imperative that the services are performed timeously and in
the correct sequence. The annual costs involved are summarised below:
Estimated cost (C)
Year 1 12 000
Year 2 18 000
Year 3 27 000
Assume that the effect of any financing benefit are considered to be insignificant.
Required:
a) Determine (with relevant discussions) whether the three annual services are separate
performance obligations.
b) Provide the journals that Alphabet must process for the year ended 31 December 20X8 in
order to account for the three-year maintenance contract referred to above.
Question 4.10
Part A
Boutique Limited, a small retailer, sold an item to a customer:

x The selling price of C75 000 was received on 1 January 20X1, being the same date that
the customer took delivery.
x Boutique received this money in its current account, which bears interest of 3,5% per
annum. The money remained in this account for the entire year.
x This item cost C21 750, measured using a weighted average cost formula.
Chapter 4 27
Boutique sold this item with a 9-month warranty:

x The terms of the warranty are such that in the event that the item is found to be defective,
the item may be returned to Boutique in exchange for C75 000 plus 2% interest. The
warranty expires on 1 October 20X1.
x This is the first time Boutique Limited has entered into a transaction with a warranty, and
thus Boutique has no past experience on which to assess the probability of return.
x The goods had not yet been returned on the date the warranty expired.
Required:
Prepare the journal entries to record this transaction for the year ended 31 December 20X1 in
terms of the relevant International Financial Reporting Standards.
Part B
Use the information provided in Part A except for the information regarding the 9-month
warranty. Instead of the product being sold with a 9-month warranty, it is sold with a 9-month
right of return, details of which are as follows:
x The goods sold may be returned for exchange with any other product or for a full refund.
x As this is the first time Boutique Limited has entered into a transaction with a right of
return, they have no past experience on which to assess the probability of return.
x The right of return expired on 1 October 20X1 without any goods having been returned.
Required:
Part C
Use the information provided in Part A except for the information regarding the 9-month
warranty. Also ignore Part B. Instead of the product being sold with a 9-month warranty or
right of return, the product is sold with a 1-year warranty, that it normally sells separately for
C12 500. In terms of this warranty, if the product becomes defective after its sale, Boutique
will replace it. The warranty expires after 1 year from the date of the transaction.
Required:
Question 4.11
The Sunflower Company sells sunflower bouquets to restaurants in the East London area for
decoration purposes. The company has a large client base and has not experienced any problems
meeting its obligations towards clients. Sunflower Company offers a rebate system to its major
clients, where the unit prices are cheaper if certain annual volumes are achieved, as follows:
x 0 – 250 000 bouquets are sold for C3 per bouquet.
x 250 001 – 499 999 bouquets are sold for C2.88 per bouquet
x 500 000+ bouquets are sold for C2.7 per bouquet.
28 Chapter 4
During June 20X4, there were orders from 3 of Sunflower’s major clients. Mykonos ordered
92 000 bouquets, Trekker’s Grill 49 500 and the Breezy Teahouse 17 250. Their expected
annual orders are 1 112 500, 490 000 and 237 900 bouquets respectively.
Generally, the Sunflower Company invoices its clients as soon as the bouquets are delivered.
However, Breezy Teahouse has paid a consideration of C800 000 in June as they anticipate they
will be making a substantial number of orders during the next few weeks.
Required:
Prepare Sunflower Company’s journal entries for June 20X4.
Question 4.12
Part A
The Marleybone Company, a publishing company, owns many book titles that are sold across the
country. The selling price of each of its titles is based on readily available selling prices.
Its most popular titles, and the related stand-alone selling price for each, are as follows:
x Sports books, which sell for C50 each on average.
x Entertainment books, which sell for C36 each on average.
x E-books, which are not sold on their own.
x Cooking books, which sell for C24 each on average.
x History books, which sell for C28 on average.
In order to boost sales, Marleybone offers two types of bundles: an afternoon braai bundle (i.e.
containing sports and entertainment books) that retails for C78 and the winter bundle (i.e.
containing the cooking and history books) that retails for C42.
At the beginning of the year, the company introduced a third bundle, giving customers the chance
to buy a bundle of all the books titles for C126. This offer, marketed as the new year’s resolutions
bundle, also includes one-month’s access to a variety of e-books. E-books are a new offering by
Marleybone and have not been sold before. The company estimates the cost of providing access
to the e-books online is C6 per reader. A 16% profit mark-up on cost is considered appropriate.
Required:
a) Show how the transaction price for the afternoon braai bundle, the winter bundle and the new
year’s resolutions bundle should be allocated.
b) Briefly explain how the prices of each of the three bundle prices are allocated.
Part B
Use the same information as provided in Part A, together with the following:
During January 20X9, a total of 200 new year’s resolutions bundles were sold, all for cash. All the
items within the bundle, with the exception of the sports books and the e-books, had been posted
to the customers by 31 January 20X9.
x The sports books are only published every 4 months with the next edition due to be published
on 10 April 20X9 and thus the 100 customers who purchased the new year’s resolutions
bundle in January 20X9 will receive their sport books in April 20X9.
x The e-books are provided for a period of two months from the date on which the new year’s
resolutions bundle was purchased. Customers purchased their e-books at various stages
during January. It was estimated that, on average, 60% of the promised access to the e-
books had been provided by 31 January 20X9.
Chapter 4 29
Required:
Prepare the journal entry to account for the receipt from the sale of 100 new year’s resolutions
bundles during the financial year ended 31 January 20X9.
Question 4.13
Fitness Limited began operations in 20X7. The company operates nine gyms around the
country (one in each province). The gyms are specifically designed to meet the fitness needs
of busy women and offer a trademark ‘30-minute workout for women’.
Until recently, the company charged members per workout at C10 a workout. In 20X8, due to
the growing demand, a membership scheme was introduced:
x New members are charged a non-refundable once-off joining fee of C100 and an annual
membership fee of C1 500 per member.
x Both the joining fee and the annual membership fee are paid upfront by members.
x The membership period is from 1 January to 31 December each year.
x The membership fee remains the same regardless of what time of year the member joins.
x In exchange, members get unlimited use of the gym facilities during the period ending
31 December. The cost of providing access to a member is estimated at C720 per annum.
x Members are given the option to renew their contracts for another year. The last day for
paying for renewal of memberships is 31 January. Members who renew by the due date
are able to pay 80% of the membership fees for the year.
Fitness Limited sold 300 memberships countrywide during 20X8 (spread across 9 branches).
It is anticipated that 55% of the members will renew their membership before 31 January and
qualify for the reduced membership fees.
The following amounts were received for the year ended 31 December 20X8:
Joining fees received C30 000
Annual membership fee income C450 000
Income from non-members C200 000
The accountant of Fitness Limited is inexperienced but overconfident and, instead of seeking advice,
has gone ahead and recognised all joining and membership fees as revenue on receipt.
Required:
Discuss, with reasons, the appropriateness of the recognition and measurement of joining
fees and membership fees adopted by Fitness Limited, in terms of IFRS 15 Revenue from
contracts with customers. Your answer should address each of the following:
a) An introduction briefly explaining whether or not the recognition of the receipt of the
joining fees and membership fees as revenue on the date of receipt was correct.
b) Identification of the transaction price together with a brief explanation.
c) Identification of the performance obligation/s in the contract, with a brief explanation.
d) Allocation of the transaction price to the performance obligation/s, with a brief explanation.
e) The journals that will be processed for the years ended 31 December 20X8 and 20X9.
(Source: SAICA QE 2010 paper 1 question 3: Adapted)
30 Chapter 4
Question 4.14
The Mocca Installation Group specialises in industrial installation projects for major clients in
South Africa. During the current financial year, it entered into 2 new contracts with major
clients, details of which are provided overleaf.
Contract A – Hansa Shipping
x Mocca entered into an agreement with Hansa Shipping to install a new factory floor for
C22 400 000 including a performance bonus of 10% of the contract price if the floor is
completed within 2 years.
The terms of the contract stipulate that Hansa Shipping will be required to make monthly
progress payments during the period of construction and that, if it fails to make these
payments on due date, Mocca would be entitled to 100% of the contract price if it
completes the construction
x At contract inception, and after finalising the installation schedule, Mocca believes there
is a 95% chance the installation will be completed on time and that the company will
qualify for the entire bonus amount.
Contract B – Molucca Coffee Merchants
x Mocca sold idle installation equipment in January 20X5 to Molucca Coffee Merchants, a
new start-up company in the beverages sector to help them with the installation of their
own factory plant.
x The equipment had a cash selling price of C2 100 000 but was sold to Molucca for C2 688 000.
Molucca will pay for the equipment in 3 equal instalments at the end of each year.
Required:
a) Discuss whether a ‘contract with a customer’, as defined, exists in Contract A.
b) Identify the performance obligations in Contract A and assess whether they are satisfied
at a point in time or over time. Provide reasons.
c) Identify the performance obligations in Contract B and assess whether they are satisfied
at a point in time or over time. Provide reasons.
d) Indicate the transaction price for each of the contracts, providing reasons where necessary.
Question 4.15
On 1 March 20X6, New Edition Traders sold ‘recorded tapes’ to Dru Hill Limited. The details
of the sale are as follows:
x Consideration: C621 000 (including VAT)
x Value (cost) of tapes: C270 000 (excluding VAT)
x Settlement date: 24 months after delivery of the tapes
x Right of return (for a full refund): up to 90 days after the date of delivery
New Edition estimates that 5% of tapes sold will be returned during the right of return period.
It is expected that the cost to recover the returned stock (including an allowance for loss of
value) is 6% of the original cost of the stock. The appropriate discount rate is an effective 8%
per annum and the VAT rate is 15%. New Edition and Dru Hill are both VAT vendors.
Required:
a) Explain the accounting treatment of the sale with a right of return with reference to
IFRS 15 Revenue from contracts with customers. Your discussion should make specific
reference to the Dru Hill contract and provide the journals.
Chapter 4 31
b) Prepare the journal entries that New Edition Traders would process to account for the
return of the tapes on the assumption that Dru Hill returns:
i. nothing within the 90-day period.
ii. 5% of the goods within the 90-day period.
iii. 3% of the goods within the 90-day period.
iv. 7% of the goods within the 90-day period.
Question 4.16
TeraDrive is a wholesale supplier of computer hard drives. TeraDrive sold some hard drives
to the American branch of an international, blue chip company called SolidState. TeraDrive
and SolidState are long standing business partners and for that reason should SolidState
require hard drives, they are procured exclusively from TeraDrive.
TeraDrive and SolidState entered the following agreement:

x Contract date: 22 December 20X7
x Contract price: C2 million
x Contract obligations:
- supply of hard drives;
- installation of the hard drives at the American branch of SolidState; and
- providing maintenance services for three years whereby TeraDrive will be expected
to provide backup whenever needed.
The three-year maintenance programme is very popular with all TeraDrive customers.
The stand-alone prices of the various contract components were as follows: the hard drives is
C320 000, the installation process is C840 000 and the 3-year maintenance is C1 320 000.
Delivery and installation information:

x The American branch took delivery of the hard-drives on 28 December 20X7 but were
unable to use them until the installation team arrived at their offices to instal them.
x The installation team arrived and completed the installation on 9 January 20X8
The contract price (C1 000 000) was payable by SolidState in instalments as follows:
x half the total contract price (C1 000 000) was to be paid on 28 December 20X7 (this
payment was received on due date);
x the balance of the contract price is due in two equal annual instalments:
one on 31 December 20X8 and
one on 31 December 20X9.
x TeraDrive offers the option to pay in instalments to all its customers.
The contract does not contain a significant financing component.
Required:
a) Define the terms ‘performance obligation’ and ‘distinct’ as described in IFRS 15 Revenue
from contracts with customers.
b) Briefly explain the application of steps 2 to 4 of revenue recognition per IFRS 15 Revenue
from contracts with customers to the SolidState contract.
c) Prepare the journals for TeraDrive for the years ended 31 December 20X7 and 20X8.
32 Chapter 4
Question 4.17
Tech-People Limited (TP) creates customised IT solutions under contract for consumer and
corporate markets. Normal contractual terms require a 35% deposit to be paid on signing of
the contract with the remaining 65% payable on completion thereof. If the contract is
cancelled by either party, TP Limited is entitled to compensation based on its costs incurred
to date plus 20%, which it considers to be a reasonable profit margin.
TP is in the middle of the financial year ending 31 March 20X7. One of the projects TP entered into
entails the creation of customised call-centre software for Mango Limited. The two parties signed the
contract on 1 September 20X6 at a contract price of C1 800 000. TP expects that a discount of
C120 000 will be granted to Mango, but the decision as to whether or not to grant this discount is
entirely up to TP and is a decision that will be made on contract completion.
The customisation of the software involves completing the following six modules:
Module Time Spent Software usability at
(hours) the end of each phase
1: Welcoming of customer and fact finding 84 Unusable
2: Software trouble shooting 84 Unusable
3: User training 84 Unusable
4: Frequently asked questions 140 Unusable
5: Logging of unresolved helpdesk queries 84 Unusable
6: Feedback from call centre to customer 84 Usable
Total hours* 560 -
*The average cost of the programmers is C1 800 per hour.
The customer is unable to ‘go live’ with the software until module 6 has been completed. All
other costs relating to the project are known.
At 31 March 20X7, TP Limited had completed the first 5 modules (using 476 hours). All these
modules, with the exception of module 5, were accepted and signed off by the customer:
module 5 is not yet in line with all the customer’s specifications. TP Limited conceded this and
agreed to re-work this module at no additional cost to Mango Limited.
Required:
a) Determine the number of performance obligations in the contract between Tech-People
Limited and Mango Limited in terms of IFRS 15 Revenue from contracts with customers.
Support your answer with a discussion.
b) Determine, with appropriate discussion, the transaction price of the Mango contract.
c) Prepare the journals showing how the deposit and the revenue from services from the
Mango Limited project should be recognised and measured in the financial records of
Tech-People Limited for the year ended 31 March 20X7.
Question 4.18
Supasave supermarket has recently launched a customer loyalty programme that rewards a
customer with one customer loyalty point for every C10 of purchases. Each point is
redeemable for a C1 discount on any future purchases of Supasave products.
During a reporting period, customers purchase products for C150 000 and earned 15 000
points that are redeemable for future purchases. The consideration is fixed, and the stand-
alone selling price of the purchased products is C150 000. Supasave expects 14 250 points
to be redeemed. The entity estimates a stand-alone selling price of C1 per point (i.e. totalling
C14 250, assuming 14 250 points are redeemed).
Chapter 4 33
Required:
Briefly explain how Supasave should account for the customer loyalty programme and
provide the necessary journal entries to correctly account for the transactions.
Question 4.19
Nu-Kinekor Limited has several movie houses in shopping malls around the country. It
derives its revenue from two sources: the sale of movie tickets, and the sale of popcorn and
sweets from its confectionary counter.
Nu-Kinekor also operates a customer loyalty programme, the terms of which are as follows:
x It grants customers loyalty points when customers spend a specified amount on popcorn
and sweets at the movie house, which can be redeemed for further items at the
confectionary counter.
x The purchases made with points themselves do not generate any loyalty points.
x The points have no expiry date and management has reliably measured the stand-alone
selling price of each loyalty point to be C1.
x One point is awarded for every C10 the customer spends.
During the year ended 31 December 20X8, Nu-Kinekor Limited sold popcorn and sweets for a
total consideration of C1 300 000. The sales of the popcorn and sweets resulted in the award
of 130 000 points.
x The 20X8 management expectations were that a total of 80% of these outstanding loyalty
points would be redeemed (i.e. 20% of the points would never be redeemed).
x At the end of 20X8, 52 000 points had been successfully redeemed by customers.
x In the 20X9 year, management revised its expectations and now expects 90% of all
points arising from the 20X8 sales to be redeemed.
x Actual points earned in 20X8 and successfully redeemed in 20X9: 41 000.
Required:
Provide the journal entries to account for the customer loyalty programme offered by Nu-
Kinekor for the 20X8 and 20X9 financial years.
Question 4.20
The BlackRock Company successfully tendered for a government contract to supply and
maintain air-conditioning units for all state-owned buildings in the city. The terms of the
agreement are as follows:
x The government will place a non-cancellable order for 80 air-conditioning units with
BlackRock on 01 October 20X4.
x BlackRock will acquire each unit from a supplier for C6 600 per unit and deliver them to
the government on 30 December 20X4, supplied at C15 000 per unit. The air-
conditioning units were fitted on 3 January 20X5
x The initial fitment of the unit and the maintenance services for 2 years will be provided
free to the government. The costs of the fitment are currently C900 per unit and the initial
maintenance costs are currently C2 916 per unit per annum. The maintenance costs are
increased at 3% per annum at the end of each year. It is the accepted industry practice
to apply an 18% profit margin on similar services.
x The selling price will be settled in full on 30 June 20X5. No interest will be charged on
the transaction. (Assume the financing component is insignificant).
34 Chapter 4
Required:
a) Discuss, with reference to IFRS 15, how BlackRock Company should calculate and
allocate the transaction price for the contract to supply the air-conditioning units.
b) Prepare the journals to account for the contract with the government in the financial
statements of BlackRock for the year ended 31 December 20X4 and 31 December 20X5.
Question 4.21
Defender Limited entered into a sale of ten armoured vehicles to Blackfoot Limited, a private defence
contractor, at a selling price of C1 400 000 per vehicle.
The normal cash selling price is as follows:

Element Amount Notes
Cash selling price C1 638 000 Based on cost plus a 30% mark-up
Discount applied C238 000 Blackfoot is a regular client
The sale contract was signed on 28 February 20X2, with the agreement that Blackfoot would
incur all transport costs and transport insurance on its own account. This is customary
business practice in the defence industry. Consequently, the vehicles were transported by
train the same day and signed for by a representative of Blackfoot.
In order to facilitate timely payment, Defender provides credit to Blackfoot at a rate of 15% per
year. As such, instalments are anticipated once a year, on 28 February, for 3 years:
x The first instalment is expected on 28 February 20X2, amounting to C2 800 000.
x The second instalment is expected on 28 February 20X3, amounting to C5 600 000.
x The third instalment is expected on 28 February 20X4, amounting to C8 372 000.
Defender Limited uses a perpetual inventory system.
Required:
Prepare Defender Limited’s journal entries for their year ended 31 December 20X2 and 20X3.
Ignore tax and loss allowances.
Question 4.22
The Network TV Company (NTC) is a television network company listed on the JSE. The
company manufactures and sells digital decoders to the Southern African market. Its financial
year ends on 31 December.
The company offers a comprehensive package to its clients that includes the following:
x Satellite dish
x Portable TV decoder
x Network access
x Monthly magazine
The company’s customers have the option of acquiring the different elements within the
package from independent distributors or buying the comprehensive package from NTC
subject to signing a 12-month contract.
Details of the comprehensive package, introduced on 1 November 20X4, are as follows:

x A subscription fee of C800 per month, payable in arrears (’monthly subscription’).
Chapter 4 35
x This monthly subscription fee entitles the customer to the following products:
Contract offering Stand-alone selling price Note Cost price
Satellite dish C1 899 1 C880
Portable TV decoder C765 C412
Access to the satellite network C680 per month 2 Unknown
Monthly TV guide magazine* Unknown 2 C30
Magazine delivery* Free C10 per delivery
* A general mark-up percentage of 20% is applicable.
x Customers are allowed to return satellite dishes for a refund within 60 days of purchase.
The cost of manufacturing a new dish is C880. NTC estimates that 6% of the satellite
dishes are returned with 60 days of purchase. The ability of customers to return satellite
dishes does not constitute a warranty.
x The cost of access to the satellite network is not separately calculated as it forms part of
the general overhead costs.
x An appropriate discount rate is 12% per annum.
x All customers who signed up on 1 November 20X4 took up the arrear subscription offer.
NTC’s accountant correctly identified the following 4 distinct performance obligations: the
satellite dish, TV decoder, access to the network, and the magazine delivered to a customer.
Required:
a) Determine the transaction price for Network TV Company's comprehensive subscription
contracts, show how Network TV Company should allocate this transaction price and
provide an explanation for your answer.
b) Prepare the journal entry in the financial records of Network TV Company for the year
ended 31 December 20X4 to account for the revenue from one single monthly
subscription contract taken up on 1 November 20X4.
All elements of revenue should be journalised separately.
Detailed workings are required.
Ignore the impact of impairment losses.
Question 4.23
You are an IFRS consultant at Consultants Limited, and a client (Grincor) has approached
you with the following problem.
Grincor entered into a contract on 1 February 20X5 with Epsom Properties to construct a set
of high-class apartments in Cape Town. Epsom offered to pay C21 000 000 for their
construction.
The following facts are pertinent to the contract:

x Construction of the apartments began on 1 March 20X5.
x The payment schedule indicates Epsom should make an advance cash payment on
inception of the contract of an amount of 20% of the contract price.
x Epsom must pay 60% of the contract price by making further regular payments throughout the
period of construction.
x On completion of construction, and after the standard of construction has been passed by
the building inspectorate, Epsom should settle the final 20% through issuing 17 500 of its
own equity shares to Grincor.
36 Chapter 4
x Grincor estimated it would take 2 years to complete the construction from the date of the
contract’s inception.
x Payments received by Grincor are non-refundable unless Grincor does not perform in
terms of the contract.
x If Epsom terminates the contract (for reasons other than Grincor not performing as
promised), Grincor would be entitled to retain any progress payments already received,
but they would have no further rights to any compensation from Epsom.
Construction of the apartments took place between 1 March 20X5 and 30 November 20X6.
The work was certified as 30% complete on 30 June 20X5 and 85% on 30 June 20X6.
Although Grincor’s accountant correctly concluded that this contract consisted of a single
performance obligation (to construct the apartments), she was unsure whether the
performance obligation was satisfied over time or at a point in time. More specifically, the
accountant was considering if the contract includes an enforceable right to payment at
30 June 20X5 and 20X6.
Grincor has a 30 June year-end. An appropriate discount rate is 11% per annum and the fair
value of the shares issued by Epsom Properties on completion date was C4 375 000. The
effect of financing is considered to be insignificant.
Required:
a) Discuss whether Grincor Limited has an enforceable right to payment for performance at
30 June 20X5 and 30 June 20X6.
b) Prepare the journal entries that Grincor Limited should process relating to the
construction of the apartments for Epsom Properties for the year ended 30 June 20X5
and 20X6. Assume that the construction of the apartments is a single performance
obligation satisfied over time.
Chapter 4 37
GAAP: Graded Questions Taxation: various types and current income taxation
Chapter 5
Taxation:
Various types and current income taxation
Question Key issues
5.1 - Core concepts
5.2 Bah-Gin VAT, employees’ tax, dividends tax
5.3 Koogi Current tax: taxable profit calculation

Provisional payments, balance on current income tax payable/ receivable
5.4 Raison Discussion: provisional payments
5.5 Puppy Love Current tax (non-temporary difference)

- non-taxable income: dividend income
Dividends tax
5.6 Gennie Current tax: taxable profit: calculation (non-temporary difference)

- non-taxable income: dividend income
- non-deductible expenses: donations
5.7 Big Blue Current tax: taxable profit: calculation: (non-temporary differences)
- non-taxable income: capital profit and dividend income
- non-deductible expenses: fines
Sale of asset above cost: non-depreciable and non-deductible
5.8 Zac Current tax: taxable profit: calculation (non-temporary differences and
temporary differences)
- non-deductible expenses: donations, fines
- non-taxable income: capital profit, dividend income
- temporary differences: depreciation, profit on sale
Sale of asset above cost: depreciable and deductible
5.9 Sak Current tax: over or under-provision and provisional payment refund or top-up
5.10 Plum Current tax: taxable profit: calculation (non-temporary differences)

- non-taxable income: dividend income only
Current tax: under-provisions or overprovisions: calculation
5.11 Gripping Current tax: taxable profit: calculation (non-temporary differences and
temporary differences)
- non-taxable income: capital profit
- temporary differences: depreciation, profit on sale and accruals
Current tax: under-provisions or overprovisions: calculation
Provisional payment system: refunds or top-ups: calculation
5.12 The Tea Current tax: taxable profit: calculation (non-temporary differences and
Party temporary differences):
- non-taxable income: exempt capital gain
- temporary differences: depreciation, impairments, profit on sale, accruals
Sale of asset below cost: depreciable and deductible
38 Chapter 5
Question 5.1
a) In your own words, explain the meaning of income tax.

b) Briefly explain the difference between taxable profit and profit before tax.
c) If a new tax rate is proposed during the year, do we use the currently enacted tax rate or
the proposed new tax rate when calculating the income tax payable on the taxable
profits?
d) Profit before tax is seldom equal to the taxable profit. The difference between these two
profits is sometimes considered to be a temporary difference and sometimes not. Explain
this in your own words and include an example of each.
e) List two items of income that are generally not taxed in terms of income tax.
f) List two items of expense that are generally not deductible in terms of income tax.
g) Show how each of the following is calculated:
h) Capital gain, taxable capital gain and recoupment/ scrapping allowance.
i) Show how each of the following is calculated:
j) Profit on sale, capital profit, non-capital profit and exempt capital profit.
k) Which year-end accruals would cause temporary differences between profit before tax
and taxable profits? Indicate how you would adjust profit before tax for these accruals
when calculating taxable profits.
l) Show the journal entry that you would process to account for the current income tax
estimate for the current year should the entity achieve a taxable profit.
Required:
Provide answers to each of the questions posed above.
Question 5.2
Bah-Gin Limited is registered as a vendor for VAT purposes. The following are extracts from
the asset and liability balances at 28 February 20X9:
x Employees’ tax payable: C6 000 (credit)

x VAT control: C2 000 (debit)
x Bank: C130 000 (debit)
x Property, plant and equipment: Vehicle: Cost: C100 000 and Vehicle: Accumulated
depreciation: C20 000
x Inventories: C80 000
x Accounts receivable: C80 000
x Accounts payable: C20 000.
During March 20X9, Bah-Gin Limited:
x Purchased inventories on credit from Pencil Limited, a non-VAT vendor. The marked
price was C200 000.
x Purchased inventories from Lighter Limited, a VAT vendor. The cash invoice price was
C33 000.
x Sold inventories on credit to High Limited (a non-vendor) with an invoice value of C800.
The cost of the inventories sold was C300.
x Sold inventories invoiced at C12 000 to Low Limited (a VAT vendor). Low Limited paid in
cash. The cost of the inventories sold was C7 000.
x Paid electricity and water of C420 (includes VAT of 14%).
x Paid telephone of C190 (includes VAT of 14%).
Chapter 5 39
x Purchased a single cab truck for C57 000 in cash from a vendor. The truck does not
meet the definition of a ‘motor car’ provided in the VAT legislation and thus the VAT paid
may be claimed back from the tax authorities.
x Purchased a double cab truck for C120 000 in cash from a vendor. The truck meets the
definition of a ‘motor car’ provided in the VAT legislation and thus the VAT paid may not
be claimed back from the tax authorities.
x Paid salaries of C8 000 in cash. Employees’ tax owing to the tax authority as a result
came to C2 000. VAT is not levied on salaries.
x Paid C5 000 employees’ tax during the month.
x A VAT refund of C5 000 was received during the month of March 20X9.
x Dividend income of C12 000 was received during the month. The dividend income is
exempt from both dividends tax and income tax.
x Dividends of C18 000 were declared during the month. Dividends tax is levied at 15% of
the dividend declaration.
VAT of 14% is levied by entities classified as VAT-vendors (the total invoiced price includes
VAT unless otherwise indicated).
There are no components of other comprehensive income.
Required:
a) Journalise the above transactions.

b) In so far as the information is available, prepare an extract from the statement of financial
position at 31 March 20X9, in accordance with international financial reporting standards.
Question 5.3
Part A
The accountant of Koogi Limited makes the following estimates of the taxable profit for the
year ended 31 December 20X8:
x At 30 June 20X8: estimated taxable profit for the year of C40 000
x At 31 December 20X8: estimated taxable profit for the year of C50 000
x At 30 April 20X9 (when preparing the financial statements for the year ended
31 December 20X8): estimated taxable profit for the 20X8 year of C40 000.
Tax on taxable profits is levied at 30%.
Part B
Assume the same information in part A above, with the exception that the estimated taxable
profit at 31 December 20X8 for the purpose of calculating provisional tax amounted to
C30 000.
Part C
Assume the same information in part A above, with the exception that the estimated taxable
profit at 31 December 20X8 for the purpose of calculating provisional tax amounted to
C15 000.
40 Chapter 5
Required:
For each of Part A, B and C:
a) prepare the current tax payable/ receivable ledger account.
b) indicate the amount that would be presented as:
- the income tax expense line item in the statement of comprehensive income for the
year ended 31 December 20X8; and
- the current tax payable/ receivable line item in the statement of financial position as at
31 December 20X8, assuming a zero opening balance at the beginning of the year.
Question 5.4
The following discussion took place between the MD and FD of Raison Limited:
MD: “I see our statement of comprehensive income shows an under-provision for current tax
in respect of last year.”
FD: “Correct.”
MD: “But our statement of financial position at the end of last year showed a current tax
asset.”
FD: “Correct.”
Required:
Explain how the above situation could have arisen and how the under-provision should be
accounted for.
Question 5.5
Puppy Love Limited is an online pet shop store with a difference. Customers can place an
order online for a puppy of their choice, and the company will source puppies to customers’
specifications and conveniently deliver puppies to customers’ desired locations. The
company is well established and has experienced profitable years through aggressive
marketing campaigns at schools and through social media. This has allowed the company to
accumulate retained earnings of C1 550 000 since inception until 1 January 20X8, being the
beginning of the current year.
The majority shareholder of the company, Ms Poodle contributed C2 000 to form the
company a few years ago. The company performed well in the current year, having achieved
a profit before tax of C300 000 and a dividend of C100 000 was declared to Ms Poodle at
year-end.
The income tax rate was 30% and the dividends tax rate was 15%.
There were no temporary or non-temporary differences during 20X8 and no components of

other comprehensive income.
Required:
a) Show the journal entry to record the current income tax and dividend for the year ended
31 December 20X8.
b) Prepare an extract from the statement of comprehensive income of Puppy Love Limited
for the year ended 31 December 20X8.
c) Prepare an extract from the statement of changes in equity of Puppy Love Limited for the
year ended 31 December 20X8.
d) Prepare an extract from the current liabilities section of the statement of financial position
of Puppy Love Limited as at 31 December 20X8.
Chapter 5 41
Question 5.6
Gennie Limited is in its first year of operation and manufactures and sells generators to
hardware stores and retails them online. With the influx of demand for generators in the
country, Gennie Limited achieved a profit before tax for the year ended 28 February 20X5 of
C1 900 000. This profit before tax included dividend income of C100 000 from its investments
in listed companies (exempt from income tax) and donations of C50 000 which are
considered to be non-deductible.
The income tax rate was 30%.
There were no temporary differences during 20X5 and no components of other

comprehensive income.
Required:
a) Prepare the current income tax computation for the year ended 28 February 20X5.
b) Show the journal entry to record the current income tax for the year ended
28 February 20X5.
c) Prepare an extract from the statement of comprehensive income of Gennie Limited for the
year ended 28 February 20X5.
d) Prepare an extract from the statement of financial position of Gennie Limited at
28 February 20X5.
e) Prepare the income tax expense note (including the tax rate reconciliation) of
Gennie Limited for the year ended 28 February 20X5.
Question 5.7
The following information has been provided in respect of Big Blue Limited, a company that
began operations in 20X2:
x Profit before tax in 20X3 amounts to C300 000 (20X2: C290 000).
x The income tax expense in the statement of comprehensive income for 20X3 is C83 650
(20X2: C87 000).
x The balance owing to the tax authority for current tax per the statement of financial
position at 31 December 20X2 was C5 000.
x The income tax on the taxable profit for 20X2, according to the official assessment that
arrived during 20X3, amounted to C85 900.
x The payments made to the tax authority during 20X3 in respect of income tax amounted
to a total of C80 000 (i.e. this includes the provisional payments for 20X3 and any top-up/
refund in respect of 20X2).
x A capital profit of C26 000 arose on the sale of land during 20X3. This profit equals the
capital gain in terms of the tax legislation (no such profits or gains were made in 20X2).
x Dividend income of C5 000 (non-taxable) and a fine of C500 (non-deductible for tax
purposes) arose in 20X3 (neither dividend income nor fines arose in 20X2).
x Dividends of C30 000 were declared during 20X3 (20X2: nil).
x The rate of income tax is 30% on taxable profits.
x The capital gains inclusion rate is 50%. The company has no assessed capital loss
brought forward.
x The income tax rate and the capital gains inclusion rate have both remained unchanged
since 20X2.
x Dividends tax is levied at 15% on dividends declared.
42 Chapter 5
Required:
Prepare, in accordance with the International Financial Reporting Standards, and to the
extent that information is available:
a) all tax-related journals for the year ended 31 December 20X2 and 31 December 20X3.
b) the income tax expense note for inclusion in the financial statements of Big Blue Limited
c) the statement of financial position of Big Blue Limited at 31 December 20X3.
Accounting policy notes are not required.

Comparative figures are required.
Question 5.8
The profit before tax of Zac Limited for the year ended 31 December 20X2 of C500 000
includes the following items:
x Profit of C100 000 on sale of a building. The original cost was C300 000 and its carrying
amount and tax base were both C280 000 on the date of the sale. Both the depreciation
and tax allowance amounted to C10 000 during the current year. The capital gain
calculated in accordance with the tax legislation equalled the capital profit.
x Dividend income of C10 000 (not taxable).
x Donations of C50 000 (not deductible).
x Traffic fines of C30 000 (not deductible).
The applicable tax rate was 30% on taxable profits. The inclusion rate for capital gains made
by companies is 50% and there was no assessed capital loss brought forward. There are no
other differences between accounting profit and taxable profit other than what is evident from
the information provided above.
Required:
a) Calculate the taxable profit and current tax.
b) Show how taxation will be disclosed in the statement of comprehensive income and in the
taxation note for the year ended 31 December 20X2, in accordance with International
c) Determine the capital profit, non-capital profit, capital gain and recoupment or scrapping
allowance if the base cost amounted to C310 000 and the tax base amounted to
C260 000.
Chapter 5 43
Question 5.9
Sak Limited is a company with a financial year ending on 28 February. The following
information relates to the financial years 20X6, 20X7 and 20X8:
20X8 20X7 20X6

C C C
Profit before tax 16 700 15 200 12 000
Current income tax 5 845 5 320 4 200
Tax payments made during the year 5 950 5 000 4 000
The amount of assessed income tax on taxable profit for:
x 20X6 – received during 20X7 financial year 4 600
x Any amounts owing to or by the tax authorities (as a result of the tax authority’s amount of
assessed income tax on taxable profit not equalling the accountant’s estimate) are settled
in the year the assessment is received.
x There was no amount owing to the tax authority in respect of years prior to 20X6.
x Except for the above information, there were no other non-taxable items.
x The tax on taxable profit remained 35% over the three years.
Required:
For each of the financial years in question, prepare journal entries to record the above
transactions, enter the journal entries in the relevant ledger accounts, and show how the
above information would be disclosed in the annual financial statements of Sak Limited.
Question 5.10
The following was extracted from the accounting records of Plum Limited at 31 May 20X6:
C
Profit before tax 115 000 Cr
Dividends paid – 30 November 20X5 15 000 Dr
Current tax payable/ receivable: income tax (constituted purely of provisional tax 43 000 Dr
payments)
x Included in the profit before tax are dividends received of C8 000, operating expenses of
C40 000 and interest paid of C2 000.
x The company declared a final dividend of C10 000 on 31 May 20X6.
x Income tax expense for the year has not yet been calculated. Assume all income (other
than the dividends received) included in profit for the year to be taxable and all expenses
to be deductible. The corporate tax rate is 35% on taxable profits.
x Income tax expense of C25 000 was provided when preparing the financial statements for
the year ended 31 May 20X5. The amount owing to the tax authorities for the 20X5 year
was assessed during 20X6 and amounts to C26 500.
x Ignore the effects of dividends tax.
44 Chapter 5
Required:
a) Prepare all the journals relating to current tax for the year ended 31 May 20X6.
b) Prepare the statement of comprehensive income of Plum Limited for the year ended
31 May 20X6 (starting with the gross profit).
c) Prepare, in as much detail as possible, the statement of financial position of Plum Limited
at 31 May 20X6.
d) Prepare the income tax expense note for inclusion in the financial statements of
Plum Limited for the year ended 31 May 20X6.
Question 5.11
Gripping Limited has provided you with the following extracts of its draft financials for the year
ended 31 December 20X3:
20X1 20X2 20X3

C C C
Profit before tax 300 000 400 000 450 000
Included in the profit before tax is:
- donations to various charities 40 000 0 0
- profit on sale of vehicle (capital profit: 20 000) 50 000 0 0
- depreciation on machine (purchased in 20X2) 0 15 000 15 000
(wear and tear: 25 000 in 20X2 and 25 000 in 20X3)
- profit on sale of this machine (cost price 70 000; base cost 0 0 40 000
75 000)
Income received in advance (closing balance) 20 000 10 000 40 000
Expenses prepaid (closing balance) 30 000 40 000 20 000
The following tax related information has been provided to you:
20X1 20X2 20X3

C C C
Capital gain on sale of vehicle/ machine 15 000 n/a ?
Provisional tax payments (first and second provisional payments) 60 000 70 000 100 000
Tax assessed for 20X1 (per assessment received during 20X2) 94 000
Tax assessed for 20X2 (per assessment received during 20X3) 114 500
x There were no other assets or liabilities other than those mentioned above.
x There were no differences between accounting profit and taxable profit other than those
mentioned above.
x 20X1 is the first year of operations.
x Current income tax is levied at 30% and the inclusion rate for capital gains tax is 50%.
x Gripping Limited did not pay any top-up payments to the tax authorities and nor did it
receive any tax refunds from the tax authorities in 20X1, 20X2 and 20X3.
Required:
Provide all journal entries relating to the current income tax for each of the years ended
31 December 20X1, 20X2 and 20X3.
Ignore deferred tax.
Chapter 5 45
Question 5.12
The Tea Party Limited has a correctly calculated profit before tax of C535 000. The following
lists of balances have been extracted from the statement of comprehensive income for the
year ended 30 June 20X6 and the statement of financial position at that date.
LIST OF BALANCES FROM STATEMENT OF COMPREHENSIVE INCOME

20X6
C
Donation (non-deductible: to a non-registered PBO) 30 000
Donation (deductible: to a registered PBO) 50 000
Depreciation on plant and machinery 190 000
Profit on sale of plant 30 000
Impairment of machinery 20 000
Profit on sale of machine ?
LIST OF BALANCES FROM STATEMENT OF FINANCIAL POSITION

20X6 20X5
C C
Accrued expenses 4 000 11 000
Expense prepaid 17 000 18 000
Income received in advance 5 500 8 900
Current tax payable: income tax ? 11 350
x The profit on sale relates to plant that was sold for C230 000 and had originally cost
C800 000. Total capital allowances claimed to date on the plant are C400 000 (up to and
including the 20X6 financial period).
x An item of machinery (not the item impaired above) was sold during the year. The
depreciation on this machine is included in the C190 000 depreciation above. The capital
profit realised was C120 000. It originally cost C100 000 (also the base cost), had a
carrying amount of C80 000 and a tax base C90 000 on the date of sale.
x Total wear and tear claimable for the year of assessment is C170 000.
x The 20X5 tax assessment reflected an assessed tax on taxable profit of C234 000.
x The first provisional tax payment was made on 31 December 20X5 on an estimated
taxable income of C600 000.
x The second provisional tax payment was made on 30 June 20X6 on an estimated taxable
income of C405 000.
x The C11 350 owing to the tax authorities at the beginning of the year was paid on
1 September 20X5.
x The corporate income tax rate is 30%. Capital gains are taxed at an inclusion rate of 50%.
x There are no differences between accounting profit and taxable profit other than those
evident from the information above.
Required:
a) Calculate the current income tax for the year ended 30 June 20X6.
b) Prepare all the journals relating to current tax for the year ended 30 June 20X6.
46 Chapter 5
GAAP: Graded Questions Taxation: Deferred taxation
Chapter 6
Taxation:
Deferred taxation
Question Key issues
6.1 - Core questions
6.2 Leaf - Current tax: taxable profit: calculation (temporary differences)

- Deferred tax: calculation (PPE, interest income receivable, provision for
warranty costs)
6.3 Blue Cheese - Current tax: taxable profit: calculation (temporary differences)
- Deferred tax: calculation (PPE, rent received in advance, interest income
receivable)
6.4 Eye - Current tax: taxable profit: calculation (temporary differences: PPE only)
- Deferred tax: calculation (PPE)
6.5 Phobie - Current tax: taxable profit: calculation (temporary differences)
6.6 Fish - Current tax: taxable profit: calculation (temporary differences and exempt
income)
- Deferred tax: calculation (PPE, revenue received in advance, expenses
prepaid)
6.7 Sweatshop - Current tax: taxable profit: calculation (temporary differences only)
- Deferred tax: calculation (PPE)
A: No rate change
B: Rate change
6.8 Root - Current tax: taxable profit: calculation (capital profit/ gain and temporary
differences)
- Current tax: underprovisions or overprovisions: calculation
- Deferred tax: calculation (deferred tax opening and closing balance given)
- Sale of asset above cost: depreciable and deductible
6.9 Bean - Current tax: taxable profit: calculation (exempt income and temporary
differences)
- Deferred tax: calculation
(PPE, rent received in advance, rent expense prepaid)
- Sale of asset below cost: depreciable and deductible
- Effect of tax on cash flow from operating activities: disclosure
(Includes loss on sale and recoupment)
6.10 Perfect Body - Current tax: taxable profit: calculation (exempt income, non-deductible
donations, exempt depreciation)
- Deferred tax: calculation (PPE, revenue received in advance, prepaid
expenses )
6.11 Reflection - Current tax: taxable profit / loss: calculation (temporary differences and
exempt income)
- Deferred tax: calculation (PPE and tax loss)
- Deferred tax assets: not recognised
6.12 Stalk - Current tax: taxable profit / loss: calculation (exempt income)
- Deferred tax: calculation (tax loss)
- Deferred tax assets: recognised, not recognised, recognised
Chapter 6 47
Question Key issues
6.13 Disnee - Current tax: taxable profit: calculation (exempt income and temporary
differences)
- Current tax: under/over provisions
- Deferred tax: temporary differences (PPE and prepaid expenses)
- Deferred tax: rate change
- Sale of asset below cost: depreciable and deductible
6.14 Flawless - Current tax: taxable profit: calculation (non-deductible expenses, exempt
income and temporary differences)
prepaid)
- Sale of asset above cost: depreciable and deductible
6.15 Balboa - Current tax: taxable profit: calculation

(exempt income and temporary differences)
prepaid)
- Sale of assets above cost: depreciable and deductible
6.16 Basic - Current tax: taxable loss: calculation (exempt income and temporary
differences)
- Deferred tax: calculation (tax loss)
- Deferred tax: recognised, used, written down
6.17 Jay - Current tax: taxable profit/ loss: calculation (temporary and non-temporary
differences)
- Deferred tax: temporary differences (PPE, research, revenue received in
advance, tax loss)
- Deferred tax asset: recognised
6.18 Gerald’s - Current tax: taxable profit/ loss: calculation (temporary differences)
Gofers - Deferred tax: calculation (PPE, tax loss)
- Deferred tax asset: not recognised, then used
Further questions incorporating this topic with other topics can be found in Chapter A (after
Chapter 15) and in Chapter B (after Chapter 28). Chapters A and B are the Integrated Questions
chapters.
48 Chapter 6
Question 6.1
Answer the following short questions:

a) Define a temporary difference.
b) Define a tax base of an asset.
c) Define a tax base of a liability.
d) Define a taxable temporary difference and give an example of when one might arise.
e) Define a deductible temporary difference and give an example of when one might arise.
f) Define a deferred tax liability.
g) Define a deferred tax asset.
h) Deferred tax liabilities must always be recognised. True/ False?
i) Deferred tax assets must always be recognised. True/ False?
j) The portion of a capital profit that is exempt from tax will cause a temporary difference
and deferred tax. True/ False?
k) The income receivable balance will cause a temporary difference and deferred tax. True/
False?
l) Deferred tax relating to an asset is always measured based on management's intentions
with regard to the future recovery of the asset's carrying amount. True/ False?
m) Explain what tax rates to use when measuring deferred tax balances.
n) The taxable temporary differences at 31 December 20X5 were C100 000 and the taxable
temporary differences at 31 December 20X6 were C120 000. The tax rate is 30% in both
20X5 and 20X6.
Show the journal entry and identify the deferred tax balance in the statement of financial
position.
o) The deductible temporary differences at 31 December 20X5 were C100 000 and the
deductible temporary differences at 31 December 20X6 were C120 000. The tax rate is
30% in 20X5 but a new tax rate of 40% was announced in the Minister of Finance's
budget speech on 15 December 20X6.
Show the journal entry and identify the deferred tax balance in the statement of financial
position.
Question 6.2
The trial balance of Leaf Limited at 31 March 20X5 together with comparative figures at
31 March 20X4 is shown below:
LEAF LIMITED
TRIAL BALANCE AS AT 31 MARCH 20X5
31 March 20X5 31 March 20X4
Dr Cr Dr Cr
Plant and equipment (carrying amount) 200 000 300 000
Interest receivable 40 000 -
Bank 120 000 104 000
Ordinary stated capital 100 000 100 000
Retained earnings 345 000 290 000
Provision for warranty costs 10 000 -
Current tax receivable/payable 95 000 14 000
455 000 455 000 404 000 404 000
Chapter 6 49
x All of the plant and equipment was purchased on 31 March 20X4. Depreciation is
provided on the straight-line basis over a three year period, with no residual value. The
tax authority has allowed a tax deduction for the year ending 31 March 20X5 of C180 000.
x The interest receivable is taxed by the tax authority when the cash is actually received.
x The provision for warranty costs is allowed as a deduction by the tax authority when the
cash is actually paid.
x The profit before tax for the year ended 31 March 20X5 is C500 000.
x The corporate income tax rate is 30%.
All of the accounting entries for the current year have been correctly processed except for the
entries relating to current and deferred taxation.
Required:
a) Prepare a deferred tax computation for Leaf Limited using the balance sheet approach for
the year ended 31 March 20X5.
b) Prepare a current tax computation for Leaf Limited for the year ended 31 March 20X5.
c) Prepare an extract from the statement of comprehensive income of Leaf Limited for the
year ended 31 March 20X5.
d) Prepare the statement of financial position of Leaf Limited as at 31 March 20X5.
Comparative figures are not required.
Question 6.3
The following deferred tax working papers of Blue Cheese Limited have been partially
prepared at 28 February 20X2.
Carrying Tax Temporary Deferred

amount base difference tax
Property, plant &
equipment:
Balance – 28/02/20X1 145 000 115 000
Balance – 28/02/20X2 120 000
Rent received in advance:
Balance – 28/02/20X1 (2 000)
Balance – 28/02/20X2 (5 000)
Interest income receivable:
Balance – 28/02/20X1 0
Balance – 28/02/20X2 20 000
Property, Rent
plant and received in Income
Deferred tax summary equipment advance receivable Total
Balance – 28/02/20X1 ? ? ? ?
Balance – 28/02/20X2 ? ? ? ?
There were no purchases or sales of property, plant and equipment during the year ended
28 February 20X2. The company tax consultant has confirmed the income tax treatment of
the above items for the year ended 28 February 20X2 as follows:
50 Chapter 6
Statement of financial position item Income tax treatment

Rent received in advance Taxable in the year of receipt
Interest income receivable Taxable in year interest is earned
Wear and tear C30 000
The profit before tax is C100 000 and there are no other differences between accounting profit
and taxable profit other than those evident from the information given.
The corporate income tax rate is 30% (levied on taxable profits).
The ‘current tax payable: income tax’ account had a credit balance of C10 000 on
1 March 20X1. No payments were made to the tax authority during the year ended
28 February 20X2.
Required:
a) Complete the deferred tax working paper.

b) Calculate current income tax.
c) Show the related ledger accounts for current tax and deferred tax.
d) Disclose all information possible in the statement of financial position of Blue Cheese
Limited as at 28 February 20X2.
e) Notes are not required.
f) Show the deferred tax note in the financial statements of Blue Cheese Limited for the
year ended 28 February 20X2.
g) For each statement of financial position item on the deferred tax working paper, explain
the conceptual meaning of the carrying amount and tax base, and thereby justify the
resulting temporary difference and deferred tax. In preparing your answer, bear in mind
the following quotation:
x “The objective of this IFRS is to prescribe the accounting treatment for income
taxes. The principal issue in accounting for income taxes is how to account for the
current and future tax consequences of the future recovery (settlement) of the
carrying amount of assets (liabilities) that are recognised in an entity’s statement of
financial position.”
x (IAS 12, Income taxes, Objective)
Question 6.4
At 30 June 20X6 the statement of financial position of Eye Limited included a deferred tax liability
amounting to C11 152. The deferred tax relates to the only item of equipment owned by the
company.
Year ended 30 June

20X8 20X7
Profit before tax 282 000 252 000
Wear and tear allowance 40 000 50 000
Depreciation 48 000 48 000
x The tax base of the equipment at 30 June 20X6 was C356 120.
x The current income tax for the year ended 30 June 20X7 is paid in August 20X7. No other
tax payments were made.
Chapter 6 51

Required:
a) Show the journals relating to depreciation and tax for the years ended 30 June 20X7 and
30 June 20X8.
b) Prepare extracts from the statement of comprehensive income for the year ended 30 June
20X8 in accordance with International Financial Reporting Standards.
c) Prepare extracts from the statement of financial position of Eye Limited at 30 June 20X8 in
d) Prepare extracts from the notes to the financial statements of Eye Limited. Your notes
should include the following:
x Accounting policies for statement of compliance, basis of preparation as well as for
equipment, deferred tax, current tax and income tax expense
x The notes to profit before tax, income tax expense and deferred tax
Question 6.5
Phobie Limited, with no expenses and no income other than rent income, received the
following cash over two years:
x Received in 20X1: rent income of C10 000 in respect of 20X2

x Received in 20X2: rent income of C110 000 in respect of 20X2
The corporate income tax rate has remained constant at 30% over both years.
Required:
a) Calculate profit before tax, as it would appear in the statement of comprehensive income.
b) Calculate the taxable profit and current taxation for both 20X1 and 20X2.
c) Calculate the effective rate of tax over both years (separately and in total) assuming that
only current tax is recognised (no deferred tax is recognised).
d) Show the journal entries relating to tax and year end accruals for 20X1 and 20X2.
e) Show the ledger accounts for 20X1 and 20X2, taking deferred tax into account.
f) Show how the above will be disclosed in the tax expense note.
Question 6.6
Fish Limited is a company operating in the food industry. The following information has been
presented to you:
FISH LIMITED
EXTRACT FROM STATEMENT OF FINANCIAL POSITION
AT 31 DECEMBER 20X3
20X3 20X2
C C
Property, plant and equipment ? 355 000
Expenses prepaid (this is allowed as a deduction for tax purposes in 20X3) 10 000 0
Revenue received in advance (taxable in the year of receipt) 28 000 15 000
x The tax base of the property, plant and equipment balance at 31 December 20X2 was
C290 000.
52 Chapter 6
x During 20X3 depreciation was C35 000 and wear and tear allowed was C25 000. There
was no other movement of property, plant and equipment during 20X3.
x Profit before tax is C300 000.
x Dividend income of C5 000 was earned during 20X3.
x There are no other temporary or non-temporary differences other than those evident from
the information provided.
Required:
a) Calculate the deferred income tax balance at 31 December 20X2 and 31 December 20X3.
Calculate the current income tax for the year ended 31 December 20X3.
b) Journalise the current and deferred income tax adjustments for the year ended
31 December 20X3.
c) Prepare the deferred tax note to the statement of financial position at 31 December 20X3
in accordance with International Financial Reporting Standards.
Question 6.7
The information given below is in respect of Sweatshop Limited, a manufacturing company:
x Sweatshop Limited owned two manufacturing plants: one had been purchased on
1 January 20X1 for C200 000 and the company then built a second plant at a cost of
C500 000. The first plant was put into operation on 1 January 20X1 (the same day of
acquisition), whereas the second plant was completed on 30 June 20X1 but only became
available for use on 1 January 20X2, on which date it was brought into production.
x Depreciation is provided at 20% per annum on the straight-line basis to nil residual
values. The tax authorities grant a wear and tear allowance on the full cost of plant over
four years, apportioned from the date on which it was brought into use.
x The company earned profits before taxation and before depreciation of C200 000 in all
three years.
x The opening balance on the deferred tax account in the statement of financial position
was zero on 1/1/20X1.
x There are no other differences between accounting profit and taxable profit other than those
evident from the information given.
Part A:
The income tax rate remained at 35% for all years affected:
Part B:
The income tax rate 40% in 20X1, 45% in 20X2 and 35% in 20X3.
Required (For both parts A and B):

a) Calculate the current income taxation for the years ending 31 December 20X1, 20X2 and
20X3.
b) Journalise the entries for current tax and deferred tax for each of the years ended
c) Calculate the deferred tax asset/ liability balances and movements using the balance
sheet approach (comparing the carrying amounts and tax base of the machines).
Chapter 6 53
d) Prepare extracts from the statement of comprehensive income for the years ended
31 December 20X1, 20X2 and 20X3 in accordance with International Financial Reporting
Standards.
e) Prepare extracts from the statement of financial position of Sweatshop Limited at
Standards.
f) Prepare the notes to taxation expense and deferred tax of Sweatshop Limited at
Standards.
Accounting policies are not required.
Question 6.8
The following information relates to Root Limited for its financial year ended
31 December 20X6:
x Profit before tax for the year ended 31 December 20X6 has been correctly calculated at
C344 000.
x Included in the profit before tax for the year ended 31 December 20X6 are the following
items, amongst others:
C
Dividend income 200 000
Profit on sale of vehicle 100 000
Depreciation (150 000)
x The following balances have been extracted from the trial balance at 31 December 20X6:
C
Revenue received in advance (31 December 20X5: C10 000) 130 000
Expenses prepaid (31 December 20X5: C15 000) 7 000
x The tax authorities:

- granted a wear and tear allowance of C270 000 as a deduction in 20X6;
- tax revenue received in advance in the year of receipt; and
- allow the expenses prepaid as a deduction for tax purposes in the year in which they
are paid.
x A vehicle was sold during 20X6. On the date of sale, its carrying amount was C700 000,
its tax base was C650 000 and its base cost was C760 000. Its original cost was
C750 000.
x The tax assessment for the 20X5 tax year was received in August 20X6 and showed an
assessed tax on taxable profit amounting to C48 000. The total tax expense as reported
on the 20X5 statement of comprehensive income amounted to C98 000, comprising
current income tax of C52 000 and deferred income tax of C46 000. No journal entries
have yet been processed to take into account any adjustments that may be necessary.
x The deferred tax balance at the beginning of the year is C16 500 (credit) whereas the
deferred tax balance at the end of the year is C900 (debit).
x The income tax rate is 30% and the inclusion rate for purposes of capital gains tax is 50%.
54 Chapter 6
evident from the information given. All amounts are considered material.
Required:
a) Show how the tax expense note is disclosed in the annual financial statements of Root
Limited for the year ended 31 December 20X6 in accordance with International Financial
Reporting Standards.
Comparatives are not required.
b) Prepare an extract from the statement of comprehensive income of Root Limited for the
year ended 31 December 20X6 beginning with the line item ‘profit before tax’.
Notes are not required.
Question 6.9
Bean Limited is a company that assembles, distributes and rents cappuccino and espresso
machines for the burgeoning coffee shop society and the home market. It began operations
on 1 July 20X4 and uses one major item of equipment to assemble its products.
x The company purchased the assembly equipment on 1 July 20X4 at a cost of C900 000.
The equipment is depreciated on the straight line basis over its estimated useful life of ten
years, with no residual value. The tax authority grants an allowance of 20% per annum,
not apportioned for time.
The financial accountant has prepared the following schedule relating to deferred taxation
at 30 June 20X6, before the impairment of the asset:
CA TB TD DT
(X29%)
Equipment
01/07/X4 Cost 900 000 900 000
30/06/X5 Depreciation / tax allowance (90 000) (180 000)
810 000 720 000 90 000 26 100
Preliminary balance 720 000 540 000 180 000 52 200
At 30 June 20X6, there are indications that the equipment is impaired. An impairment test
is performed and the recoverable amount is estimated at C600 000.
The remaining useful life is estimated to be five years with no residual value. The
impairment is recorded correctly in the accounting records.
The equipment was sold on 30 October 20X6 for an amount of C500 000.
x The directors decided to rent equipment rather than buying new equipment. The rent is
payable six monthly in advance and an amount of C270 000 was paid on
1 November 20X6 and on 1 May 20X7. Expenses paid in advance are deductible for tax
purposes when paid.
x Bean Limited receives rental income in advance in relation to coffee machines that it rents
to coffee shops.
Chapter 6 55
Rental income received in advance at 30 June 20X7 amounts to C20 000. There was no
rental income received in advance at 30 June 20X6.
Rental income received in advance is taxed when received.
The financial accountant has prepared the following schedule relating to current taxation:
Year end Year end Year end

30/06/X7 30/06/X6 30/06/X5
Amount provided for current income tax ? ? 135 100
1st and 2nd provisional payments 146 000 142 000 130 000
Balance on current tax payable account ? ? 5 100
Amount of assessed income tax on taxable profit Not yet 162 100 132 200
received
The company paid the balance owing on assessment in December 20X5 (for the year
ended June 20X5) and in December 20X6 (for the year ended June 20X6).
x The profit before taxation of the company has been correctly calculated at C520 000 for
the year ended 30 June 20X6 and at C700 000 for the year ended 30 June 20X7.
x All accounting entries relating to the equipment, the rent paid and the rent received have
been correctly included in the calculation.
x The profit before tax for both years also includes dividend income of C40 000 for 20X6
and C30 000 for 20X7.
x The financial accountant has extracted the following balances relating to the trading
activities:
Year end 30/06/X7 Year end 30/06/X6

Debit Credit Debit Credit
Sales 3 500 000 2 600 000
Accounts receivable 196 000 184 000
Bad debts expense 14 000 9 000
Inventory 240 000 115 000
Accounts payable 174 000 102 000
x The corporate income tax rate for all years is 29%.
Required:
a) Prepare an extract from the statement of comprehensive income of Bean Limited for the
year ended 30 June 20X7.
b) Show how current income tax and deferred income tax would be reported on the
statement of financial position of Bean Limited at 30 June 20X7.
c) Prepare the accounting policies note (incorporating policies for basis of preparation,
deferred tax and equipment) and the taxation note of Bean Limited for the year ended
30 June 20X7.
Comparative figures are required for (a) to (c).
56 Chapter 6
d) Prepare the operating activities section of the statement of cash flows of Bean Limited for
the year ended 30 June 20X7.
Comparative figures are not required for (d).
Question 6.10
Perfect Body Limited is a company that operates a chain of fitness studios in Gauteng. The
statement of financial position of Perfect Body Limited at 31 December 20X6 is as follows:
PERFECT BODY LIMITED

STATEMENT OF FINANCIAL POSITION
AT 31 DECEMBER 20X6
20X6
ASSETS C
Non-current assets
Land at cost 2 964 000
Administration buildings (at carrying amount) 1 920 000
Equipment (at carrying amount) 756 000
Current assets
Trade and other receivables 456 000
Prepaid expenses 30 000
6 136 000
EQUITY AND LIABILITIES

Equity
Ordinary stated capital 500 000
Retained earnings (31/12/20X5) 4 414 070
Non-current liabilities
Long-term loan 600 000
Deferred tax: income tax (31/12/20X5) 79 830
Current liabilities
Trade and other payables 343 200
Income received in advance 76 500
Current tax payable: income tax 122 400
6 136 000

x Profit before interest of C2 892 000 has been correctly calculated and includes the
following:
- dividend income of C18 000 (which was received during the year);
- a donation to ‘The Bodybuilding Championships’ of C24 000: ‘The Bodybuilding
Championships’ is not a recognised charity in terms of the Income Tax Act; and
- depreciation on the administration building of C144 000 and depreciation on the
equipment of C204 000.
x Interest cost of C90 000 was incurred during the year.
x The company declared dividends of C36 000.
x The tax assessment for the 20X5 year was received during 20X6 and showed that the
amount of the assessed tax on taxable profit was C6 000 less than the amount provided
for current income tax in the previous year.
x The deferred tax balance at 31 December 20X5 comprises:
- a taxable temporary difference on the equipment of C297 600 and
- a deductible temporary difference on the revenue received in advance of C31 500.
x The tax base of the equipment at 31 December 20X6 is C436 800.
Chapter 6 57
- will tax the income received in advance in the year of receipt;

- will allow the deduction of the prepaid expenses in the year of payment;
- do not grant tax allowances on the company’s administration buildings; and
- will grant a tax allowance on the equipment of C225 600 during 20X6.
x There are no other temporary differences and non-temporary differences other than those
x The income tax rate is 30%.
Required:
a) Prepare the journal entries to be processed in Perfect Body Limited’s general journal at
31 December 20X6 to account for the current tax, deferred tax and the overprovision.
b) Prepare all the notes relating to income tax expense and deferred tax in accordance with
Question 6.11
Reflection Limited is a listed company manufacturing mirrors. The financial results for the year
ending 20X3 are:
x Profit before tax is C30 000 in 20X3 (20X2: C20 000 and 20X1: C14 000)
x Dividend income received during the year was C10 000 (20X2: C10 000 and
20X1: C10 000)
x Information relating to property, plant and equipment:
20X0 20X1 20X2 20X3

Carrying amount 70 000 64 000 48 000 36 000
Tax base 90 000 70 000 50 000 30 000
x There is insufficient evidence for Reflection Limited to realise deferred tax assets.
x The tax rate is constant at 30%
Required:
a) Prepare the current income tax and deferred income tax calculations.
b) Prepare the tax-related journals for the years ended 31 December 20X1, 20X2 and 20X3.
c) Prepare the income tax expense and deferred tax note for the years ended
Question 6.12
Stalk Limited is a listed company manufacturing coffee. Their financial results for the year
ending 20X3 are:
x Loss before tax is C20 000 in 20X3 and 20X2: C10 000. Profit before tax is C10 000 in
20X1.
x Dividend income received during the year was C20 000 (20X2:C20 000, 20X1:C20 000).
x An assessed loss of C100 000 is carried forward from 20X0.
x Sufficient appropriate evidence was available to recognise deferred tax assets in 20X1. In
20X2, however, it did not appear probable that the tax loss would be able to be utilised. In
20X3 evidence was once again available to recognise deferred tax assets in full.
58 Chapter 6
x There are no other temporary differences and no other items of exempt income or items of
non-deductible expenses other than those evident from the information given.
x The tax rate is constant at 30%.
Required:
a) Prepare the current income tax and deferred income tax calculations.
b) Prepare the tax-related journals for the years ended 31 December 20X1, 20X2 and 20X3.
c) Prepare the income tax expense and deferred tax note for the years ended
Question 6.13
Disnee Limited operates in the movie industry. It commenced operations on 1 January 20X1.
The following information is available for its year ended 31 December 20X3:
DISNEE LIMITED
EXTRACT FROM STATEMENT OF COMPREHENSIVE INCOME
FOR THE YEAR ENDED 31 DECEMBER 20X3
20X3 20X2
C C
Investment income (being dividend income) 24 000 ?
Depreciation 60 000 ?
Profit before tax (correctly calculated) 780 000 ?
DISNEE LIMITED
AT 31 DECEMBER 20X3
20X3 20X2
C C
Property, plant and equipment ? 840 000
Expenses prepaid (tax deductible in 20X3) 36 000 0
Accrued income (taxed when earned) 12 000 24 000
The tax assessment for 20X2 arrived during 20X3 and indicated taxable profits of C780 000.
Current income tax of C234 000 was processed in 20X2.
Plant was revalued to a fair value of C72 000 on 1 January 20X3. This is the first revaluation
of any item of property, plant and equipment to date. The plant originally cost C120 000 and
had a carrying amount on 1 January 20X3 of C60 000. The revaluation surplus is to be
transferred to retained earnings on the disposal of the plant. This is the only item of property,
plant and equipment that is measured under the revaluation model.
An item of video equipment was sold for C120 000. It was purchased for C240 000. On the
date of sale, 1 January 20X3, the equipment had a carrying amount of C144 000 and a tax
base of C156 000.
Plant was depreciated over its remaining useful life of 5 years calculated from 1 January 20X3
(consistent with previous estimates of useful life).
Chapter 6 59
The tax authorities allow wear and tear on the item of plant (referred to above) at 25% p.a. on
cost, but the item of plant already had a tax base of zero on 1 January 20X3. A total of
C42 000 capital allowances were allowed by the tax authorities during 20X3 on all other items
of property, plant and equipment (i.e. other than the revalued plant).
Property, plant and equipment (including the plant and equipment) had a tax base at
31 December 20X2 of C816 000.
Further information regarding the calculation of income tax:

x income is taxed on the earlier date of earning or receipt thereof;
x the prepaid expenses in 20X3 were allowed as a deduction in 20X3
x the current income tax rate is 30% of taxable profits (20X2: 29%).
There are no differences between profit before tax and taxable profit other than those evident
from the information provided.
Required:
a) Calculate the deferred tax balance at 31 December 20X3 using the balance sheet
approach.
b) Calculate the taxable profits and current income tax charge for the year ended
31 December 20X3.
c) Calculate the total current income tax expense recognised in 20X3.
d) Calculate the adjustment to the deferred tax liability account caused by temporary
differences arising in 20X3.
e) Calculate the adjustment to the deferred tax liability account caused by the rate change.
f) Calculate the total deferred income tax expense recognised in 20X3.
g) Calculate the total income tax expense recognised in 20X3.
h) List the items that would appear as reconciling items in the rate reconciliation in the 20X3
income tax expense note.
i) Show the journal/s relating to income tax for the year ended 31 December 20X3.
Question 6.14
Flawless Limited is a plastic surgery practice owned by Dr Ken Carson which offers plastic
surgery services to high-end clientele. The practice is based in a prestigious hospital from
which it rents rooms.
Dr Ken Carson’s accountant has been placed on maternity leave and he admits to having
very limited knowledge about the calculation and treatment of company tax calculations. He
has provided you with the draft trial balance of Flawless Limited:
FLAWLESS LIMITED
C
Revenue from services (3 775 000)
Dividend income (12 500)
Profit on sale of equipment (62 500)
Depreciation on equipment 125 000
Donations made (not deductible for tax purposes) 62 500
Finance charges (deductible for tax purposes) 137 500
Other expenses (deductible for tax purposes) 1 500 000
Revenue received in advance (taxable when received) (37 500)
Rent expense prepaid (deductible when paid) 75 000
Ordinary stated capital (unchanged since inception) (500 000)
Retained earnings: beginning of year (800 000)
60 Chapter 6
Total non-current liabilities (including deferred tax liability) (375 000)

Equipment 2 687 500
Inventory 1 000 000
Accounts payable (100 000)
Bank overdraft (25 000)
0
x A wear and tear allowance of C75 000 was granted on equipment during 20X8. The tax
base of equipment was C2 000 000 at 31 December 20X8.
x An item of equipment was sold during the year:
C
Carrying amount at date of sale 75 000
Capital profit 50 000
Non-capital profit 12 500
Base cost 100 000
Tax base 25 000
x There was no movement in equipment during 20X8 other than is evident from the
information provided.
x The following accruals had closing balances at 31 December 20X7:
C
Revenue received in advance (12 500)
Rent expense prepaid 50 000
x Dividends of C75 000 were declared during 20X8 (C25 000 was declared on
15 May 20X8 as an interim dividend and C50 000 was declared on 29 December 20X8 as
a final dividend). The final dividend has not yet been journalised.
x Current income tax in 20X7 was recognised at C275 000. The tax assessment for 20X7,
received during late 20X8, indicated total assessed current income tax of C300 000.
x The rate of income tax is 30% (20X7: 40%) and the inclusion rate is 50% (both years). No
journal entries relating to tax have yet been processed.
x Apart from any deferred tax liabilities, the only other non-current liability is a long-term
loan.
x There are no items of other comprehensive income in 20X8.
Required:
a) Process all journal entries necessary to finalise the financial statements for the year
ended 31 December 20X8
b) Prepare the statement of comprehensive income of Flawless Limited for the year ended
31 December 20X8.
c) Prepare the statement of changes in equity of Flawless Limited for the year ended
31 December 20X8.
d) Prepare the statement of financial position of Flawless Limited as at 31 December 20X8.
e) Prepare the following notes to the financial statements of Flawless Limited for the year
x Profit before tax
x Income taxation expense
x Deferred taxation.
Comparatives are not required, except for the deferred tax note.
Ignore dividend withholding tax.
Chapter 6 61
Question 6.15
Balboa Limited is a trendy new company involved in promoting the idea of ‘saving our planet’
by selling clothing and furniture made exclusively from recycled materials. The accountant
has suddenly contracted flu and has been confined to bed for a week. Unfortunately, the
auditors are here and you have been given the urgent task of finalising the annual financial
statements.
You have been given the following documents with which he was busy before falling ill:
x Draft trial balance (complete, other than for the deferred tax entries – see note 2)
x Partially completed tax working papers
x An extract of the tax-related journals processed to date.
BALBOA LIMITED
Debit/ (Credit)
Share capital (2 000 000)
Retained earnings (1/1/20X8) (200 000)
Investment in shares: cost 8 405 000
Bank 150 000
Inventory 750 000
Sales Taxable (8 000 000)
Dividend income Not taxable (1 000 000)
Cost of sales Deductible 2 000 000
Vehicles: carrying amount See note 1 750 000
Depreciation on vehicles See note 1 300 000
Profit on sale of vehicle See note 1 (310 000)
Deferred tax (1/1/20X8: at 25%) See note 2 12 500
Income tax expense See note 3 1 742 500
Revenue received in advance (31/12/20X8) See note 4 (400 000)
Expenses prepaid (31/12/20X8) See note 4 500 000
Trade payables and Current tax payable See note 5 (2 700 000)
TAX WORKING PAPERS

Balances 31/12/20X8 Carrying Tax Temporary Deferred tax A/L
amount base difference
Revenue received in advance (400 000) 0 400 000 120 000 A
Expenses prepaid 500 000 0 (500 000) (150 000) L
Vehicles 750 000 ? ? ?
EXTRACT OF TAX-RELATED JOURNALS PROCESSED IN 20X8

Debit Credit
Income tax expense (SOCI: P/L) 55 000
Current tax payable: income tax (SOFP: current A/L) 55 000
Under-provision of 20X7 tax expense
Bank (SOFP: current A/L) 900 000
First provisional payment for 20X8

Top-up payment for 20X7 tax year
62 Chapter 6
Second provisional payment for 20X8
Income tax expense (SOCI: P/L) 1 687 500

Current tax payable: income tax (SOFP: current A/L) 1 687 500
Estimated current income tax for 20X8
Note 1:
x Four identical vehicles were purchased on 1 January 20X7. These vehicles are delivery
vehicles but are all trucks that were built in 1940 and are thus collector’s items. Vehicles
are depreciated over 5 years, straight-line, to a total residual value of C100 000 (C25 000
each). One of these vehicles was sold to a collector of vintage vehicles on
30 December 20X8, on which date its carrying amount was C250 000, its base cost was
C410 000 and its tax base was C200 000.
x The company owns no other vehicles other than the remaining 3 vehicles at
31 December 20X8.
x The tax authorities allow a 25% deduction of the cost of the vehicle per annum.
Note 2:
x The deferred tax balance at the end of 20X7 related purely to vehicles and revenue
received in advance. The deferred tax adjustments for 20X8 have not yet been
processed.
Note 3:
x All the tax-related journal entries during the year have been correctly processed, as
shown in the extract from the journal above.
Note 4:
x Revenue is taxed in the year it is earned or received, whichever occurs first. Expenses
are allowed as a deduction for tax purposes when incurred or paid, whichever occurs first.
Note 5:
x The current tax payable: income tax had a debit balance of 14 000 at 31 December 20X7.
x There are no items of other comprehensive income.
x The income tax rate was 30% in 20X8 (25% in 20X7).
Required:
a) Prepare any other outstanding tax-related journals that should have been processed for
b) Prepare the statement of financial position at 31 December 20X8 together with the
deferred tax note in accordance with International Financial Reporting Standards.
Comparatives are required where possible.
c) Prepare the statement of comprehensive income for the year ended 31 December 20X8,
together with the income tax expense note, in as much detail as is possible and in
Question 6.16
Basic Limited earned a profit before tax of C8 000 000 in the year ended 31 December 20X8
(20X7: C1 000 000). Dividend income of C5 000 000 was earned in both years.
Chapter 6 63
x Basic Limited made a tax loss (assessed loss) of C4 000 000 in the tax year ended
31 December 20X7. There was no tax loss brought forward from years before 20X7.
x Basic Limited made a taxable profit for the year ended 31 December 20X8 of C3 000 000,
calculated before taking into consideration the assessed loss carried forward from 20X7.
x At 31 December 20X7, management was of the opinion that there would be sufficient
future taxable profits against which the unused tax loss could be utilised. At
31 December 20X8, however, management was of the opinion that the benefit from any
remaining unused tax loss would never be realised.
- levy corporate income tax at 40% (unchanged for many years);
- allow assessed losses to be carried forward to future years where they may be
deducted against taxable profits.
Required:
a) Prepare the tax-related journal entries in Basic Limited’s general journal for the years
ended 31 December 20X7 and 31 December 20X8.
b) Prepare the tax expense note and the deferred tax asset/liability note for inclusion in
Basic Limited’s financial statements for the year ended 31 December 20X8 in compliance
with International Financial Reporting Standards.
Question 6.17
You are an accounting specialist from an advisory firm. Jay Limited requires your assistance
with current and deferred tax issues. Jay Limited began operations on 1 January 20X5. The
company has a 31 December year-end.
The financial accountant has provided you with the following extracts of property, plant and
equipment from the company’s accounting system:
Building Land Plant

Cost C840 000 C2 400 000 C960 000
Cost of installation nil - C480 000
Depreciation 7 years, straight-line - 10 years, straight line
Residual value nil - C120 000
Date of purchase 1 March 20X7 1 January 20X5 1 April 20X6
Date available for use 1 April 20X7 1 January 20X5 I July 20X6
Brought into use 1 July 20X7 1 January 20X5 1 August 20X6
Information extracted from the company’s statement of comprehensive income for the years
from 20X5 to 20X7 show the following:
20X7 20X6 20X5

C C C
Investment income (being dividend income) 240 000 360 000 0
Research costs 720 000 480 000 0
Profit before tax (correctly calculated) 1 080 000 960 000 240 000
x Revenue received in advance at 31 December 20X7 was C960 000 (year-end balances
for 20X6: C360 000 and 20X5: C1 440 000).
x A tax loss (assessed loss) of C960 000 was incurred in the tax year ended
31 December 20X5. It was considered probable, at the end of every year since
64 Chapter 6
incorporation, that sufficient future taxable profits would be available to fully utilise any
deferred tax assets.
The tax department in your advisory firm have confirmed that the tax authorities:
x levy income tax at a rate of 30% (20X6: 40%);

x tax income when earned or received, whichever occurs first;
x allow the following deductions:
- a deduction of 20% of the cost of plant per annum (purchase price and installation
costs), not apportioned for part of a year;
- a deduction of research costs incurred over 4 years, straight-line (not apportioned for
part of a year);
x do not allow any deductions relating to the cost of the land or the building; and
x allow tax losses to be carried forward and set-off against taxable profits in future years.
Required:
a) Calculate the current income tax expense for the years ended 31 December 20X6 and
31 December 20X7.
b) Calculate, using the balance sheet approach, the deferred tax balance for each category
of temporary difference at 31 December 20X6 and 31 December 20X7 indicating clearly
whether the balance represents an asset or liability.
c) Provide the income tax expense note for inclusion in the financial statements for the year
ended 31 December 20X7, in accordance with International Financial Reporting
Standards.
Accounting policy note is not required.
Question 6.18
Gerald’s Gofers Limited (GGL) trades as an engineering firm that specialises in the digging of
tunnels for trains. Their main asset comprises equipment purchased and utilised specifically
in the digging process. GGL has experienced tax losses in recent times and requires
assistance in accounting for such losses.

x Cost of equipment purchased on 1 January 20X1 C180 000
x Depreciation on equipment to nil residual value 3 years straight-line
x Capital allowance (depreciation allowed by the tax authorities) 2 years straight-line
x Income tax rate 30%
x Profit or loss before tax (after deducting any depreciation on the equipment) for the
year ended:
- 31 December 20X1 Loss: C60 000
- 31 December 20X2 Loss: C30 000
- 31 December 20X3 Profit: C150 000
x The company did not expect to make future taxable profits at all and therefore did not
expect to be able to use the tax loss.
x There are no other temporary differences and no other items of exempt income or items of
non-deductible expenses other than those evident from the information given.
Chapter 6 65
Required:
a) Calculate the taxable profits and current income tax per the tax legislation for each of the
years ended 31 December 20X1 to 31 December 20X3.
b) Calculate the deferred tax balances at each of the years ended 31 December 20X1 to
31 December 20X3.
c) Journalise all tax-related journals for each of the years ended 31 December 20X1 to
31 December 20X3.
d) Disclose the effect of the above tax information in the financial statements of
Gerald’s Gofers Limited for the financial year ended 31 December 20X3.
66 Chapter 6
GAAP: Graded Questions Property, plant and equipment: cost model
Chapter 7
Property, plant and equipment: cost model
Question Key issues
7.1 - Core concepts – short questions: various concepts

7.2 - Core concepts – true or false
- Part A: Initial costs and other various concepts
- Part B: Depreciation
- Part C: Impairments in the context of the cost model
7.3 Jingle Bells Core concepts: no impairments
- residual value
- subsequent costs (replacements and major inspection)
- depreciation (idle time)
7.4 Kershaw Cost model: no impairments
- basic disclosure (accounting policies and notes)
7.5 Rockstar Cost model: no impairments
- Initial costs:
- internal manufacture: wastage, administration, etc
- asset exchange
- Depreciation
7.6 Huge Cost model: no impairments
- Initial costs (testing);
- Residual value (identification);
- Change in estimate (residual value, reallocation method);
- Depreciation (delayed start)
7.7 Island of Atlas Cost model: no impairments
- Initial cost: significant parts and various related costs
- Depreciation: significant parts (delay and idle time)
7.8 Large Cost model: no impairments
- Initial costs (significant parts including major inspection)
- Derecognition of parts not previously identified;
- Depreciation of significant parts
7.9 Rope Cost model: no impairments
- Initial costs (significant parts);
- Subsequent costs (repair);
- Depreciation (idle time and significant parts)
7.10 Highway Cost model: no impairments
- Internal manufacture (costs and depreciation);
- Initial cost (testing, depreciation of other assets);
- Depreciation (capitalisation thereof)
7.11 Coil Cost model: no impairments
- Initial costs (significant parts including major inspection);
- Depreciation (including units of production);
- Major inspection (derecognition);
- Residual value (identification);
- Change in estimate (residual value, reallocation method)
Chapter 7 67

7.12 Seal Cost model: no impairments
- Initial cost (provision for dismantling);
- Depreciation (straight line)
- Missing information (work backwards to cost)
7.13 Shark Cost model:
- initial costs: significant parts (no major inspection on initial recognition)
- depreciation: significant parts (units of production and straight-line)
- subsequent cost: major inspection (recognition, impairment & derecognition)
7.14 Cheetsum Cost model:
- initial cost: significant parts and a dismantling provision
- impairment: recoverable amount given for the asset as a whole
- derecognition and replacement of parts
- provision for dismantling costs: unwinding of discount
7.15 Wien Cost model:
- Initial cost: delivery, professional fees, repairs
- Recoverable amount: selection only – no detailed calculation
- Impairment loss and reversal of impairment loss
7.16 Iky’s Prawns Cost model:
- Initial costs: delivery, protective treatment, marketing
- Residual value: basic calculation
- Recoverable amount: selection only – no detailed calculation
- Impairment and Insurance proceeds
7.17 Raingo Cost model:
- impairments and reversals,
- pledge as security,
- future contractual commitments
Part A: Ignoring tax
Part B: With tax
Further questions on this topic can be found in:

x Chapter 6 – involving deferred tax
x Chapter 11 – involving impairment losses
x Chapter A: Integrated questions (after Chapter 15)
x Chapter B: Integrated questions (after Chapter 28).
Chapters A and B are the chapters involving questions that integrate a number of topics.
68 Chapter 7
Question 7.1
a) Define property, plant and equipment.

b) List the recognition criteria that must be met before we recognise an item of property,
plant and equipment.
c) List the measurement models that may be applied to property, plant and equipment.
d) List the three basic aspects of the cost of an item of property, plant and equipment.
e) In one sentence, explain what is meant by the term 'depreciation'.
f) When do we use the term 'residual value' and what does it represent?
Required:
Provide short answers to the above questions.
Question 7.2
The following questions all refer to items of property, plant and equipment that are measured
under the cost model.
Part A
a) The directly attributable costs that should be included in the cost of an item of property,
plant and equipment are only those costs that are necessary in order to get the asset to a
location and condition that enables it to be used.
b) It can happen that the initial cost of acquiring an item of property, plant and equipment
could include certain estimated future costs.
c) It is possible to use one measurement model for a certain class of property, plant and
equipment and another measurement model for another class of property, plant and
equipment.
d) Items that meet the definition of property, plant and equipment will always be recognised
and presented as non-current assets in the statement of financial position.
e) An item of property, plant and equipment is always initially measured at cost.
f) An item of property, plant and equipment, the acquisition of which is to be paid in
instalments, is initially measured at its cost, being the sum of these future instalments.
Required:
Indicate whether the above statements are true or false. If false, provide a brief explanation
Part B
a) The term 'useful life', which is a reflection of the asset’s economic life, is used in the
measurement of depreciation.
b) An asset’s residual value only needs to be estimated if the asset is being depreciated
using either the straight-line method or units of production method because these
methods involve depreciating the depreciable amount, which is calculated as cost less
residual value, whereas the diminishing balance method simply involves depreciating the
opening carrying amount.
c) Depreciation on an item of property, plant and equipment ceases during periods in which
the asset is standing idle.
d) Depreciation ceases on the date the item of property, plant and equipment is derecognised.
Chapter 7 69
e) Depreciation on an item of property, plant and equipment starts when the asset is first
brought into use.
f) IAS 16 requires that the total depreciation expense per class of property plant and
equipment be presented in the financial statements.
g) The three methods of depreciation listed in IAS 16, (straight-line, diminishing balance and
unit of production method) are not all based on the useful life of the asset: the straight-line
and diminishing balance are based on the useful life but the units of production method is
based on the units of output.
h) Depreciation on the diminishing balance method is the allocation of an asset’s depreciable
amount, calculated as cost less recoverable amount, over its estimated useful life.
Required:
Part C
a) It is possible for an item of property, plant and equipment to have a carrying amount that
exceeds its recoverable amount and yet not be impaired.
b) Items of property, plant and equipment must be tested for impairment at the end of every year.
c) The recoverable amount does not need to be calculated at the end of every year.
d) The recoverable amount reflects the lower of the value in use and fair value less costs of
disposal.
e) A non-depreciable item of property, plant and equipment with a cost of C1 000 000 is impaired,
for the first time, at the end of year 1 by C100 000. At the end of year 2, its recoverable amount
exceeds its closing carrying amount by C250 000 and thus the impairment loss reversed in
year 2 will be C250 000.
f) A depreciable item of property, plant and equipment has a cost of C1 000 000 at the
beginning of year 1 and is depreciated to a nil residual value over 5 years. It is impaired at
the end of year 1 (for the first time) by C100 000. At the end of year 2, its recoverable
amount exceeds its closing carrying amount by C250 000. The impairment loss reversed
in year 2 will be C100 000.
Required:
Question 7.3
Rudolph is the internal auditor of Jingle Bells Limited. Santa Claus (the managing director) is
analysing the financial statements for the year ended 31 December 20X5. He is unsure about
a few issues and has sent Rudolph an email, extracts of which are as follows:
Hi Rudolph
Hope you are having a jolly season! I am uncertain about how the accountant should disclose
certain items of property, plant and equipment. Please can you assist us?
A. We purchased our first sleigh-making machine 5 years ago, and recently sold it for
C180 000. We purchased a second sleigh-making machine 3 years ago, and it now has
a remaining useful life of 2 years. Ralphie, our financial director, has told me that in
2 years we could easily sell the second sleigh-making machine for C250 000. Which
amount shall we use as the residual value?
70 Chapter 7
B. The elves in the factory have been complaining about the lack of fresh air and the
humidity levels. As a result, we replaced the old and faulty ventilation system at a cost of
C170 000. Ralphie insists that we should capitalise it to the cost of the factory, I think he
wants to overstate assets and profits, instead of reducing profits by expensing this cost.
We are simply maintaining normal ventilation standards and have not enhanced anything.
Can you please do something about him?
C. Due to the elves being so small and not able to move the sleighs, we invested in a
computerised conveyor belt system, which picks up the sleighs, loads them on the
conveyor belt and moves them to the packaging department. It was delivered and
installed in August, but we only started using it in September, when we started preparing
for the season. However, Ralphie has calculated depreciation from August! I am
convinced he is trying to sabotage this year’s financial statements!
D. Tinkerbell, the property valuation experts that we use, have just visited our factory
building and estimated that its fair value is currently C8 000 000. Last year, its fair value
was C6 000 000. They explained that the fact that our factory is unique with its castle-
themed exterior makes our property extremely valuable. However, despite this rocketing
fair value, Ralphie has gone and depreciated the property by another C50 000. The
carrying amount is sitting at a new low of C5 000 000!
E. Remember I replaced my old jet with a new one this year? Now I personally saw the
invoice for the jet and it clearly showed C3 500 000. And yet Ralphie has journalised my
jet at C2 750 000. He said something about the remaining C750 000 having to be shown
as an inspection cost. I tried to explain to him that we did not pay any inspection because
the supplier had it inspected as per the Safety Regulation for such jets. Of course, we will
have it inspected, at our cost, in 3 years again. According to Tinkerbell, the current
market price for such an inspection is C750 000 and I think this is perhaps what is
confusing Ralphie? What do you think?
Required:
Identify the issue in each of the questions posed and explain, with reference to IAS 16, the
correct accounting treatment in each case.
Question 7.4
The following is an extract from the trial balance of Kershaw Limited for the year ended
30 June 20X4:
KERSHAW LIMITED
EXTRACT FROM TRIAL BALANCE AT 30 JUNE 20X4
Debit Credit
Land (Plot 20 Melrose Estate) acquired 1/1/20X2, at cost 80 000
Office buildings available for use on 30/6/20X4, at cost 50 000
Fixtures and fittings, at cost 60 000
Accumulated depreciation of fixtures and fittings at 1/7/20X3 10 000
Depreciation is calculated at 10% per annum reducing balance on fixtures and fittings. No
depreciation is calculated on land. Buildings are depreciated at 2% per annum on the straight
line basis.
All residual values are assessed to be zero, having remained unchanged since acquisition.
Required:
Prepare the property, plant and equipment note to the financial statements for the year ended
30 June 20X4.
Accounting policies are required.
Chapter 7 71
Question 7.5
Rockstar Manufacturing Co. Limited has presented you with the following balances from its
trial balance as at 31 December 20X0 (both balances have been classified as equipment):
Def-maker Amplifier: carrying amount (Note 1) C853 650
Universal Guitar Stringer: carrying amount (Note 2) C542 000
Note 1:
x The amplifier is specialised equipment manufactured during the current financial year by Rockstar.
x Included in the cost of the amplifier are the following:
- C712 000 for inventory, including C14 000 for inventory that had to be scrapped
- C106 500 in direct labour costs, of which C6 000 is in respect of idle time
- C95 000 for allocated overheads, half of which relate to administrative overheads
- C35 000 that was spent on training staff on how to use the machine.
x The amplifier was ready for use on 1 May 20X0, but was only brought into use on 1 July 20X0.
x The estimated useful life of the asset is 5 years with no residual value and economic
benefit is expected to flow evenly throughout its useful life.
Note 2:
x Rockstar took advantage of a supplier’s special and returned its Universal Guitar Stringer
for a newer model on the 31 December 20X0.
x The carrying amount of the stringer given up was C542 000, which Rockstar believed they could
sell for C550 000, while the fair value, per IFRS 13, of the stringer received is C600 000.
The financial director of Rockstar has misgivings regarding the accounting department’s
ability to keep abreast of the numerous changes to the International Accounting Standards
Board. He has, thus, asked for your opinion regarding the treatment of the above matters.
Required:
In a letter to the financial director, discuss the recognition and measurement of the above
items of equipment in terms of International Financial Reporting Standards.
Question 7.6
Huge Limited specialises in performing administrative tasks for other companies. At

31 December 20X9 (reporting date), the following details are available to you:
Machine:
x This machine was purchased for C298 000 in cash on 1 February 20X9 but needed to be
installed before it could be used. The installation cost C10 000 and was also paid in cash.
x The asset was in a condition ready for use in the manner intended by management on
1 May 20X9. It was not until 1 June 20X9 that it was brought into use since the directors
had an old machine they wished to use until its pistons gave up completely.
x It has an estimated useful life of 3 years and a residual value of C44 000.
Plant:
x Plant was purchased on 1 January 20X7 at a cost of C720 000.
x The plant needed to be tested to ensure that the buns it produces were safe to eat before
it could be put into production: the cost of testing was C40 500. The buns were sold to
staff (who all survived) for C4 500.
x Its estimated useful life at acquisition is 5 years and its residual value was C36 000.
72 Chapter 7
x At year-end, the accountant ascertained that similar items of plant 5 years old were
currently selling for C63 000 but his projections (using present values) suggest that he
would be able to sell this plant for C50 000 at the end of its useful life.
x The accountant believes that the residual value of C36 000 should be changed but is not
sure whether to use C63 000 or C50 000 as the new residual value.
The company uses the re-allocation method to account for changes in estimates.
Required:
Prepare all the journal entries in Huge Limited’s general journal for the year ended
31 December 20X9.
Question 7.7
Island of Atlas is a resort situated on a small island off the coast of Durban. The resort is a
first of its kind and includes the world’s first artificial aquarium, sporting robotic fish that are so
realistic that scientists have remarked that it is impossible to identify the robot fish from the
real thing. They look the same, move the same and even consume other fish. The robotic
fish are controlled by a remote server.
The cost of constructing the aquarium was C350 000. An independent valuator (approved by
the auditors) has separated the cost of the aquarium into the following parts, each of which is
considered to have a cost that is significant to the cost of the entire aquarium:
x the structure: estimated cost of C100 000,
x the server: estimated cost of C50 000, and
x the robotic fish: estimated cost of C200 000.
x The resort was open and ready for visitors from 2 January 20X3. However, a national
strike during the month of January meant that no staff arrived and thus the grand opening
was delayed until 1 February 20X3.
x The aquarium is depreciated on the straight-line method:
The structure has an estimated useful life of 100 years and a residual value of C2 000.
The server has an estimated useful life of 10 years and a residual value of C1 000.
The robotic fish have an estimated useful life of 50 years and a nil residual value.
x Other costs incurred in relation to opening the resort:
C
Delivery and electronic set-up of robotic fish 1 000
Staff training for aquarium cleaners and IT specialists 15 000
Testing to ensure aquarium was fully operational before grand opening 3 000
(this involved testing and checking the structure, server and fish)
Grand opening launch party, including costs to hire Saoki, a popular DJ 10 000
Initial operating loss 30 000
x The resort was closed during August 20X3 for its annual maintenance programme.
x Island of Atlas measures all its property, plant and equipment under the cost model. It
owns only two other items of property, plant and equipment, the relevant details for the
current year ended 31 December 20X3 are as follows:
Land: the land was purchased many years ago for C5 000 000 and is not depreciated.
Building: construction of the building was complete at 1 January 20X2 at a cost of
C12 000 000 and it is depreciated on the reducing balance at a rate of 5% per
annum. Its residual value is C2 000 000.
Chapter 7 73
Required:
a) Using Island of Atlas's general journal, show all related journal entries for the year ended
31 December 20X3.
b) Disclose the ‘property, plant and equipment’ note in the financial statements of Island of
Atlas Limited for the year ended 31 December 20X3. Comparatives are not required.
Ignore tax.
Question 7.8
Large Limited is a very lucrative business and has decided to buy special vehicles for use by
its two directors. In this regard, it invested in:
x a supercar for the managing director and
x a helicopter for the financial director.
Details of these assets are presented below.
Italian Supercar,
x This vehicle was purchased on 1 July 20X8 for C405 000:
x This vehicle has an estimated useful life of 4 years with a nil residual value.
x On 28 February 20X9, the tyres of the car were replaced at a cost of C36 000 (useful life:
2 years) purely for aesthetic reasons.
The vehicle was not considered to be impaired in any way.
At acquisition, these original tyres were valued at C18 000, with a useful life of 4 years,
even though they were not a separately identified part. The original tyres have been
converted into a series of swings for a local orphanage.
x The costs of servicing the car for the year amounted to C50 000.
Tomahawk Helicopter
x This helicopter was purchased on 1 July 20X5 for C1 200 000.
x The directors identified the following separate parts which have costs that are considered
to be significant relative to the total cost:
- The motor was valued at C320 000 with an estimated useful life of 5 years and a
residual value of C24 000.
- The body was valued at C640 000 with an estimated useful life of 10 years and a
residual value of zero.
- Interior fittings were valued at C80 000 with an estimated useful life of 10 years with
no residual value.
- The remainder of the value was placed on the inspection cost, which must be
performed every three years as a condition of purchase.
The second inspection was performed on 1 July 20X8 i.e. the beginning of the
current financial year for C192 000.
Required:
Prepare the following journals for Large Limited for the year ended 30 June 20X9:
a) All transactions relating to the Italian supercar.
b) All transactions relating to the Helicopter.
Ignore tax.
74 Chapter 7
Question 7.9
Rope Limited, a vendor as defined in the VAT Act, operates within the logistics sector. In
order to co-ordinate and manage its complex business network, it invested in a state-of-the-
art computer system, the details of which are as follows:
x Date of purchase and date brought into use 1 April 20X0
x Cost of hardware (including 15% VAT) C46 000
x Cost of software (including 15% VAT) C12 650
x Useful life of hardware 5 years
x Useful life of software 2 years
x Residual amount of hardware C1 000
The computer is not able to function without the software. This was demonstrated when the
software malfunctioned on 1 October 20X0 and the computer could not be used until
1 November 20X0, when the software was reinstalled (at no cost).
During the annual Christmas party, an employee spilt a soft drink onto part of the computer, which
necessitated a repair. This did not, however affect operations since Rope had closed for the year.
The cost of repairs was C3 450 (including 15% VAT). The asset was not considered to be impaired.
Required:
Prepare journals to record the above transactions for the year ended 31 December 20X0.
Question 7.10
Highway Limited constructed its own specially designed ‘asphalt mixing plant’. Details of
related costs incurred are as follows:
x Raw materials were purchased on 1 August 20X2 at a cost of C650 000, of which only
C130 000 was used during December 20X2 in the construction of the plant.
x In order to comply with safety regulations, the plant had to undergo extensive testing on
31 March 20X3, which cost the company C26 000.
x Company-owned machinery was used in the construction of the plant for 3 months during
the year. The depreciation of this machinery amounted to C260 000 for the entire year
ended 30 June 20X3.
x Labour costs incurred for the year (to 30 June 20X3) was C390 000:
- 80% thereof was incurred on building roads
- 20% thereof was incurred in constructing the plant.
There was a labour strike while constructing the plant, during which labourers did not pitch
for work, but were paid. Roughly 5% of the labour costs referred to above reflected labour
costs during which no construction took place.
x The plant was first brought into use on a contract that started on 1 May 20X3, although it
was available for use from 1 April 20X3.
x The plant is to be depreciated using the straight-line method over its expected useful life
of 5 years and is expected to be sold for C65 000 at the end of its 5-year life. A similar
plant, which had already been used for 5 years, recently realised C9 100.
Required:
a) Journalise all related transactions for the year ended 30 June 20X3.
b) Disclose the plant in the ‘property, plant and equipment’ note and the separately
disclosable item: ‘depreciation’ in the notes to the financial statements of Highway Limited
for the year ended 30 June 20X3. Comparatives are not required.
Ignore tax.
Chapter 7 75
Question 7.11
Coil Limited operates in the logistics industry. It is mainly involved in transporting food and
clothing to disaster areas nationally throughout southern Africa. To reach some of the more
desolate areas in the region, Coil Limited invested in a light aircraft, as well as vehicles for
transportation via land. The details are as follows:
x Aircraft: purchased on 1 January 20X5:

- Upon initial recognition, the following significant parts were identified:
- The body was allocated a cost of C136 000, with a useful life of 8 years and a nil
residual value.
- The motor and propeller blades were allocated a cost of C340 000, with a useful
life of 15 000 km and a residual value of C136 000.
- The capitalised inspection costs were allocated C170 000. Inspections must be
performed every 4 years.
- Additional information:
- The aircraft was used extensively during the current financial year, flying a total of
3 000 km.
- The inspection was performed at 30 December 20X8 at a cost of C293 250
(including VAT).
- The next inspection is expected to cost C368 000 (including VAT).
x Truck: purchased on 1 January 20X7:

- The truck was purchased for C170 000 (no VAT was charged), on which date its
useful life and residual value were estimated to be 4 years and C17 000, respectively.
- The accountant estimates that he will be able to sell the asset for C42 500 at the end
of its useful life, but notes that similar vehicles that are already 4 years old are
currently selling for C29 750.
- The accountant has already processed depreciation for 20X8, but has based it on the
original estimate of residual value, of C17 000.
All amounts exclude VAT unless otherwise indicated. The VAT rate is 15%.
The company uses the re-allocation method to account for changes in estimate.
Required:
Prepare the following journals for Coil Limited for the year ended 31 December 20X8:
a) All journals relating to the aircraft.
b) All journals relating to the truck.
Question 7.12
Seal Limited owns one item of property, plant and equipment, a medical waste disposal plant
that was purchased on 1 July 20X3. The plant must be dismantled at the end of its useful life.
The expected future dismantling costs amounted to C2 000 000 on date of acquisition. An
appropriate discount rate is 10%. The physical plant has no parts with costs considered
significant relative to the total cost thereof.
x Depreciation on the plant was C2 800 000 in 20X4, being the depreciation on the total
cost of the plant, correctly calculated.
x The plant has a total estimated useful life of 5 years and an estimated residual value of nil
(estimated on date of purchase). Depreciation is estimated using the straight-line method.
76 Chapter 7
There were no sales and no other purchases of property, plant and equipment during 20X4.
Required:
Journalise the above information for the year ended 31 December 20X4.
Ignore tax.
Question 7.13
Shark Limited is a national carrier of fresh produce. Due to the high incidence of road fatalities
the government introduced legislation that requires all long distance vehicles to undergo major
roadworthiness inspections every two years. The details of one such vehicle are as follows:
x The truck was purchased on 1 October 20X8 for C320 000. The following significant parts
were identified:
- The engine was allocated a cost of C210 000 and expected to travel 300 000 km after
which, it would have no residual value.
- The chassis was allocated a cost of C110 000 and had an estimated residual value of nil
and a useful life of 5 years.
x The first major inspection was performed on 31 December 20X8, the day before the
legislation became effective, at a cost of C40 000.
x The truck travelled 40 000 km during 20X8 and 97 000 km in 20X9.
x On 1 July 20X9, the directors of Shark decided to put the truck through an urgent major
roadworthiness inspection, before the next inspection was legally necessary. This decision
arose when the local media reported that the government inspectors who had performed the
previous inspection had been implicated in a fraud syndicate involving the issuance of fake
inspection certificates. Given that the safety of its employees was at stake, this inspection
was performed on the same day, and cost C72 000.
Required:
Prepare all journals relating to the truck for the years ended 31 December 20X8 and 20X9.
Ignore tax effects
Question 7.14
Cheetsum Limited is a large multi-national manufacturing concern. The management accountant

presented you with the following spreadsheet showing costs incurred during the construction of a
plant between 1 January 20X1 and 31 May 20X1. The plant began operating on 1 June 20X1.
Capital Budget: Manufacture of the Plant C

Materials Note 1 1 200 000
Direct labour Note 2 1 600 000
Allocated manufacturing expenses 130 000
Specialised foundation Note 3 1 500 000
Machine lining Note 4 40 000
Provision for dismantling costs Note 5 ?
Note 1:
x The materials are made up of externally purchased material, costing 800 000, and internally purchased
material purchased from an internal division for C400 000. The divisional mark-up is 25% on cost.
Note 2:
x Direct labour includes an amount of C100 000 for wages that were paid to the workers while waiting for
the specialised foundation to harden.
Chapter 7 77
Note 3:
x The specialised foundation has a useful life of 10 years and a residual value of C100 000.
Note 4:
x The machine lining that had originally cost C40 000 had to be replaced on 31 December 20X1 due to
excessive wear and tear. It had been expected that the lining would last 4 years.
x The new lining cost C60 000 and had a revised useful life of only 2 years.
Note 5:
x The plant must be dismantled at the end of its useful life (20 years), and a provision for this cost must
be recognised. The expected cost of dismantling after 20 years is C6 000 000 and the present value
thereof (using an appropriate discount rate of 10% p.a.) is C891 862.
The plant had an estimated residual value of nil. At reporting date, the marketing director
informed the board that the demand for the plant’s product has decreased dramatically. An
impairment test was performed and the recoverable amount was calculated as C5 000 000.
Required:
Using the general journal, provide all journals to record the above transactions in the books of
Cheetsum Limited for its year ended 31 December 20X1.
Question 7.15
Wien Limited (a registered VAT vendor) manufactures coffee machines for the domestic and
industrial markets. On 2 January 20X3, Wien Limited purchased new equipment to
computerise the moulding of the range of coffee machines that it produces. The equipment
was available for use on 2 January 20X3 but was brought into use on 2 February 20X3.
The invoice received from the supplier reflected the following:

C
List price of model 123 520 000
VAT at 15% 78 000
598 000
Wien Limited also paid C 20 700 delivery costs to a road haulage contractor and C13 800 to a
professional engineer for advice on installation. While the equipment was being assembled,
one of Wien Limited’s employees damaged the equipment, costing the company an additional
C2 300 for repairs. The repair did not constitute a replacement or renewal of a major part.
Wien Limited’s accounting policy was to measure equipment under the cost model.
Depreciation is provided at 10% per annum on the straight-line method. The tax authorities
used the same rate for the related tax deduction. The residual value at the date of acquisition
was estimated to be C50 000.
While preparing the financial statements for the year ended 31 December 20X7, management
were of the opinion that the equipment might be impaired and thus the following estimates
were made for purposes of calculating the recoverable amount as at 31 December 20X7:
x The fair value less cost of disposal was C255 000 (there is an active market for this type
of equipment and, at 31 December 20X7, the fair value of the equipment, as measured by
an independent valuer, was C270 000, and the cost of dismantling and removing the
equipment was estimated at C15 000).
x The value in use was C280 000 (the present value from the use of the equipment
amounted to C249 000 and the present value of the estimated sale at the end of the
equipment’s useful life amounted to C31 000, both amounts calculated by an independent
valuer using observable market factors).
78 Chapter 7
At 31 December 20X9, evidence from internal reporting suggested that the economic performance
of the asset had been better than expected and that the recoverable amount required re-
estimation. Management estimated the equipment’s fair value less costs of disposal to be
C170 000. The value in use (present value of all future cash flows from the equipment) has been
calculated independently at C198 000. All fair values were measured using the market approach
and inputs were based on market expectations of future net cash inflows from the use of the
asset. All inputs are level one inputs.
Required:
a) State the amount to be recorded as the initial cost of the equipment in the accounting records of
Wien Limited. Give reasons for your answer.
b) Briefly discuss the objective of the test for impairment and elaborate on the calculation required
to identify whether an asset is impaired.
c) Calculate, using the criteria in IAS 36 Impairment of assets, whether the equipment is impaired
at 31 December 20X7.
d) Provide an extract of the notes to the financial statements of Wien Limited at 31 December 20X7
showing all the disclosure relating to the equipment.
e) Calculate the effect of the re-assessment of the recoverable amount of the equipment at
31 December 20X9 and describe the impact of the reassessment on the financial statements
and notes thereto.
Question 7.16
Iky’s Prawns Ltd is a company that recently expanded and now delivers its prawns to coastal
restaurants from its main shop in Durban. Three vans were acquired for purposes of
facilitating this expansion. The following report has been compiled by the bookkeeper who is
not quite sure how to deal with all of the related transactions and events:
Information pertaining to the initial costs in acquiring the three delivery vans:
x Three vans were purchased on 1 July 20X8 in order to help reach the new delivery points.
Total cost C600 000 (C200 000 per van).
x Cost of transporting the vans from the manufacturer in Gauteng was C70 000 in total.
x The once-off cost of galvanising the vans in Durban was C90 000.
Galvanising provides protection against rust, (necessary since Durban is a coastal city).
x The cost of repainting the vans in company colours to promote the new delivery business
was C30 000.
Information pertaining to the depreciation of the vans:
x The company uses the cost model to measure its assets.
x The vans have a useful life of 4 years.
x All assets are depreciated on the straight-line basis unless another method is justifiable.
x The residual value of each delivery van is currently estimated to be C45 000, before
considering related selling costs of C5 000 per van.
Information relating to a freak hail storm at the end of the financial year:
x A freak hail storm hit the coast on 31 December 20X8 and, as the vans had been
purchased so recently, no protective parking had yet been built for them.
x The vans were exposed to the elements during the storm and were badly damaged, resulting in
the fair value less cost of disposal dropping to C80 000 (i.e. the market value of each van
dropped to C100 000, before taking into account the expected selling costs of C20 000 per van).
x Management has calculated the remaining value in use of each van to be C150 000, (this
has been calculated by adding the present value of the cash flows from use of C120 000
to the present value of the proceeds from sale of C30 000).
Chapter 7 79
Information relating to the trade-in of the old delivery vans and purchase of the new vans:
x On 3 January 20X9, the insurance company paid out C120 000 per van to settle the
damages caused by the hail storm.
x After intensive board meetings and discussions amongst the management of Iky’s
Prawns, it was decided that the old damaged vehicles would be traded-in on three new
vans, and the insurance money would be used to pay the balance owed on this purchase.
x The trade-in value for the three damaged vans combined was established to be C300 000.
x Three new delivery vans were purchased for C660 000, and management decided to
depreciate these over three years to a nil residual value.
Required:
a) With regards to the first set of delivery vans, calculate the total amount at which they should
initially be measured, and their subsequent measurement up to 31 December 20X8.
b) Show all journals relating to the above information up to 31 December 20X9.
Question 7.17
Part A:
Raingo Limited applies the cost model to its property, plant and equipment. An item of plant
was purchased on 01 January 20X1 at a cost of C100 000.
x Details of the plants’s estimated recoverable amount are as follows:
C
31/12/20X1: 70 000
31/12/20X2: 65 000
31/12/20X3: 30 000
x All residual values are assessed to be zero and this has remained unchanged since
acquisition.
x Depreciation is provided using the straight-line method over its useful life.
x The estimated useful life of the plant is 5 years.
x The drop in the plant’s value at the end of 20X3 was due to damage caused during a riot
on the factory premises in 20X3. Similar damage was caused during a similar riot in
20X1. The damage incurred during the 20X1 riots was repaired in 20X2.
x The company has pledged the plant as security for a loan. Details of the loan will be provided
in note 6 of the notes to the financial statements for the year ended 31 December 20X3.
x During 20X3 the company directors signed a contract involving the construction of an
additional item of plant to be completed by April 20X4 at an expected cost to the company
of C500 000. Since construction had not yet begun at year-end, a liability for this amount
has not yet been recognised.
Required:
a) Show the journals for each of the years ended 31 December 20X1, 20X2 and 20X3.
b) Disclose the above in the notes to the financial statements for the year ended
Ignore tax.
80 Chapter 7
Part B:
Using all the above information, assume the following additional information:
- allow a deduction for tax purposes of 20% of the cost of the asset per annum;
- levy corporate income tax at 30%.
x There are no differences between accounting profit and taxable profit other than those
mentioned above.
Required:
a) Show the journal entries for each of the three years ended 31 December 20X3.
b) Disclose the above in the notes to the financial statements for the year ended
Accounting policies are not required
Chapter 7 81
GAAP: Graded Questions Property, plant and equipment: revaluation model
Chapter 8
Property, plant and equipment: revaluation model
Question Key issues
8.1 - Core concepts:

Part A: Core concepts – the basics
Part B: Core concepts – revaluation of depreciable assets
8.2 Land-it Revaluation basics: Discussion
8.3 Apollo Revaluation of land: increase
Tax effects: non-depreciable and non-deductible: revaluation above cost:
A: intention to keep
B: intention to sell
8.4 Comic Revaluation of land: increase and decrease: Journals
A: Ignoring deferred tax
B: Including deferred tax
8.5 Drama Revaluation of land: increase and decrease: Disclosure and brief explanation
A: Ignoring deferred tax
B: Including deferred tax
8.6 Running Tap Revaluation model with Impairment: Discussion and comparison of terms
(recoverable amount residual value, net realisable value)
8.7 Coffee Culture Revaluation of land: with recoverable amounts (effect of disposal costs)
8.8 Curious Short questions introducing revaluation model versus cost model
8.9 Lemon Revaluation of depreciable asset: gross replacement versus net
replacement
8.10 Maroon Revaluation model (revaluation increase after initial recognition, followed by
revaluation decrease, followed by revaluation increase);
No impairments and no tax
8.11 Greenpeace Revaluation model: (revaluation increase then a decrease – but asset not impaired)
A: with tax (intention to keep)
B: no tax
8.12 Magnum Revaluation model: increase (net replacement method)
Tax effects: depreciable and deductible: revaluation above cost
Part A: intention to keep
Part B: intention to sell
8.13 Values Revaluation model: NRVM (revaluation decrease with impairment, increase
with reversal of impairment and revaluation surplus): With tax
8.14 Lightenlove Revaluation model: GRVM (revaluation increase)
Deferred tax effect of revaluation above cost:
revaluation of depreciable and deductible asset - intention to sell,
revaluation of depreciable and non-deductible asset - intention to sell
revaluation of non-depreciable, non-deductible asset - intention to keep
8.15 Peasy Revaluation model: journals (gross replacement versus net replacement)
Disclosure: SOCIE and PPE note
No tax
8.16 Nomad Part A: Cost model: impairment followed by impairment reversal
Part B: Revaluation model: decrease then increase – no impairments
Part C: Revaluation model: decrease then increase – with impairments
Further questions incorporating this topic with other topics can be found in:
x Chapter A (after Chapter 15) and
x Chapter B (after Chapter 28).
Chapters A and B are the chapters that include ‘Integrated Questions’ (questions that combine different IFRSs)
82 Chapter 8
Question 8.1
Part A
a) There are 2 models to choose from when subsequently measuring property, plant and
equipment in terms of IAS 16, namely, the cost model and the fair value model.
b) IAS 16 states that entities must determine the fair value of the asset at each reporting
date if they use the revaluation model.
c) Arrivals Limited has recently purchased a car to be used by the managing director for
business purposes. They also currently own a few delivery trucks, which are subsequently
measured by applying the cost model as prescribed in IAS 16. Arrivals Limited is, in their
opinion, allowed to apply the revaluation model to the recently purchased car.
d) When a class of property, plant and equipment is measured under the revaluation
model, the entity will also need to disclose the carrying amount of that class of assets
measured using the cost model.
e) When applying the revaluation model, any increase in the carrying amount will be
credited to the revaluation surplus account, and since this account is presented in other
comprehensive income, this upward revaluation will not affect profit or loss. .
f) The revaluation surplus balance, which is included in equity, must be transferred to
retained earnings upon disposal of the asset.
g) When applying the revaluation model to an asset, that asset must be initially measured at its
fair value on date of acquisition if its fair value differs materially from its purchase price.
h) Land must always be subsequently measured using the revaluation model.
i) An entity using the cost model is allowed to change to the revaluation model.
j) If an asset’s carrying amount is decreased as a result of a revaluation, this decrease
shall be recognised in profit or loss, except to the extent that it reduces a credit balance
in the revaluation surplus account (other comprehensive income/equity).
k) If an item of property, plant and equipment is measured under the cost model, it must
be tested for impairment. By contrast, an item of property, plant and equipment
measured under the revaluation does not need to be tested for impairment.
l) If a non-depreciable asset is revalued, deferred tax is not recognised on any temporary
difference that arises as a result of the revaluation, as it is exempted from deferred tax
in terms of IAS 12.
Required:
Indicate whether each of the above statements is true or false and, if false, provide a brief
explanation as to why you believe it to be false.
Part B
a) Identify whether the following statement is true or false, and if false, justify your answer:
The two measurement models allowed under IAS 16 Property, plant and equipment are the
net replacement value method (also known as the elimination method) and the gross
replacement value method (proportional restatement method).
b) Identify whether the following statement is true or false, and if false, justify your answer:
When remeasuring an asset’s carrying amount to reflect fair value, using the revaluation
model, we must first eliminate any accumulated depreciation against the asset’s gross
carrying amount account (i.e. cost).
Chapter 8 83
c) Select the most correct answer/s:
Plant, purchased at a cost of C220 000 on 1 January 20X1 and depreciated to a nil residual
value over 5 years, is revalued to C330 000 at 31 December 20X2.
The revaluation surplus will be credited with ______________ (C110 000 / C198 000/
C154 000/ none of these are correct).
d) Select the most correct answer/s:
value over 5 years, and which had not previously been revalued and has never been
considered to be impaired, is revalued to a fair value of C165 000 at 31 December 20X2.
The ________ (revaluation surplus/ revaluation income/ revaluation expense/ impairment

loss/ impairment loss reversed) will be __________ (debited/ credited) with
______________ (C11 000 / C55 000 / C33 000/ none of these are correct).
e) Select the most correct answer/s:
value over 5 years, which had not previously been revalued and has never been considered
to be impaired, is revalued to a fair value of C88 000 at 31 December 20X2.

______________ (C1320 000 / C88 000/ C44 000 /none of these are correct).
f) Select the most correct answer/s:
Plant, purchased at a cost of C220 000 on 1 January 20X1, is depreciated to a nil residual value
over 5 years. It was previously revalued to C198 000 on 31 December 20X1. The plant, which is
not considered to be impaired, is revalued to a fair value of C88 000 at 31 December 20X2. The
revaluation surplus is transferred to retained earnings over the life of the asset.

______________, and the ________ (revaluation surplus/ revaluation income/ revaluation
expense/ impairment loss/ impairment loss reversed) will be __________ (debited/ credited)
with ______________.
Required:
Provide answers to each of the questions posed.
Question 8.2
You are a technical IFRS advisor to Land-it Limited, a company who owns multiple factories
around the country. You have just received the following letter from the financial manager of
the company, an extract of which appears below:
Dear IFRS Advisor
Please help me with the following issues, as the financial year end is looming, and our
managing director is asking me a lot of questions regarding the revaluation model. Having
studied accounting a long time ago, I am only familiar with the cost model.
84 Chapter 8
Query 1
The managing director cannot stop speaking about this “revaluation model”! Can you
briefly explain to me how the revaluation model differs from the cost model?
Query 2
The managing director believes that we should use the revaluation model to subsequently
measure all the land that Land-it owns, as he believes that the increases in the fair value
of the land will result in substantial increases to the company’s profit after tax, which will
improve his bonus. Is our managing director correct in his understanding?
Query 3
Having reviewed Land-it’s portfolio of properties, which is constituted purely by plots of
land, our managing director is concerned that, given their location, their fair values might
have actually dropped below original cost. Thus, he only wants to apply the revaluation
model to properties that have a fair value greater than cost.
Similarly, he is not keen to revalue our other items of property, plant and equipment, of
which we have plant and vehicles.
Is it possible to revalue selected assets, without revaluing others?
Our managing director suggested that we could bring in a valuer to do a revaluation of the
selected properties every 3 years or so. Will performing a revaluation on these properties
once every 3 years be sufficient?
Additionally, if we have to revalue all our properties, how do we account for properties that
have fair values that are lower than their costs?
I trust that you will be able to assist me with the above queries, as the managing director
seems certain that the revaluation model is the best model to use.
Kind regards
Financial Manager
Required:
Write a letter to the financial manager in which you address her queries.
Question 8.3
Apollo Limited uses the revaluation model to measure land. It owns several properties and has
recently purchased a plot of land on which it intends to build a factory. The relevant details are:
x Purchase price (1 January 20X4): C105 600
x Fair value (31 December 20X4): C116 160
The tax authorities:

x levy income tax at 30% on taxable profits.
x do not allow the cost of land as a tax-deduction when calculating taxable profits.
x include 80% of capital gains in taxable profits (the capital gain is calculated on a base cost
equal to the purchase price)
The deferred tax balance was zero before the revaluation of the land.
Required:
Show the deferred tax journal relating to the land, assuming that:
a) the entity intends to recover the carrying amount of the land through use.
b) the entity intends to recover the carrying amount of the land through sale.
Chapter 8 85
Question 8.4
Part A:
Comic Limited owns a single plot of land, which it measures using the revaluation model. It
determines the fair value of land every two years. Details of its land are as follows:
C
Purchase price (1 January 20X1) 2 000 000
Fair values
31 December 20X3 3 800 000
31 December 20X5 1 160 000
31 December 20X7 2 800 000
Required:
Prepare the journal entries to account for the land for the years ending 31 December 20X1 to
31 December 20X7.
Ignore deferred tax implications.
Part B
Use the same information given in Part A, together with the following information:
x The tax authorities levy income tax at 30% of taxable profits.
x Capital gains are included in taxable profits using a capital gains inclusion rate of 80%.
x The cost of land is not deductible in the calculation of taxable profits.
x Comic Limited intends to keep the land.
Required:
a) Prepare all journal entries relating to land for the years ending 31 December 20X1 to
31 December 20X7.
b) Briefly explain the deferred tax implications when revaluing land.
Question 8.5
Part A:
Drama Limited owns only one class of property, plant and equipment, land, which it measures using
the revaluation model. It owns two plots of land: one in Cape Town and one in Johannesburg, details
of which are as follows:
Description of land Purchase date Purchase price Fair value
31 December 20X6
Land in Cape Town (two hectares) 1 January 20X5 C5 000 000 C10 500 000
Land in Johannesburg 1 January 20X0 C5 500 000 C4 000 000
Further information about the revaluations:

x Fair values are determined every 2 years.
x All valuations are carried out by independent valuers. The latest valuations were performed by
Erynn Noble (VA)SA.
x The land in Cape Town was revalued for the first time on 31 December 20X6.
x The land in Johannesburg was previously revalued to its fair value of C8 000 000 on
31 December 20X4.
x No other revaluations other than those referred to above have ever been processed.
86 Chapter 8
Profit for the year, before considering the above information, is as follows:
x 31 December 20X5: C3 700 000
x 31 December 20X6: C5 700 000
Equity accounts at 31 December 20X4 were as follows:

x Ordinary share capital: C3 000 000 (this has remained unchanged for many years).
x Retained earnings: C19 400 000.
There has been no movement in equity other that which is evident from the information
provided.
Required:
Disclose the above in the financial statements of Drama Limited for the year ended 31 December 20X6,
Accounting policy notes are required
Ignore tax.
Part B:
Use the same information given in Part A, together with the following information:
x The tax authorities levy income tax at 30% of taxable profits.
x Capital gains are included in taxable profits using a capital gains inclusion rate of 80%.
x The cost of land is not deductible in the calculation of taxable profits.
x The profits for the year have been stated after tax.
x Drama Limited intends to keep the land.
x There are no permanent or temporary differences, other than those evident.
Required:
a) Disclose the above in the financial statements of Drama Limited for the year ended
31 December 20X6, in accordance with International Financial Reporting Standards.
b) Briefly explain the deferred tax implications of the revaluation of land.
Question 8.6
You are the auditor of a large bathroom supplies company called The Running Tap Limited, which
has a December year-end. The accountant of The Running Tap Limited qualified in the United
States, and is thus not completely familiar with IFRS. He has approached you regarding two issues
that need clarification before the current financial statements for the year ended 31 December 20X0
may be finalised.
All of the non-current assets were revalued during the current year. For this reason, no
impairment tests were performed on any assets during the year.
Required:
a) Discuss whether you agree or disagree with the decision not to perform impairment tests.
b) Although the accountant does not believe that he has to perform any impairment testing,
he has requested that you explain what this would involve were it necessary for him to
perform an impairment test.
c) Explain to the accountant the meaning and use of the following three terms: recoverable
amount, residual value and net realisable value. Your answer should include an explanation as
to how each of these amounts are used, and how they would be calculated.
Chapter 8 87
Question 8.7
Coffee Culture owns a plot of land:

x The land had been purchased on 15 June 20X4 for C825 000
x The land is held under the revaluation model and is not depreciated.
x Fair values were measured as at the following dates:
31 December 20X4: C825 000;
31 December 20X5: C792 000.
x There was no evidence of impairment of the land at 31 December 20X4, and thus the
recoverable amount on this date was not calculated, but that the recoverable amount was
calculated at 31 December 20X5 (see the three separate scenarios in the ‘required’).
Required:
Process all journals for the years ended 31 December 20X4 and 20X5 assuming each of the
following scenarios when calculating the recoverable amount at 31 December 20X5:
a) When determining the recoverable amount at 31 December 20X5, costs of disposal costs
were considered to be immaterial and the value in use is C808 500.
b) When determining the recoverable amount at 31 December 20X5, costs of disposal costs
were considered to be immaterial and the value in use is C775 500.
c) When determining the recoverable amount at 31 December 20X5, costs of disposal costs
were estimated to be C11 000 and the value in use is C775 500.
Question 8.8
Curious Limited has a year end of 31 December. The accountant would like you to explain
and/or calculate the following:
a) IAS 16: terms
Explain the difference between the cost model and the revaluation model, and what the
terms actually refer to.
b) IAS 16: revaluation model - increase in value; ignoring tax
Plant cost C100 000 on 1/1/20X1. Depreciation is provided at 20% per annum on the
straight-line basis. The fair value is C90 000 at 1/1/20X2. The residual value is assessed
to be zero and this has remained unchanged since acquisition. The company wishes to
apply the net replacement value method and to transfer the realised portion of the
revaluation surplus to retained earnings annually.
i. Calculate and journalise the change in value of the plant.
ii. Calculate and journalise the depreciation of the plant for 20X2.
iii. Calculate and journalise the amount of the transfer from the revaluation surplus to
retained earnings and explain why the company makes this transfer.
c) IAS 16: revaluation model - increase in value; with tax
Same information as in (b) above, except that there is a tax allowance of 20% per annum
on the straight-line method and that the applicable tax rate is 30%.
d) IAS 16: revaluation model - decrease in value; ignoring tax
straight-line basis. The fair value is C70 000 at 1/1/20X2. The residual value is assessed
to be zero and this has remained unchanged since acquisition.
88 Chapter 8
The company wishes to apply the net replacement value method and to transfer the
realised portion of the revaluation surplus to retained earnings annually.
e) IAS 16: revaluation model - decrease in value; with tax
Same information as in (d) above, except that there is a tax allowance of 20% per annum
on the straight-line method and that the applicable tax rate is 30%. Show all journals.
f) IAS 16: revaluation model – impairment; ignoring tax
straight-line basis. The recoverable amount is C70 000 at 1/1/20X2.
The residual value is assessed to be zero and this has remained unchanged since
acquisition. The company transfers the realised portion of the revaluation surplus to
retained earnings annually.
g) IAS 16: cost model - increase in value; ignoring tax
Same information as in (b) above, except that the company uses the cost model and the
recoverable amount is C90 000 at 31 December 20X1.
h) IAS 16: cost model - decrease in value; ignoring tax
Same information as in (f) above, except that the company uses the cost model and the
recoverable amount is C70 000 at 31 December 20X1.
i. Calculate and journalise the change in value.
The revaluation model is applied using the net replacement value method.
The entity intends to recover the carrying amount through use.
Question 8.9
Lemon Limited purchased a plant on 1 January 20X3 for C630 000, on credit. Depreciation is
provided over its useful life of 5 years to a nil residual value using the straight-line method.
x Measurement model: Revaluation model
x Depreciation:
Useful life: 5 years
Residual value: Nil
Method: Straight-line
The plant had a fair value of C504 000 on 1 January 20X5 and a fair value of C420 000,
measured as at 1 January 20X6.
Lemon Limited transfers the maximum amount from the realised portion of the revaluation
surplus to retained earnings over the useful life of the plant.
Chapter 8 89
Required:
Prepare the journals for the plant for the years ended 31 December 20X3 to 20X6 assuming:
a) The gross replacement value method is used;
b) The net replacement value method is used.
Ignore tax.
Question 8.10
Maroon Limited has plant that cost C100 000 on 1/1/20X1. Depreciation is provided over the
useful life of 5 years on a straight-line basis to a nil residual value.
The company uses the revaluation model for subsequent measurement of its property, plant
and equipment and accounts for revaluations on the net replacement value method. The fair
values listed below were measured using the cost approach.
x The fair value, as determined by an independent valuer, at 1/1/20X2 amounts to C120 000
The company transfers the maximum amount possible from the revaluation surplus to
retained earnings on an annual basis.
Impairment testing at the end of each year found that the recoverable amounts were higher
than carrying amounts.
Required:
Journalise the transactions for the years ended 31 December 20X2, 20X3 and 20X4.
Ignore tax.
Question 8.11
Greenpeace Limited is a manufacturing entity that operates throughout the world and is dual-
listed on both the JSE Ltd and London Stock Exchange.
The company purchased an item of plant on 1 July 20X5. It was installed and available for
use in the manner intended by management on the same day. The cost of the plant was
C900 000. It has an estimated useful life of four years and a nil residual value.
Greenpeace Limited uses the revaluation model for the measurement of its property, plant and
equipment and, due to the nature of its operations, the company has a policy of revaluing its
property, plant and equipment on an annual basis. The net replacement value method is used. The
company transfers the revaluation surplus to retained earnings as the asset is used.
The fair value of the plant was estimated using discounted cash flows by an independent
valuer at 30 June 20X6 and 30 June 20X7 as shown in the following table. The useful life and
residual value remained unchanged.
Date Fair value
30 June 20X6 C825 000
30 June 20X7 C400 000
The profit before tax has been correctly calculated at C300 000 for the year ended 30 June 20X7.
There were no indicators of impairment at any stage during the year.
90 Chapter 8
Part A
The company’s tax expense for the year ended 30 June 20X7, correctly calculated, is C87 000,
Required:
a) Prepare journal entries relating to plant for the financial year ended 30 June 20X6.
Ignore journals relating to the deferred tax effect of the revaluation.
b) Prepare relevant extracts from the:
x Statement of comprehensive income for the period ended 30 June 20X7;
x Statement of changes in equity for the period ended 30 June 20X7; and
x Statement of financial position at 30 June 20X7.
c) Prepare relevant extracts from the notes to the financial statements of Greenpeace Limited
at 30 June 20X7.
The accounting policy for property, plant and equipment is required.
The statement of compliance and basis of preparation notes are not required.
Tax and deferred tax notes are not required.
Part B
Tax-related information includes the following:

x The corporate income tax rate is 29% and has not changed since the plant was purchased.
x The tax authority allows the deduction of the plant's cost by way of an annual tax allowance
calculated at 25% per annum on cost.
There are no other temporary or non-temporary differences other than those apparent from the
information given . Greenpeace Limited intends to keep this plant.
Required:
a) Prepare all journals relating to plant for the financial year ended 30 June 20X6.
b) Prepare relevant extracts from the:
x Statement of comprehensive income for the period ended 30 June 20X7;
x Statement of changes in equity for the period ended 30 June 20X7; and
x Statement of financial position at 30 June 20X7.
c) Prepare relevant extracts from the notes to the financial statements of Greenpeace Limited
at 30 June 20X7.
The accounting policy notes for property, plant and equipment and deferred tax are required.
The statement of compliance and basis of preparation notes are not required.
Question 8.12
Magnum Limited operates in the tool manufacturing industry. It owns equipment with the
following characteristics:
C
Cost Original cost a few years ago 500 000
Carrying amount (and tax base) At 31 December 20X5 (immediately before revaluation) 300 000
Fair value (first revaluation) At 31 December 20X5 (this is the first revaluation) 550 000
Chapter 8 91
Income tax rate is levied at 30% and the capital gains inclusion rate is 80%. The base cost for
capital gains tax purposes equalled the cost price.
The deferred tax balance was zero before the revaluation of the asset.
Required:
Show the deferred tax journal, assuming:
a) the entity intends to recover the carrying amount of the equipment through use.
b) the entity intends to recover the carrying amount of the equipment through sale.
Question 8.13
Values Limited uses the revaluation model and has a policy of revaluing their assets to fair
values on a two-yearly cycle using the net replacement value method.
Plant was purchased on 1 May 20X5 at a cost of C450 000.

x It has a useful life of five years with no residual value.
x Depreciation is provided on the straight-line method over the plant’s estimated useful life.
x Values Limited intends to recover the carrying amount of their plant through use.
x At 31 December 20X6, its recoverable amount was C220 000.
x At 31 December 20X8:
The plant was revalued, by an independent valuer, to a fair value of C190 000, where
the fair value was measured using the cost approach in an active market, using
‘level 1’ inputs per IFRS 13 Fair value measurement.
The revaluation surplus is to be transferred to retained earnings over the asset’s
remaining useful life.
The recoverable amount was C205 000.
x At no stage was there a change in the asset’s expected useful life, residual value or
method of depreciation.
Profit before tax has been correctly calculated at C800 000 in 20X9 and C600 000 in 20X8.

x allow wear and tear to be deducted at 20% of the cost per annum, apportioned for time.
x levy income tax at 30% on taxable profits.
There are no other temporary or permanent differences other than those apparent from the
information given.
Required:
a) Journalise the above transactions from date of original purchase.
b) Prepare the statement of comprehensive income for the year ended 31 December 20X9
c) Prepare the statement of changes in equity for the year ended 31 December 20X9 in
d) Prepare the following notes for the year ended 31 December 20X9 in accordance with
International Financial Reporting Standards:
x Profit before taxation
x Taxation, deferred taxation and tax on comprehensive income
x Property, plant and equipment.
Comparatives are required.
92 Chapter 8
Question 8.14
Lightenlove Limited previously measured its property, plant and equipment using the cost
model but, in 20X3, changed its accounting policy to the use of the revaluation model instead.
The company’s property, plant and equipment consists of the following:

x Plant;
x Office building; and
x Land.
The land consists of two plots:

x Erf 167 in Durban Beach Street (5 100 m2 in extent): vacant but used as a parking lot,
x Erf 300 in Durban Hill Street (5 100 m2 in extent): vacant.
The necessary valuations were done as at 31 December 20X3 by Sipho Ndlovu. Sipho is an
independent valuer and a member of the Institute of Valuers. Valuations will be performed
annually hereinafter. The following fair values were measured based on an active market:
Plant C3 000 000
Office building C4 100 000
Land (2 vacant plots) C2 000 000 (C1 000 000 per plot)
None of these items have ever been impaired in the past.
The assets’ carrying amounts at 31 December 20X2 (under the cost model) were as follows:
Plant C2 100 000
Office building C2 200 000
Land (2 vacant plots) C1 500 000 (C750 000 per plot)
The plant:
x was purchased on 1 January 20X1 at a cost of C2 600 000;
x is depreciated at 10% per annum; and
x has a residual value of C100 000 (unchanged).
The office building:

x originally cost C3 100 000 (the portion of the cost that is attributable to the land on which
it is built is considered immaterial);
x is depreciated at 5% per annum; and
x has a residual value of C100 000 (unchanged).
Land is not depreciated.
Revaluations are recorded using the gross replacement value method. Transfers of the
realised portion of the revaluation surplus to retained earnings are to be made annually.
There was no other movement of property, plant and equipment during 20X3.
The company’s intention is to:

x sell the plant;
x keep the vacant plot of land that is currently used as a parking lot (Erf 167) but sell the
other vacant plot of land (Erf 300); and
x sell the office building.
The criteria for recognition as a ‘non-current asset held for sale’ were not met for any asset.
Chapter 8 93
There are no differences between taxable and accounting profit other than those evident from
Information relating to the local tax legislation:

x Corporate income tax is levied on taxable profits at 30% (unchanged for many years).
x The inclusion rate for capital gains is 80%.
x The tax authorities do not allow deductions for either the buildings or land.
x The tax authorities allow a 10% capital allowance on the purchase price of plant.
x The base cost of both land and buildings equals cost whereas the base cost of plant is
C2 800 000.
Required:
a) Show the calculation of the deferred tax balances at 31 December 20X2 and
31 December 20X3, using the balance sheet approach. Show all workings and indicate
whether each balance is a debit or credit to the deferred tax account.
b) Provide the journal entries relating to plant in the general journal for the year ended
31 December 20X3.
c) Present the following line items in the statement of financial position as at
31 December 20X3 in accordance with International Financial Reporting Standards:
x Property, plant and equipment
x Deferred tax.
d) Disclose the office building in the property, plant and equipment note for the year ended
31 December 20X3, in accordance with International Financial Reporting Standards and
the Companies Act of 2008.
Question 8.15
Part A
Peasy Limited purchased a specialised item of plant, details of which are as follows:
Cost (purchased on credit) C660 000
Date of purchase 1 January 20X4
Useful life 5 years
Residual value Nil
Depreciation method Straight-line
Peasy Limited measures plant under the revaluation model. The following fair values were
calculated for this item of plant:
1 January 20X6 C528 000
1 January 20X7 C440 000
Peasy Limited transfers the maximum amount from the realised portion of the revaluation
surplus to retained earnings over the useful life of the plant.
Required:
Prepare the journals for the plant for the years ended 31 December 20X4 to 20X7 assuming:
a) The gross replacement value method is used.
b) The net replacement value method is used.
94 Chapter 8
Part B
Assume the same scenario as in Part A above.
Required:
To the extent of the information available, prepare an extract from the statement of changes in
equity and the property, plant and equipment note of Peasy Limited for the years ended
31 December 20X6 and 20X7 in accordance with International Financial Reporting Standards.
Accounting policies and comparatives are not required.
Question 8.16
Part A
Nomad Limited is a large listed company which produces the main component used in satellites
that are sent out on NASA missions. Its financial year end is 30 June.
The company purchased an item of specialised equipment at a cost of C800 000 on

1 July 20X0. The useful life is expected to be 5 years. The company measures its equipment
under the cost model.
Details regarding this equipment follow:

x During the 20X1 financial year, a major competitor managed to achieve significant
technological developments, and this led management to assess the recoverable amount of
the equipment, at 30 June 20X1, as follows:
Fair value C460 000
Costs of disposal C20 000
Value in use C380 000
x Towards the end of the 20X3 financial year, it became apparent that the competitors’ new
technology developed in 20X1 was not commercially viable. Management reassessed the
equipment’s recoverable amount, at 30 June 20X3, to be:
Fair value C500 000
Costs of disposal Negligible
x The method of depreciation and the estimated useful life of the equipment has remained
unchanged throughout. The residual value is estimated to be nil (also unchanged).
x All fair values have been measured using the cost approach using level one inputs and the
value in use is calculated by an independent valuer using observable market inputs.
Profit before tax for the year ended 30 June 20X3 before accounting for any expenses or
income relating to the equipment amounts to C300 000.
The current tax payable balance at 30 June 20X2 (C33 000), was settled during the year.
Tax-related information:
x The tax authorities grant a tax allowance of 33⅓% per annum on the straight-line basis in
relation to this equipment.
There are no other permanent or temporary differences other than those evident from the
Chapter 8 95
Required:
a) Prepare the journal entries to account for the above information for the years ending
30 June 20X1 and 30 June 20X3.
b) To the extent possible, prepare all extracts from the statement of comprehensive income,
statement of financial position and notes to the financial statements of Nomad Limited for the
June 20X3 financial year in accordance with International Financial Reporting Standards.
Accounting policies and comparatives are not required.
Part B
Use the same information given in Part A above, except for the following:
x Nomad Limited uses the revaluation model to measure its equipment (not the cost model)
and where the fair values of this equipment were measured as follows:
C460 000 on 30 June 20X1; and
C500 000 on 30 June 20X3.
Revaluations are accounted for using the net method, and the realised portion of the
revaluation surplus is transferred to retained earnings when the equipment is disposed of.
x The entity has no intention of selling this item of equipment.
x The recoverable amounts at 30 June 20X1 and 20X3 do not apply. Instead, the recoverable
amounts have been calculated in each year and found to be greater than the asset’s
carrying amount (therefore the equipment was not considered to be impaired at any stage).
Required:
Prepare the journal entries to account for the equipment for the years ending 30 June 20X1 and
30 June 20X3 assuming that the net replacement value method is used.
Part C
Use the same information given in Part A above, except for the following:
x Nomad Limited uses the revaluation model to measure its equipment (not the cost model)
and where the fair values of this equipment were measured as follows:
C460 000 on 30 June 20X1; and
C500 000 on 30 June 20X3.
Revaluations are accounted for using the net method, and the realised portion of the
revaluation surplus is transferred to retained earnings when the equipment is disposed of.
x The entity has no intention of selling this item of equipment.
Note: This Part C differs from Part B in that the details regarding the calculation of the
recoverable amounts at 30 June 20X1 and 20X3 do apply.
Required:
Prepare the journal entries to account for the equipment for the years ending 30 June 20X1,
30 June 20X2 and 30 June 20X3, assuming that the net replacement value method is used.
96 Chapter 8
GAAP: Graded Questions Intangible assets and purchased goodwill
Chapter 9
Intangible assets and Purchased Goodwill
Question Key issues
9.1 - Core concepts – true or false
9.2 Eat Short: Purchased brand, R&D, advertising, masthead and quota
9.3 Apple, A: market share: recognition

Banana, B: patent & staff skills: recognition
Carrot C: licence:
measurement
finite useful life
pattern of consumption of future economic benefits
change in estimate: amortisation method
9.4 Energised Discussion: Brand measurement and disclosure, over purchased brand and
with a proposal to revalue, including amortisation (useful life, residual value)
9.5 Bad Drivers Discussion: Permit recognition, measurement and disclosure with a finite life
9.6 Farout Ledger accounts: Research and development: recognition, measurement

expense or capitalise
recoverable amounts
9.7 Drench Discussion: Brand: recognition and measurement
purchased
staff training
legal fees
amortisation
9.8 Thirsty Discussion: Research and development: recognition and measurement
9.9 Nabs & Discussion: Research and development: recognition:

Prekash
9.10 Luminous Discussion: Trademark, recognition, measurement and disclosure.

Indefinite useful life
9.11 Food Discussion: Trademark recognition and measurement.
Initial recognition, trademark or goodwill
Amortisation
Revaluation
9.12 Goo Critical analysis: Brand measurement

Purchased, renewable brand
Indefinite useful life and impairment testing
9.13 Ghostbusters Discussion: Brand recognition and measurement

Purchased vs internally generated brand
Change in useful life
IAS 8
9.14 Orange Boost Discussion:

a) Purchased, renewable patent: recognition and measurement
b) Market share: recognition
Continued on the next page
Chapter 9 97
9.15 Beehive Comparative discussion and journals: recognition and measurement

a) Purchased vs internally generated brand with finite lives: recognition
and measurement
b) R&D: Recognition and measurement
c) Patent discussion: Measurement (useful life determination)
9.16 Gummy Berry Discussion: Website costs, recognition, measurement, SIC 32

Juice
9.17 Wonder-sale Journals and disclosure: Website costs recognition, measurement and
disclosure.
Development: Capitalised expenses
Amortisation and impairment
9.18 Alastair’s Discussion: advertising catalogues: recognition and measurement

natural Part A: catalogues received before year end, paid for before year end, to be
remedies used in a promotion after year end.
Part B: catalogues received after year end, paid before year end, to be used
in a promotion after year end.
Chapters A and B are the chapters that include ‘Integrated Questions’ (questions that combine
different IFRSs).
98 Chapter 9
Question 9.1
a) An intangible asset is any identifiable asset, other than monetary assets, that has no
physical substance.
b) Before an entity may recognise an intangible asset, it must have control over the asset.
c) Before an entity may recognise an intangible asset, it must have legally enforceable rights
over an item's expected future economic benefits.
d) An intangible asset acquired in a business combination will be expensed by the acquirer if
the definition of intangible asset is not met (e.g. the identifiability criteria is not met).
e) Internally generated customer lists, brands and goodwill may be capitalised.
f) Intangible assets are always initially measured at cost.
g) When measuring the fair value of intangible assets, it is always done with reference to an
active market.
h) The two measurement models that may be used to subsequently measure intangible
assets include the cost model and the fair value model.
i) The revaluation model is generally considered to be impractical for the subsequent
measurement of intangible assets.
j) Not all intangible assets are amortised, as some have indefinite useful lives.
k) All intangible assets must be amortised using the straight-line method
l) Intangible assets are amortised over the asset’s economic useful life starting from the
date it is first available for use.
m) The residual value used when amortising an intangible asset is generally zero.
Required:
Indicate whether each the above statements are true or false and briefly justify your answer.
Question 9.2
Eat Limited is a diversified company involved in a wide range of activities in the food industry.
The following independent transactions relate to the company’s activities both during the
current year and during prior years (listed below).
a) The company purchased a brand on 2 January 20X0 for C2 000 000. At acquisition, the
estimated useful life of the brand was twenty years, and this has remained unchanged.
There is no commitment from a third party to acquire the brand at the end of its useful life.
At 31 December 20X3, the directors believe that the brand is now worth C5 000 000.
b) In the past, the company began a research and development programme (known as the
‘super tin project’) for a new vacuum-sealed tin that extends the shelf-life of tinned food.
During the current year, C300 000 was incurred on research costs from 1 January 20X3
to 31 March 20X3. On 1 April 20X3, the R&D director announced that all the development
phase recognition criteria were met. A further C1 500 000 was incurred on development
costs from 1 April 20X3 to 31 December 20X3. At this stage the directors believe that the
‘super tin project’ will have an indefinite useful life. The recoverable amount of the ‘super
tin project’ at 31 December 20X3 is estimated at C2 000 000.
c) On 1 February 20X3, the company purchased a fishing quota to catch 500 tonnes of fish
at a total cost of C1 000 000. 50 tonnes of fish were caught from 1 February 20X3 to
31 December 20X3. There is an active market for fishing quotas and the fair value of the
quota at 31 December 20X3 amounted to C1 350 000.
Chapter 9 99
d) A large advertising promotion was carried out during the second half of the 20X3 year at a
cost of C220 000. The costs relate to the creation of advertising brochures and the
recording of a radio advert. The directors believe that the main benefits of this programme
will occur during the 20X4 year. In addition, an amount of C25 000 was paid in advance to
the BBC to air the adverts during 20X4.
e) The company publishes its own consumer magazine and has incurred costs of C270 000
in previous years in promoting the magazine and its masthead ‘Food Matters’. A further
C30 000 was incurred in the current year. The directors believe that the masthead is very
valuable and can be sold for at least C1 300 000.
The accounting policy of Eat Limited is to measure intangible assets using the cost model,
except for intangible assets for which there is an active market, in which case they are
measured using the revaluation model.
Required:
Explain, giving reasons, how each of the above transactions should be dealt with in the
financial statements of Eat Limited for the year ended 31 December 20X3, in accordance with
Your answer should include all relevant recognition and measurement issues (ignore
definition and disclosure issues).
Question 9.3
The following scenarios are unrelated.
Part A
Apple Limited is a successful engineering business. Over the past few years, the company
has achieved a market share for its products of 30%. At a recent board meeting, the directors
suggested recognising an intangible asset for this market share.
Required:
Briefly discuss whether the market share can be recognized as an intangible asset in terms of
IAS 38 Intangible Assets.
A discussion of the recognition criteria is not required.
Part B
Banana Limited is a company in the IT industry. The success of the company is built around
software which it has developed internally and for which a patent is registered as well as the
skills of the staff that operate the software. Staff members are required to give one month’s
notice of their resignation.
Required:
Briefly discuss whether the patent and the staff skills can be recognized as intangible assets
in terms of IAS 38 Intangible Assets.
A discussion of the identifiability criteria is not required.
Part C
Carrot Limited manages and operates toll roads on major national routes throughout the
country. The company purchased a licence to operate a toll road in the Eastern Cape
seventeen years ago for an amount of C10 000 000, this right being correctly recognised as
an intangible asset on the date of purchase.
100 Chapter 9
It was expected that the toll road would be in use for twenty years and the economic benefits
will flow to the entity evenly over this period.
The estimated toll road usage is 1 000 000 cars per year. At the time, there were no plans to
construct alternative routes in the area. There is no active market for toll road licences.
During the current year, the government announced plans, and construction began on a
bridge in the area, that would significantly reduce usage of the toll road.
The directors estimated that the economic benefits flowing to the entity would decrease each year
over the remaining three years. The estimated toll road usage is expected to drop to 800 000 cars,
600 000 cars and 400 000 cars, respectively, over the remaining three years of the licence.
The right to operate the toll road was correctly recognized as an intangible asset upon purchase
seventeen years ago.
Required:
To discuss the accounting issues relating to the measurement of the licence for the toll road
over its economic life.
Question 9.4
Energised Limited has owned the Mola Tonic brand name for many years, this purchased
brand name having been the mainstay of the company’s business. The brand is currently
recorded in the financial statements at a nil carrying amount (being its original cost of
C40 million less accumulated amortisation of C40 million).
The directors of the company estimate that the current value of the brand is in excess of
C100 million and wish to revalue the brand accordingly.
Required:
Discuss how to measure and disclose the brand name in the financial statements of
Energised Limited in terms of IAS 38 Intangible assets.
Question 9.5
Bad Drivers Limited is a bustling and growing company involved in the taxi industry:
x Bad Drivers Limited operates a number of taxis in the greater Durban area and is a key
player in transporting a large number of the Durban workforce to and from work daily.
x The company was informed on 2 January 20X9 that it had been successful in its
application for a special driving permit that allows its drivers to use the dedicated bus
lanes. The use of the bus lanes will shorten travelling time and thus facilitate the transport
of more passengers, thereby increasing profitability. The cost of the permit is C1 000 000.
x No other taxi company is able to obtain this permit, as only one is issuable by the
provincial government at any one time.
x The permit is valid for a period of 5 years, following which it will be up to the provincial
government to decide who will be able to purchase the next such permit: although
Bad Drivers is sure that it will apply to have the permit renewed for the next 5 years after
the expiry of this current 5-year permit, it is not yet certain or probable that it would be
successful in such a bid.
The financial director expensed the cost of the permit in the year it was received. The
managing director believes that the cost of the permit should be capitalised.
Chapter 9 101
Required:
Discuss the recognition, measurement and disclosure of the special driving permit in the
financial statements of Bad Drivers Limited for the year ended 31 December 20X9 in terms of
the International Financial Reporting Standards.
Question 9.6
Farout Limited is attempting to produce a new toothpaste that will feature gold stars
embedded in the paste. The following relates to the research and development thereof.
The following costs were all paid for in cash:

Year C Comments
1 50 000 Research
2 30 000 Development: not all criteria necessary for capitalisation were met
3 40 000 Development: all criteria necessary for capitalisation were met
4 20 000 Development: all criteria necessary for capitalisation were met
5 10 000 Development: not all criteria necessary for capitalisation were met
Recoverable amounts are calculated as follows:

Year C
3 50 000
4 50 000
5 55 000
Required:
Post the above transactions to the general ledger accounts of Farout Limited.
Question 9.7
Drench Limited is a company involved in the hair industry supplying products to some of the
most expensive hair salons around the world. In a bid to expand its market, it acquired a well-
known brand, Droplets, on 1 January 20X5, for an amount of C2 500 000. The salons will
now have the exclusive right to market this product to its customers.
x This purchase price was paid in full on 1 January 20X5.
x The Drench Limited hair stylists had to be sent on extensive training before they could use and
sell the Droplet range of hair products. The training took place in Italy during January 20X5. The
training manuals cost C80 000 and the accommodation and transport cost C120 000.
x Further to this, an amount of C175 000 was spent on legal fees regarding the drafting of the
sales agreement and to register the transfer of ownership. The legal fees were paid on
1 January 20X5.
x The use and sale of the Droplet range began on 15 February 20X5.
x The Droplet brand has an estimated useful life of ten years.
Required:
IAS 38 Intangible Assets, defines an intangible asset as ‘an identifiable non-monetary asset
without physical substance’. With reference to IAS 38, explain:
a) whether the Droplet brand can be recognised as an intangible asset; and
b) how to measure the Droplet brand in Drench Limited’s financial statements for the year
ended 31 March 20X5.
102 Chapter 9
Question 9.8
Soak is a revolutionary type of can which has been developed internally by Thirsty Limited over the
past two years. The can has a re-sealable top which allows the can to be sealed after opening to
prevent the gas from escaping. In January 20X1 the idea for this new product was launched, and a
loan of C5 million was obtained from Stantec Bank in order to finance this project.
The associated costs and activities for the year ended 31 May 20X2 are shown below:
x 01 June 20X1 – 31 July 20X1: C20 000 per month on market surveys to establish whether
or not consumers would want such a can. The market surveys suggest that there is a
market for the can amongst environmentally consciousconsumers.
x 01 August 20X1 – 30 September 20X1: C200 000 for the evaluation of a number of
alternative prototypes and designs.
x End of September 20X1: a design is chosen and engineers produce a plan which
indicates that it is technically possible to produce the Soak can.
x 01 October 20X1 – 31 January 20X2: C1 100 000 for the design and construction of a
pilot manufacturing plant. This plant is not capable of operating on a scale economically
feasible for commercial production.
x 01 February 20X2 – 31 May 20X2: C600 000 for the testing of the pilot manufacturing plant.
All expenditure incurred has been confirmed by the accounting department.
Thirsty Limited has applied to register the Soak can as a patent.
Required:
Discuss, with reference to IAS 38 Intangible Assets, the correct accounting treatment for all
the costs incurred in relation to the Soak can for the year ended 31 May 20X2. (Use the
definitions of ‘research’ and ‘development’ in your answer).
Question 9.9
Nabs and Prekash, two trainee accountants are unsure as to how to account for research and
development costs. One of them believes that all associated research and development costs
should be expensed, as it is a running cost for all businesses that will not always result in future
economic benefits. The other believes that all costs incurred for research and development should
be capitalised, since by doing research and development, a company is possibly adding to its
income generating structure, which will be able to be used over more than one period. They have
approached you to help them as you are very familiar with the accounting standards.
Required:
In a memo format, please respond to Nabs and Prekash’s query regarding how to recognise
the research and development costs in terms of IAS 38 Intangible Assets.
Question 9.10
Luminous Limited owns a well-known fashion trademark called Purple Square. This was purchased
from a competitor for an amount of C10 million. The trademark has an indefinite useful life.
Required:
Discuss how to account for the trademark in the financial statements of Luminous Limited in
terms of IAS 38 Intangible assets.
Chapter 9 103
Question 9.11
You are the auditor of a few small companies and have been asked to advise Food Limited
on how to deal with the following transaction:
Food Limited is a fast-food company. In order to facilitate expansion, Food Limited purchased
100% of another successful food company. The purchase negotiations were settled during
the year as follows:
x The total purchase price for the business amounted to C40 000.
x The net identifiable tangible assets acquired were stipulated in the purchase agreement
at their fair value of C19 500.
Although the purchase agreement stipulated that Food Limited also acquired the legal rights
to a trademark for a period of 22 years, no value was attached thereto. The reason is that the
trademark was internally generated by the seller and was thus not recognised in the seller's
financial statements, despite it having been a most profitable trademark for many years.
Initial Recognition: Food Limited intends to record the purchased trademark in its financial
statements at C20 500, calculated as follows:
C
Purchase price 40 000
Less fair value of net identifiable tangible assets 19 500
Trademark 20 500
Amortisation: Food Limited is unsure whether or not to amortise the trademark since it
believes that the trademark is so profitable that it has an indefinite useful life.
Impairment testing and revaluing to fair values: Food Limited intends to revalue the
trademark annually using the revaluation model.
Required:
Discuss the proposed accounting treatment of the trademark in the financial statements of
Food Limited. Your discussion should be set out under the following sub-headings:
a) Definitions and recognition criteria relevant to the acquisition of the trademark
b) Initial recognition
c) Amortisation
d) Impairment testing and revaluing to fair values
Question 9.12
Goo Limited owns a brand ‘gobblers’, to which legal rights for a 25-year period were purchased on
1 January 20X1 for C500 000, renewable for a further 5 years at a further cost of C1 000 000. The
‘gobblers’ brand is reflected in the statement of financial position at its carrying amount of C500 000.
A review of past figures makes it clear that the profits from the brand ‘gobblers’ are diminishing
dramatically. At the time of the purchase, it was estimated that this brand would render annual profits
of C80 000 and at that time, it appeared so successful that its useful life appeared to be indefinite.
The budgeted profit figures presented at the end of the 20X2 financial period indicated a slight
(immaterial) dip in future expected profits but, taken together with the latest budgeted profits
presented at a directors meeting on 29 December 20X3, make it clear that these annual profits of
C80 000 are on a downward spiral.
104 Chapter 9
These latest budgeted figures show the present value of the future total estimated net cash
inflow of C200 000 over the remaining legal life. Goo Limited has the option to dispose of this
brand to a local businessman who has recently (December 20X3) offered to purchase it for
C220 000. The only selling costs that are expected will be C2 000 in legal fees. The current
financial year ends on 31 December 20X3
Required:
Critically analyse the measurement of the ‘gobblers’ brand in the financial statements of
Goo Limited.
Question 9.13
Ghostbusters Limited has been operating the House of Horrors theatre in Durban for 20 years. The
following information relates to the brand ‘House of Horrors’:
x The House of Horrors theatre has been in operation since the early 1950s. The previous
owners, Mr Casper and Mr Spooky had built the brand name, making it known as the
premiere theatre, presenting live shows of only the very best quality.
x When Mr Casper and Mr Spooky sold their brand name, they felt that the offer of
C500 000 from Ghostbusters Limited was ridiculously low, but since they were under
financial pressures, they were forced to accept the offer. Being a little eccentric, however,
Casper and Spooky threatened to haunt the theatre and ensure that people went
elsewhere to enjoy live shows, announcing their threat in a widely distributed newspaper.
x Ghostbusters Limited, believing the threat to be an idle one, capitalised the cost of the
brand name upon its purchase 20 years ago.
x The brand was not amortised since the theatre had been so popular for so long that there
was no reason to believe that this would ever change and thus the management argued
that the brand should remain on their statement of financial position indefinitely.
x About five years ago, Mr Casper and Mr Spooky died unexpectedly from food poisoning
after eating at a local restaurant. Almost immediately, mysterious things began happening
at the theatre, making many of the usual patrons reluctant to return. Profits plummeted
dramatically and, whilst the company was not yet in financial difficulties, these profits
have never recovered.
x Some of the older management remembered the previous owners’ threat and suggested
that, if they changed the theatre’s brand name, these ‘things’ may stop happening.
x The proposal was accepted, and the theatre was closed on 31 May 20X9 for rebranding.
The theatre then re-opened on 1 July 20X9 with the new name ‘Opera Phantom’, the new
name created by the marketing department.
x The old brand name was written off in the current year and the cost of re-branding was
capitalised as the new brand name as it was expected that all the old patrons would
return and that even more new patrons would come to enjoy the theatre.
Required:
Critically analyse the above issue, explaining whether the treatment is correct or incorrect and
justifying your advice with reference to International Financial Reporting Standards.
Question 9.14
Orange Boost Limited is involved in the energy and sports market. It produces:
x the ‘Go Further’ energy drink (under patent); and
x the ‘Hang-In’ energy bar (developed in-house).
Chapter 9 105
The patent for the ‘Go Further’ energy drink was purchased during January 20X5 for C814 000. This
cost was capitalised. In terms of the patent agreement, the legal rights were for a period of seven
years, renewable for a further three years at a cost of C1 000 0000. During June 20X6 Orange
Boost obtained the rights for ‘Go Further’ to be the official sports drink at all endurance sport events
in South Africa for the next five years, commencing from 1 January 20X7.
Orange Boost has amortised this patent over a period of ten years with a residual value of
C100 000. At 31 December 20X8 the ‘Go Further’ patent is recognised in the Statement of
Financial Position at C528 400. A review of past sales figures for ‘Go Further’ energy drinks
indicated a steady average increase of 25% year-on-year.
The ‘Hang-In’ energy bars are specifically aimed at endurance athletes. Over the last thirty
years, Orange Boost has achieved a market share for these bars of 50% and is known to
employ high quality scientists and the services of professional athletes. Orange Boost’s
competitive edge with regard to the energy bars is due to the fact that these bars contain very
small quantities of preservatives and are based on organic and naturopathic principles.
Recently, a local actuary measured the value of having cornered 50% of the market at
C1 000 000 and the directors want to know if and how they may capitalise this.
Orange Boost Limited’s reporting period ends on 31 December.
Required:
a) Discuss the accounting treatment of the ‘Go Further’ patent in the financial statements of
Orange Boost Limited. Structure your answer as follows:
i) Initial recognition and initial measurement
ii) Residual value
iii) Useful life and amortisation
iv) Impairment testing
b) Discuss the proposed capitalisation of Orange Boost Limited’s market share in relation to the
identifiability criterion of the intangible asset definition in terms of IAS 38 Intangible Assets.
Question 9.15
Beehive Limited is a company in the confectionery business that owns a number of intangible
assets. A list of the intangible assets owned by Beehive together with some detail is provided below:
x The company owns a brand called ‘Orange blossom’.
- This brand was acquired on 1 April 20X6 for C2 000 000.
- The life of the ‘Orange blossom’ brand is expected to be ten years.
- There is no active market for this brand.
x The company owns a brand called ‘Infused ginger’.
- This brand has been developed by Beehive Limited and during May 20X6, further
development took place at a cost of C300 000.
- The life of the ‘Infused ginger’ brand is expected to be ten years.
- There is no active market for this brand.
x A novelty sweet bottle that glows in the dark is currently being developed.
- The initial research into the technical feasibility of this product and its potential market
cost C800 000 during 20X4.
- Development began on 1 March 20X4 and has cost Beehive Limited a total of
C34 000 000 to 31 December 20X6.
- All development costs incurred during 20X4 met the criteria for capitalisation.
- Throughout 20X5, cash flow problems resulted in Beehive Limited being unsure of
their ability to continue the development of this prototype.
106 Chapter 9
- The cash flow problems were resolved in early January 20X6 with the securing of a
loan liability from Dodge Bank.
- Development costs were incurred evenly over the three years.
x The company owns a right to manufacture under a patent for a period of five years.
- This patent was purchased on 1 September 20X6 for C5 000 000.
- The patent has an expected life of twenty years.
- This patent may be renewed for a further period of three years for a sum of C30 000.
Required:
a) Briefly compare aspects of the recognition and measurement of each of the two brands, Orange
blossom and Infused ginger. Your answer should consider:
i) Recognition: Infused ginger brand versus Orange blossom brand
ii) Measurement: residual value for purposes of amortising the Infused ginger brand and
Orange blossom brand
iii) Measurement models: Infused ginger brand versus Orange blossom brand
iv) Journal entries: show the journal entries (relating to both brands) that would have been
processed during 20X6
b) Briefly discuss aspects of the recognition and measurement of the research and development of
the sweet bottle that glows in the dark in the financial statements of Beehive Limited. Your
discussion should consider:
i) Recognition: research versus development of the novelty sweet bottle in each of its years
ended 31 December 20X4, 20X5 and 20X6
ii) Measurement: amortisation and impairment testing of research versus development of the
novelty sweet bottle
c) Discuss the determination of useful life for the purpose of amortising the patent in the financial
statements of Beehive Limited for the year ended 31 December 20X6.
Question 9.16
Gummy Berry Juice Limited (GBJ) is a small, but highly successful advertising firm that has
always been operating a manual accounting system. A couple of years ago, they purchased
computers and related technical equipment, and have been in the process of computerising
all their operations. The IT manager has recently approached the financial manager to
discuss the feasibility of taking GBJ’s operations online. Their conversation was as follows:
IT manager: I think that it is time we decided to expand our business online. We

could increase our profits drastically in this way as the majority of
business seems to be concluded online nowadays.
Financial manager: That seems like a good business idea, Bob, but will cause a major
headache on my side, since I now have to find out how to account for
the costs incurred to do this whole online mumbo jumbo. I qualified
years ago before all this fancy stuff was around and haven’t bothered
to update myself recently as I’m nearing retirement.
IT manager: I’m sorry that it will inconvenience you, but it really is in the best
interests of our business. I know of a firm that is quite up to date with
all the IFRSs and their accompanying interpretations, maybe they can
help you? Here are their contact details.
Financial manager: Thank you so much for your help Bob! Perhaps this is not so daunting
after all...perhaps we’ll even get bonuses for increasing profits!
Chapter 9 107
The financial manager subsequently wrote to your firm, The Groovy Accountants, asking for
your advice on how to treat the website costs that will be incurred.
Required:
Write a letter responding to the query regarding the recognition and measurement of the
website costs, making specific reference to IAS 38 Intangible Assets and SIC 32 Website
costs. Your letter should include a discussion of all website costs.
Question 9.17
Wonder-Sale operates solely online to sell their products. It hosts its own website from a server
situated on their property and has a storage warehouse for goods that still need to be delivered.
Wonder-Sale operates two main divisions: the advertising division that promotes their business and
its products, and the sales division that handles the despatch of products and collection of monies.
The company website is similarly split into two distinct areas: one that deals with advertising and one
that deals with sales.
A fire destroyed the premises of Wonder-Sales on 31 March 20X9 and when the employees tried
accessing the business’s website, found that it was completely corrupted, being unable to recover
any of the information off the website.
Foul play was suspected from the disgruntled accountant (it was later found that the accountant was
a very sophisticated computer specialist with pyromaniac tendencies).
A new website was created between 1 April and 30 June 20X9 and the costs incurred during this
period (all paid in cash) were as follows:
Advertising Sales
The five payments related to the following: C C
x A feasibility study (is online business still feasible) 10 000 20 000
x Customer preference study (what would customers prefer 20 000 15 000
to see and use on a website)
x New licences (to operate on the web) 5 000 5 000
x Computer specialists’ fees for designing the websites 45 000 50 000
x Upgrade fees (this occurred on 31 December 20X9 and
will be necessary every 6 months thereafter) 5 000 5 000
This new website was available for use from 1 July 20X9 and it is estimated that it will need to
be entirely redesigned after 5 years.
The new web design will not be able to be sold due to its unique nature. The cost of the new
website is considered to be material.
The previous website:

x was amortised over a total useful life of 3 years to a nil residual value; and
x had a carrying amount of C50 000 at the beginning of the year with a remaining useful life of
2 years.
Required:
a) Show all journals that would have been processed in the year ended 31 December 20X9.
b) Disclose the intangible assets note as at 31 December 20X9 in accordance with International
108 Chapter 9
Question 9.18
Part A
Alastair’s Natural Remedies retails health products, including vitamins and supplements.
x The company ordered 12 000 catalogues, at a cost of C2 each, to advertise its products.
x The amount owing to the printer was settled 30 days from receipt of the catalogues.
x These catalogues were received from the printers on 1 September 20X8 and are to be
distributed to customers evenly from 1 September 20X8 to 30 November 20X8, as a
promotional activity for the holiday season.
Required:
Discuss the recognition and measurement of the cost of the catalogues in the financial
statements of Alastair’s Natural Remedies for the year ended 30 September 20X8, in terms of
IAS 38 Intangible Assets.
Part B
Use the same information as that provided in Part A, except:
x the amount owing to the printer has been paid in advance on 15 August 20X8, when the
order was placed.
x Alastair’s Natural Remedies Limited has a financial year end of 31 August 20X8.
Required:
Discuss the recognition and measurement of the cost of the catalogues in the financial
statements of Alastair’s Natural Remedies for the year ended 31 August 20X8, in terms of
IAS 38 Intangible assets.
Chapter 9 109
GAAP: Graded Questions Investment properties
Chapter 10
Investment properties
Question Key issues
10.1 True/ false Core concepts
10.2 Short questions Classification, recognition and measurement: various definitions

Measurement models: IAS 16 versus IAS 40
Transfers in and out
10.3 Green Tree Change in use: investment property to owner occupied property
10.4 Mountain Change in use: Investment property to owner occupied property

Properties Sale of investment property: with and without development
10.5 Victoria Three properties:

Property Group x Classification and measurement:
Property, plant & equipment: Cost model
Investment property: Subsequent expenditure; fair value model
x Investment property: fair value unavailable
10.6 Propaholic Change in use: owner-occupied to investment property

- Investment property: Fair value model
- Property, plant and equipment: Cost model
10.7 Tromp Investment property: fair value model

Fair value: indeterminable and then determinable
Initial and subsequent costs: conveyancer’s fees, painting, air-conditioning
10.8 Gary Investment property: fair value model

-Joint use
-Ancillary Services
-Transfers out of investment property
10.9 Charlies Spot Fair values unavailable at acquisition, comparing:

property under construction and property not under construction
10.10 Angazi Recognition and measurement

Measurement models: pros and cons
Property held as a right-of-use asset: sub-let
Joint use (separable)
10.11 Edwardes Change in use: owner occupied property to investment property

Investment property: fair value model
Property, plant and equipment: revaluation model (NRVM)
10.12 Trontheim Change in use: owner-occupied to investment property

Investment property: fair value model
Deferred tax: intention to sell
10.13 Cloudy Investment property: fair value model

Property, plant and equipment: cost model
Implications of use of property on recognition and measurement
Change in use
Joint use
Continued on the next page
110 Chapter 10
Questions continued … Key issues
10.14 Owlface Two properties:

- Investment property: fair value model
- Property, plant and equipment: cost model
Change in use: investment property to owner occupied property
Impairment and derecognition
10.15 Snake Change in use: various

- Investment property: fair value model
- Property, plant and equipment: cost model
Fair value:
- Indeterminable on acquisition
- Determinable subsequent to acquisition
10.16 Lighthouse Investment property: fair value model

Deferred tax: Intention to keep
10.17 Sun Republic Investment property: fair value model

Deferred tax: intention to sell
Chapters A and B are the Integrated Questions chapters.
Chapter 10 111
Question 10.1
a) Investment property includes plant and machinery from which rental income is earned or
which is held for capital appreciation.
b) Assuming all other aspects of the investment property definition are met (property held to
earn rentals, or for capital appreciation, or both) if an entity, as a lessee, holds a property
as a right-of-use asset under a finance lease, where ownership thereof will transfer to the
entity at the end of the lease, this property will be accounted for as investment property by
the entity. Conversely, if the entity holds the property as a right-of-use asset under an
operating lease, at the end of which ownership will not transfer to the entity, the entity
may not account for this property as an investment property.
c) Land held for undetermined use, buildings owned and leased to a third party under a
finance lease and property occupied by employees who pay rent at market rates would all
qualify as investment property.
d) Investment property may be measured in terms of either the cost model or fair value
model, where this choice is an accounting policy choice.
e) When measuring investment property using the cost model, we must always depreciate
the asset and test it for impairments.
f) If a portion of a property meets the definition of investment property and the remaining
portion is owner-occupied, the entire property is accounted for as investment property.
g) P Limited is the parent of S Limited. P Limited leases a property under an operating
lease to S Limited. S Limited uses the property as its head-office. P Limited will account
for this property as investment property but S Limited and the P & S Group would account
for it as property, plant and equipment.
h) The subsequent measurement models are selected on a property-by-property basis, i.e. some
investment properties can be measured using the cost model while others are measured using
the fair value model.
i) When the fair value model is applied, all investment property must be measured at fair
value, regardless of whether the fair value is reliably measurable on a continuing basis.
j) Transfers into and out of investment property may only occur when management
intentions have changed regarding the intended use of the property, such that the
definition of investment property will no longer be met, or the definition will be met when it
previously had not been met.
k) F Limited purchased a building on 01 January 20X1 for C500 000 to be used to earn
rental income. It incurs the following costs upon purchase:
x transfer duty totalling C50 000
x start-up costs totalling C10 000, necessary to bring the property to the condition
necessary for it to be used to earn rental income
x improvements to building totalling C70 000
x wastage totalling C30 000 incurred during the improvements.
The amount at which the building is initially recognised is C630 000.
Required:
Indicate whether the above statements are true or false and provide a brief explanation as to
why you believe they are true or false.
Question 10.2
a) Explain the difference between an investment property and an owner-occupied property.
112 Chapter 10
b) What are the two measurement models allowed for investment properties and briefly
explain how these two models compare to the two models allowed for property, plant and
equipment that is owned.
c) Give four examples of evidence of a change in use that would result in a transfer being
made either into or out of investment property.
Required:
Provide brief answers to each of the above questions.
Question 10.3
Green Tree Limited acquired a property on 1 January 20X8 at a cost of C4.2 million. It was
immediately leased out as an investment property for a period of 1½ years until 30 June 20X9. On
1 July 20X9 the company took occupation of the property as its administrative headquarters.
The fair values of the property were determined as follows:

x On 31/12/20X8: C4 500 000
x On 01/07/20X9: C5 200 000
x On 31/12/20X9: C5 300 000
The accounting policy of the company is to depreciate buildings at 4% per annum on the
straight-line basis. The company adopts the cost model for property, plant and equipment and
the fair value model for investment properties.
Required
a) Prepare an extract from the notes to the financial statements showing the ‘statement of
compliance’ and ‘basis of preparation’ notes as well as the accounting policy notes for
‘property, plant and equipment’ and for ‘investment property’
b) Prepare an extract from the profit before tax note for the year ended 31 December 20X9.
c) Prepare an extract from the statement of financial position at 31 December 20X9.
Supporting notes are not required.
Comparatives are required
Question 10.4
Mountain Properties Limited is a property development company. You have been approached
by the newly-appointed financial accountant, Mr Peak, for advice on IAS 40 Investment
property. Mr Peak has provided you with the following list of issues relating to the investment
properties that had occurred during the year:
Issue 1
On 31 July 20X7, a massive landslide damaged the property on which the company’s head-
office was situated. Its head-office was immediately relocated to the Himalaya property. The
Himalaya property was previously let to tenants under an operating lease. The fair value of
the Himalaya property was as follows:
C
31 December 20X6 21 420 000
31 July 20X7 21 840 000
As at 31 July 20X7:
x the land element of the property is C5 040 000; and
x the property had an estimated remaining useful life of 20 years.
Chapter 10 113
Issue 2
x On 30 November 20X7, Mountain decided that two investment properties should be sold:
Andes Property Fuji Property
Fair value: 31 December 20X6 C12 600 000 C16 800 000
Fair value: 30 November 20X7 C11 760 000 C17 220 000
x The Andes Property is to be sold after redevelopment.
Redevelopment of the Andes Property commenced on 30 November 20X7.
x The Fuji Property is to be sold without redevelopment.
Issue 3
During 20X7, two new investment properties were bought for a total of C71 400 000. Legal
and transfer fees amounted to an additional C1 680 000.
Additional information
x The company uses the cost model for property, plant and equipment and the fair value
model for investment properties. All properties measured under the cost model are
depreciated on the straight-line basis over the asset’s useful life.
x The combined fair value of the investment properties is as follows:
C
31 December 20X6 420 000 000
31 December 20X7 525 000 000
Required:
a) Explain how issues 1, 2 and 3 should be accounted for in the financial statements of
Mountain Properties Limited for the year ended 31 December 20X7.
b) Calculate the fair value adjustment in respect of investment properties to be recognised in
profit or loss for the year ended 31 December 20X7.
Question 10.5
Victoria Property Group owns three properties. The financial accountant, Angel, is in the
process of finalising the financial statements for the year ended 31 August 20X5. She has
been recently appointed because the previous financial accountant resigned. You have
requested all the information regarding the properties. Due to her busy schedule she has
scrawled some details onto a Post-It.
PPE = COST MODEL, INVESTMENT PROP = FV MODEL

No impairment indicators found when assessed during the year.
If asset to be depreciated, use straight-line.
Rodeo Drive: Bought 1 Sept X4 @ C7 500 000. A portion was allocated to

value of the land, calculated at C825k. Used as our warehouse. At year-
end, other similar warehouses in the area @ the same size were being
sold for C9 240 000.
Estimated UL= 40 years. Residual value = nil
Jimmy Walk: Purchased 1 March 20X3 to rent out. Cost C11 220k. Was
disclosed @ FV of C16 830k in last year’s AFS. This year, Victoria
upgraded the property (more parking plus extra rentable rooms) at a cost
of C10 230k, resulting in a new municipal valuation at year end of
C31 020k (good indication of FV) and also resulted in increased rent.
Estimated UL = 20 years Residual value = nil
Fifth Avenue: This was purchased 8 months ago, at a cost of C13 860k,
with the intention of capital appreciation. Very specialised property
though and seems impossible to measure FV. Currently rented out to
animal lobbyist group.
Estimated useful life = 40 years Residual value = C200 000
114 Chapter 10
Required:
Describe, giving reasons, how Victoria Property Group should account for these properties in
the financial statements for the year ending on 31 August 20X5.
Question 10.6
Propaholic Limited owns an office block. The office block had cost C1 000 000 on 1 January 20X4.
Its residual value is estimated to be nil and total useful life is estimated to be 10 years respectively
(both estimates have remained unchanged). Propaholic Limited had occupied the office block from
date of purchase until 30 June 20X5.
On 30 June 20X5, Propaholic moved out of the office block and thereafter rented it to tenants under
short-term operating leases. The fair value of the office block on this date was C900 000.
The fair value of the office block was C800 000 on 31 December 20X4 and C1 200 000 on
31 December 20X5.
Propaholic measures owner-occupied property using the cost model and investment property
using the fair value model.
Required:
a) Journalise the entries relating to the office block in the accounting records of Propaholic
Limited for the year ended 31 December 20X5.
Ignore tax.
b) If Propaholic Limited leases its office block to one of its subsidiary companies, explain
how the office block must be measured in:
z Propaholic Limited’s financial statements; and
z the group financial statements.
Question 10.7
Tromp Limited is an investment company that purchases buildings and holds them for a
number of purposes, such as resale, leasing and its own use.
On 1 January 20X4, Tromp Limited purchased an old building, Tromp Towers, for C300 000.
Conveyancer’s fees amounted to C20 000.
x This building is situated in an isolated part of Durban (South Africa) and there is no development
anywhere nearby. At the time of purchase, there had been no property transactions in this area
for many years and the possibility of leasing the building to tenants was remote.
x During November 20X4, development began of a new industrial park in the area. As a
result, the building was able to be leased to tenants involved in the development of the
industrial park. Due to the influx of people into the area, the directors decided to paint
one side of the building with the corporate logo of Tromp Limited.
x This building has never had an air-conditioning system. After numerous complaints from
tenants about not being able to tolerate the Durban heat, Tromp Limited decided to
upgrade the building by installing a ducted air-conditioning system on 1 December 20X4.
The cost of installation included the following:
Adjustments to the structure of the building C30 000
Painting C50 000
Air-conditioning system C200 000
Installation costs C50 000
The ducted air-conditioning system has a 10-year life and a nil residual value.
Chapter 10 115
x As a result of the new industrial park, there was suddenly a demand for properties in the area.
As a result, the fair value of Tromp Towers was able to be determined on 31 December 20X4 at
C420 000. Tromp Limited would like to measure this investment property at fair value now that
fair values have become available.
x The building has a 10-year useful life and an estimated residual value of C50 000.
Tromp Limited also holds other investment property, which is measured under the fair value
model. The fair value of this other investment property is as follows:
x 1 January 20X4 C1 000 000
x 31 December 20X4 C1 250 000
Required:
a) Journalise the entries that would arise from the above information for the year-ended
31 December 20X4.
b) Prepare the accounting policy for investment property and the investment property note
for the year-ended 31 December 20X4.
Question 10.8
Gary Limited and its subsidiary, Fairvalue Limited, need assistance in accounting for some of
their properties:
a) A block of flats of 6 storeys. The first 3 storeys are occupied by Gary Limited and used for
administration purposes. The top 3 storeys are vacant but are expected to be leased out in the
near future.
b) An office consisting of 10 rooms. Three of the rooms are used as an office by Gary Limited while
the other 7 are rented out. Ancillary services provided to the rooms are not significant.
c) Fairvalue Limited, which is a subsidiary of Gary Limited, is a property dealer. Sales have
dropped recently. The directors of Fairvalue have thus decided to diversify their business.
One property, a block of flats, will now be refurbished and leased out under operating
leases. Another one of their properties that was previously held for sale, a town house,
will now be held for capital appreciation. Fairvalue uses the fair value model to measure
its investment property.
Required:
For the above properties, discuss how they should be classified and measured:
in the financial statements of Gary Limited for parts (a) and (b); and
in the financial statements of Fairvalue Limited for part (c).
Question 10.9
Charles Class the CEO of a small property company called Charlie’s Spot Limited, purchased two
properties in a remote area called Een Boom Sonder Blare. He is currently seeking advice on how
to classify and measure the properties for the financial year ending 31 December 20X2.
The details of the properties (both purchased on 1 January 20X2) are as follows:
x A block of flats, costing C500 000 (to lease out to tenants);
x An office-block, currently being constructed: costs to date are C100 000, (to lease out to
tenants). This office block is expected to be completed on 31 October 20X3. Due to the
desperate shortage of office blocks in the surrounding area, Charles believes that a fair value for
this office block will be available immediately on (or shortly before) completion of construction.
116 Chapter 10
No-one currently lives in Een Boom Sonder Blare and thus fair values for both properties are
currently not reliably determinable (there are no comparable market transactions and, until
both the block of flats and office block are occupied, an alternative reliable estimate is not
possible: a reliable estimate based on discounted future cash flows projections is not possible
until both blocks are occupied).
Charles expects that, give or take a few months after he has completed the construction of
the office block, the combined existence of these two properties will encourage developers to
construct more property in the area, in which case, the properties will become valuable and
fair values will become reliably determinable on a continuing basis.
Charles has indicated that he would want his properties to be measured at fair value.
Required:
Write a letter to Charles explaining how his properties should be classified and measured in
the financial statements for the year ending 31 December 20X2.
Question 10.10
Angazi Limited owns an office park that it developed during the current reporting period. It is
also a lessee in a number of properties held under lease agreements.
Angazi Limited’s head office is situated in the office park in a stand-alone building. The
balance of the office park, containing two stand-alone properties, is let to tenants under non-
cancellable operating leases.
The Chief Executive Officer of Angazi Limited has insisted that the financial manager
measures all their properties using the cost model per IAS 16 Property, Plant and Equipment
since he believes this model is the cheapest measurement model to implement (as fair values
will not be required) and would have the least impact on the financial statements.
Required:
Prepare a letter to the financial manager of Angazi Limited explaining how these properties
should be recognised and measured, also indicating whether the Chief Executive Officer’s
assumptions are correct.
Question 10.11
On 31 August 20X8, Edwardes Limited moved its manufacturing division out of the property
that it owned on a freehold basis and into larger leased premises. This freehold property,
consisting of land and a factory building, was immediately leased out to an unrelated party
under a non-cancellable ten-year operating lease.
The freehold property had originally cost C10 400 000 (purchased on 1 January 20X3), on
which date its total useful life was estimated to be 25 years and its residual value was
estimated to be nil.
The freehold property was revalued for the first time on 31 December 20X6:
x the land was revalued upwards by C1 million to reflect its fair value; and
x the factory building was impaired by C1,8 million.
Further revaluations were performed on 31 August 20X8 and 31 December 20X8.
Chapter 10 117
The following details pertain to this factory land and buildings:

Land Buildings (25-year useful life)
C’000 C’000
Cost 1 January 20X3 2 400 8 000
Carrying amount 31 December 20X7 3 400 4 686
Fair value at 31 August 20X8 4 000 7 500
Fair value at 31 December 20X8 4 180 7 900
Land and buildings that are classified as property, plant and equipment are measured under
the revaluation model, using the net replacement cost basis and are depreciated using the
straight-line basis. Investment properties are measured under the fair value model.
Required:
Prepare the journal entries to record all the matters relating to the factory land and buildings,
including its change of use, for the year ended 31 December 20X8. Ignore taxation.
Question 10.12
Trontheim Limited purchased a property at a cost of C11 000 000 on 1 July 20X6. At the date of
purchase the directors estimated that C2 000 000 of the cost was attributable to the land and
C9 000 000 of the cost was attributable to the building. The base cost of both the land and buildings
equalled the purchase cost.
The building is depreciated on the straight-line basis over a period of twenty-five years with a
residual value of C1 000 000. The tax authorities grant an allowance on buildings at 5% per
annum on the straight-line basis.
At 30 June 20X7, there were indications that the value of the building is impaired. The
recoverable amount on this date was estimated to be C7 240 000. The useful life and residual
value remained unchanged.
The property was used as Trontheim’s executive offices from 1 July 20X6 until 30 June 20X8.
At 30 June 20X8, Trontheim moved its executive offices to rented premises and, in turn,
rented this property to Bodo Limited, for a period of three years commencing 30 June 20X8.
Trontheim intends keeping the building for rental and capital appreciation purposes.
Trontheim uses the cost model to measure property, plant and equipment and the fair value model
to measure investment property. The fair value of the building is estimated at C8 500 000 on
30 June 20X8 and at C9 200 000 on 30 June 20X9.
The land is not depreciated and there are no tax allowances on the land. The fair value of the land
was estimated at C2 000 000 on both 30 June 20X8 and on 30 June 20X9.
An extract from Trontheim Limited’s accounting policies reads as follows:

‘Deferred tax is provided at the normal company tax rate on temporary differences relating to
property, plant and equipment held for use and on temporary differences relating to investment
property at fair values below cost. Deferred tax is provided at the capital gains tax rate on
temporary differences relating to investment property at fair values above cost’.
The profit before tax was correctly calculated, taking into account all the information provided above,
at C3 230 000 for the year ended 30 June 20X8 (C2 600 000 for the year ended 30 June 20X9).
The tax rate is 28% and the inclusion rate for capital gains is 80%. There are no other
permanent or temporary differences other than those evident from the information provided.
The company uses the net replacement value method to account for changes in fair value.
118 Chapter 10
Required:
a) Prepare the journal entries relating to the building for the years ending 30 June 20X7,
20X8 and 20X9.
The journal entry relating to the purchase of the property is not required.
The journal entries relating to taxation and deferred taxation are not required other than
any journal entry relating to a revaluation surplus (if any).
b) Show how the tax expense note is reported in the notes to the financial statements for the
year ended 30 June 20X9 (including comparative figures for 20X8) in accordance with
The tax rate reconciliation note is not required.
c) Prepare the investment property note for inclusion in the notes to the financial statements
at 30 June 20X9 in accordance with International Financial Reporting Standards.
Comparative figures and additional narrative information are not required
Question 10.13
Cloudy Limited has its head-office building located in Gabon Street in Marrakesh. It also
owned a building nearby in Kalahari Avenue that it rented to Wealthy Limited, a reliable and
reputable tenant.
Cloudy Limited uses the fair value model to measure its investment properties and the cost
model to measure its property, plant and equipment.
On 30 September 20X8, a volcanic eruption destroyed the building in Kalahari Avenue. In

order to retain Wealthy Limited as a tenant, Cloudy Limited offered to lease 70% of its head-
office building square-meterage to them as a ‘replacement’ under an operating lease. The
operating lease commenced with immediate effect, on 1 October 20X8.
Details relating to the head-office building in Gabon Street are as follows:

x The Gabon Street building was purchased on 1 April 20X8 and was depreciated at 10%
per annum to an estimated residual value of nil.
x Fair values were determined on 30 September 20X8 and 31 March 20X9.
x The cost and fair value details are as follows:
Cost price: 01 April 20X8 C2 820 000
Fair value: 30 September 20X8 C3 760 000
Fair value: 31 March 20X9 C3 854 000
x It is not possible for the 70% portion of the building to be separately sold or leased out to
a third party under a finance lease.
Required:
Prepare a memorandum to the financial director of Cloudy Limited explaining how the building
in Gabon Street should be recognised and measured in the financial statements for the year
ended 31 March 20X9. Suggested journals should be included in your letter.
Use a single account to record movements in the head office’s carrying amount.
Ignore tax.
Question 10.14
Owlface Limited owns two buildings:

x a head office building located in Johannesburg; and
x another office building located in Pretoria.
Chapter 10 119
The office building located in Johannesburg is used as Owlface Limited’s head office. A
minor earthquake, on 30 June 20X5, destroyed this building. The building in Johannesburg
had been purchased on 1 January 20X5 for C1 200 000. The building has a total useful life of
10 years and a residual value of nil.
The property in Pretoria was leased under an operating lease to a tenant, Spider Limited. After the
earthquake, Owlface Limited urgently needed new premises for its head office. Since Spider Limited
was always late in paying their lease rentals, Owlface Limited decided to evict them and move its
head office to this building in Pretoria. This eviction and relocation was effective from 30 June 20X5.
x The building in Pretoria was purchased on 1 January 20X5 for C500 000.
x On 30 June 20X5, the fair value of the building in Pretoria was C950 000.
x There was no change in fair value at 31 December 20X5.
x The total useful life was estimated to be 10 years from date of purchase and the residual value
was estimated to be nil.
Owlface Limited uses:

x The cost model to measure its property, plant and equipment; and
x The fair value model for its investment properties.
Required:
a) Journalise the above in the books of Owlface Limited for the year ended 31 December 20X5.
Ignore tax.
b) Define ‘investment property’ and ‘owner-occupied property’.
c) Define fair value and explain how it is calculated.
Question 10.15
Snake Limited is in the construction industry. It constructs buildings for resale, for leasing and
for private use.
A building that Snake Limited had constructed in Cape Town for sale in the ordinary course of
business (at a cost of C800 000) had been on the market for 2 years and was still not sold. On
1 March 20X5 Snake Limited took it off the market and instead leased it to tenants. Its fair
value was C1 500 000 on 31 December 20X5 and C1 000 000 on 1 March 20X5.
The fair value of a building in Bloemfontein (which has always been leased to tenants) has
never been determinable. This building was completed on 1 January 20X2 at a cost of
C5 000 000. Its total estimated useful life is 10 years. Fair values are now considered
possible and the accountant is adamant that the asset should either be measured under the
fair value model forthwith or that the depreciation on the building should be measured using
an estimated residual value of C1 000 000 (previously the residual value was nil). The
estimated useful life has remained unchanged. The fair value on 31 December 20X5 was
C9 800 000.
On 30 September 20X5, Snake Limited leased its old head office building in Durban to a tenant. The
original cost was C4 000 000 (acquired on 30 September 20X3), on which date the total useful life
was 10 years and its residual value was nil. The fair value was C3 700 000 on 31 December 20X5.
The fair value on 30 September 20X5 was equal to its carrying amount.
On 30 September 20X5, Snake Limited evicted the tenants from a building in Johannesburg
and moved its head office into the building. On this day, the fair value was C4 000 000, the
remaining useful life was 5 years and the residual value was C500 000. The fair value of this
building was C3 000 000 on 31 December 20X4.
120 Chapter 10
The following additional information is relevant:

z All leases were operating leases.
z Rentals earned from the investment properties totalled C2 000 000.
z Rates paid totalled C1 000 000.
z Snake Limited applies the fair value model to its investment properties and the cost model
to its property, plant and equipment.
Required:
Disclose the investment property note and the profit before tax note in Snake Limited’s
financial statements for the year ended 31 December 20X5.
Ignore tax and comparatives.
Question 10.16
Lighthouse Limited owns a building called The Playroom. The Playroom is a sky-scraper in
Singapore, which is leased out to many night-club and restaurant owners. The directors
intend to keep this building and rent it over its entire useful life.
Information relating to the building:

x A cost of C600 000 on 31 July 20X4 (date of purchase)
x A useful life of ten years and a nil residual value, unchanged since date of purchase.
x Fair values as follows:
31 December 20X4 C750 000
31 December 20X5 C? There was a deferred tax credit balance of C90 000
on this date that related purely to the temporary
differences arising from this investment property.
Information related to the company’s accounting policies:

x Measures all investment property using the fair value model;
x Measures all property, plant and equipment using the revaluation model;
x The tax authorities allow a deduction of 10% per annum on the cost of the building (not
apportioned for part of a year).
x Taxable capital gains are calculated by the tax authorities at 50% of the capital gain and
are taxed at 30%. The base cost of the Lighthouse equalled the original cost price.
Required:
Prepare the journal entries to account for The Playroom in Lighthouse Limited’s general
journal for the years ended 31 December 20X4, 20X5 and 20X6.
Question 10.17
Sun Republic Limited owns The Palms, a building situated on the Durban beachfront.
x Sun Republic Limited purchased this building on 2 January 20X5 for C200 000 cash.
x There are no tenants in the building at present and Sun Republic Limited identified that
the building would be a prime investment as the area around The Palms was being
extensively developed.
Chapter 10 121
x The business plan is that, once this development is completed, this property is expected
to attract a very high price, at which point the building will be sold. The property does not
meet the criteria for classification as a non-current asset held for sale.
x The fair values of the building were as follows:
x The tax authorities allow a deduction of 5% per annum on the cost of the building (not
x The corporate income tax rate is 30%. Taxable capital gains are calculated by the tax
authorities at 50% of the capital gain. The base costs equalled the original cost price.
x The building, when purchased, was determined to have a useful live of ten years and a nil
residual value.
x Sun Republic Limited accounts for all investment property using the fair value model.
Required:
Prepare the journal entries to account for The Palms building, using Sun Republic Limited's
general journal, for the year ended 31 December 20X5, 20X6 and 20X7.
122 Chapter 10
GAAP: Graded Questions Impairment of assets
Chapter 11
Impairment of assets
Question Key issues

11.2 Rummy Core concepts – short calculations
11.3 Tartan Determining impairment losses and impairment loss reversals:
x Cost model and impairment testing
x Investment property and impairment testing
11.4 Willie Wonker Whether the recoverable amount should be calculated:
x Previous calculation of recoverable amount is available
x External and internal indicators of impairment exist
x Intangible asset not yet available for use
11.5 Pinkie & the Recoverable amount calculation focusing on value in use calculation:
Brain x identifying the relevant cash flows
x calculating value in use (discount rate given)
x calculating recoverable amount
11.6 Tuna Value in use calculation involving:
x an asset that generates foreign currency cash flows
11.7 Contain-It Impairment loss and impairment loss reversal:
PPE: Revaluation model - Non-depreciable
11.8 True/ false & Part A: Core concepts – cash generating units (CGUs)
Short questions Part B: Core concepts – allocation of impairments and impairment reversals
to individual assets within a CGU (no corporate assets)
11.9 Boom Impairment of cash generating units (CGUs):
Part A: Allocation of impairment loss to individual assets in a CGU (with no
corporate assets)
Part B: Allocation of impairment loss to various CGU’s (with corporate assets)
11.10 K&S Impairment testing process and disclosure – CGUs
11.11 Elna Impairment losses of a single CGU involving:
x goodwill
x scoped out assets
x recoverable amount for certain assets is known
11.12 Nicky Impairment of two CGUs:
x recoverable amounts for individual assets not known; but
x fair value less costs of disposal for certain assets is known.
Part A: with no corporate assets and with no goodwill
Part B: with corporate assets but with no goodwill
Part C: with corporate assets and with goodwill
11.13 Little Italia Impairment and impairment reversals relating to two CGUs:
x goodwill
x assets measured under the cost model and revaluation model
11.14 Miss Fortune Reversal of impairment losses of a CGU involving:
x goodwill
x assets measured under the cost model and revaluation model
x recoverable amounts for certain assets are known
Further questions incorporating this topic with other topics can be found in
Chapter 11 123
Question 11.1
Part A:
a) The recoverable amount is the greater of value in use and fair value.
b) The recoverable amount must be calculated annually.
c) When calculating recoverable amount, the costs of disposal that we take into account
should not include finance costs and income tax expense.
d) Value in use reflects the present value of the net cash flows from using the asset whereas
fair value less cost of disposal reflects the present value of the net cash flows from selling
the asset.
e) When calculating the value in use of an asset, we should never include cash flows that
are based on projections that exceed a 5-year period.
f) When calculating value in use, we must use a pre-tax discount rate.
g) All assets are tested for impairment in terms of IAS 36 Impairment of assets when there is
an indicator of impairment.
h) If an asset is impaired, the decrease in carrying amount will be recognised as an
impairment loss in profit or loss.
Required:
Indicate whether each of the above statements is true or false and, and provide a brief
explanation as to why you believe it to be true or false.
Part B:
a) The carrying amount of an asset is C50 000, the value in use is C30 000 and the fair
value less costs of disposal is C20 000. The recoverable amount will be C___________.
b) A non-depreciated asset has a cost of C100 000.
At the end of 20X1, it has a recoverable amount of C80 000.
At the end of 20X2, its recoverable amount is C140 000.
At the end of 20X1, ____________ (an impairment loss/ impairment reversal/ no journal entry)
of C_________ (fill in the amount of the journal, if applicable) will be processed.
At the end of 20X2, ____________ (an impairment loss/ impairment reversal/ no journal entry)
of C_________ (fill in the amount of the journal, if applicable) will be processed.
c) A depreciable asset was purchased on 1 January 20X1 at a cost of C100 000. It is depreciated
over a 5-year useful life to a residual value of nil. At 31 December 20X1, it has a recoverable
amount of C72 000. At 31 December 20X2, its recoverable amount is C55 000.
At 31 December 20X1, ____________ (an impairment loss/ impairment reversal/ no journal
entry) of C_________ (fill in the amount of the journal, if applicable) will be processed.
d) A depreciable asset was purchased on 1 January 20X1 at a cost of C100 000. It is
depreciated over a 5-year useful life to a residual value of nil. At 31 December 20X1, it has a
recoverable amount of C72 000. At 31 December 20X2, its recoverable amount is C70 000.
Required:
Fill in the missing words and/ or amounts.
124 Chapter 11
Question 11.2
Rummy Limited has been experiencing declining sales in the past year. It owns a single
factory plant. Imagine each of the follow five scenarios relating to the plant at 31 December
20X2 (all amounts reflected in the table are measurements as at 31 December 20X2):
Scenario 1 Scenario 2 Scenario 3 Scenario 4 Scenario 5

Measurement model Cost Cost Revaluation Revaluation Revaluation
model model model model model
Actual carrying amount C23 000 C20 700 C27 600 C20 700 C20 700
Historical carrying amount C23 000 C23 000 C26 450 C23 000 C23 000
(depreciated cost)
Recoverable amount C18 400 C27 600 C23 000 C27 600 C27 600
Fair value C15 000 C15 000 C27 600 Unknown C24 150
Depreciated fair value C24 150
See note 1 See note 2
Note 1: In scenario 4, the actual carrying amount at 31 December 20X2 is currently less than its
depreciated fair value because it had been impaired in a prior year.
Note 2: In scenario 5, the actual carrying amount at 31 December 20X2 is currently less than its
depreciated fair value because it had been devalued in a prior year.
Required:
Provide the adjusting journals for each of the above scenarios.
Question 11.3
On 15 August 20X2, Tartan Limited purchased land in a remote area of the Eastern Cape at a
cost of C150 000. The land is held for future development into a retirement village that would
render rental income, though this development will only take place when transport links to the
area are made available. The land is measured under the cost model and is not depreciated.
At each reporting date, the directors estimated the net selling price of the land and the value in use of
the land (based on the intention to keep it for future development). These estimates are as follows:
Reporting date Net selling price Value in use

C C
31/12/X2 165 000 195 000
31/12/X3 135 000 180 000
31/12/X4 120 000 135 000
31/12/X5 180 000 165 000
On 31 March 20X6 the government cancelled all plans to provide transport to the area. There
is no prospect of selling the land and there appears to be no potential alternative use for this
land at all. The cost to Tartan Limited of developing transport links exceeds the present value
of the expected net inflows from operating the resort.
Required
a) Briefly explain whether the newly acquired land is required to be tested for impairment in
terms of IAS 36 Impairment of assets.
b) State the amount at which the land should be recorded in the statement of financial
position at 31 December 20X2 to 31 December 20X5, inclusive.
c) Prepare any journal entries that are needed in relation to the land at each of the above
reporting dates.
d) Describe, giving reasons, how Tartan Ltd should account for the cancellation of the
transport plans on 31 March 20X6.
Chapter 11 125
Question 11.4
Willie Wonker, a famous sweet maker, is in a sticky situation; he knows all there is to know
about making delightful confectionaries but very little (nothing in fact) about IFRS. Willie is in
a quite a state as he wants to comply with IFRS but is struggling with working out whether his
assets are impaired. Having just consumed his fourth Seriously Smart Sugar Sherbet he had
a bright idea and decided to call in an IFRS expert.
Willie Wonker owns the following non-current assets:

x Jelly Bean Machine;
x Seriously Smart Sugar Sherbet Machine;
x Brain Boosting Bar Recipe; and
x Wonker Bar Chocolate Machine.
Jelly Bean Machine:
This machine was purchased many years ago (so many that Willie cannot remember ever
actually buying it) and has been happily producing delicious beans since that date.
At the end of the previous financial year, the accountant, Violet, who subsequently left due to
an incident with a bubble-gum machine, decided that the Jelly Bean Machine was so old it
had to be impaired. However, despite the recent rapid advancement in technology, upon
performing a detailed IFRS-compliant assessment at the end of the prior year, she
determined that its recoverable amount, being the value in use, was double that of its carrying
amount. As a result, no impairment was processed.
During the current year, the market interest rate for Jelly Bean production (which Violet originally
used to calculate the value in use) had remained the same. However, because it is now one year on
and thus the machine is older than when Violet performed her assessment, Willie is considering
calculating its recoverable amount and comparing it to the carrying amount.
Seriously Smart Sugar Sherbet Machine:
There was a recent dramatic drop in sales of Seriously Smart Sugar Sherbet, a product
historically sold in mass quantities. The drop in sales occurred after the Candy Cane Police
raised concerns that the sherbet made people less intelligent.
An urgent interdict, preventing Willie Wonker from selling the sherbet without each packet of
sherbet labelled with a health warning, was passed down by the High Candy Cane Court.
This case was a high-profile case and featured on the front page of almost every newspaper
at the time. The impact of this negative publicity had an immediate and profound effect on
sales of sherbet, as evidenced by the following internal sales forecast data:
The damage to the brand name is considered to be so severe that it is unlikely that the sales
of sherbet will ever fully recover.
Willie is distraught as the demand, immediately before the High Candy Cane Courts urgent
interdict, had been expected to remain strong.
Brain-boosting Bar Recipe:
In a furious rage, Willie Wonker purchased the recipe for a Brain-Boosting Bar which he
hoped would replace the lost demand from the sherbet. Although not ready for immediate use
the recipe is sure to be a success. Willie is currently registering the recipe in his own name.
This is expected to be finalised within the next financial year.
126 Chapter 11
Wonker Choc Bar Machine:
As the financial year has been so hectic, Willie was unable to find any data for the Wonker
Choc Bar Machine. The only information that Willie has is shown below:
Net asset value of the entire ‘Willie Wonker Empire’ C150 000 000
Market price per share 13.50
The number of shares in issue, at the end of the current financial year, are 10 000 000. The
net asset value shown above was calculated before taking into account the total impairment
losses of C5 000 000 relating to the assets other than this machine. Willie would like to test
the Wonker Choc Bar Machine for impairment but is not sure how to go about it.
Required:
Explain whether the recoverable amount must be calculated for each of these assets.
Question 11.5
Pinkie and The Brain are currently planning world domination. However, an unexpected hiccup has
delayed the process. While Pinkie and The Brain were preparing the Laser Beam for use, their
accountant came rushing through, in quite a state, to inform them that, in order to comply with IFRS,
they will have to perform an impairment test on the Laser Beam, but that he did not know how to do
this test. Having previously received an award for their exceptional financial reporting in the past,
they agreed that they should always adhere to the IFRS requirements and thus dropped what they
were doing to help the accountant determine the recoverable amount of the Laser Beam.
The fair value less costs of disposal of the Laser Beam was easy to ascertain as there is an
active market, the Black Market, for these types of assets. The fair value less costs of
disposal was determined to be C165 000 000.
The value in use, however, is proving to be more difficult to estimate. The following items were
available, but Pinkie and The Brain are unsure which ones to include in the value in use calculation:
20X7 20X8 20X9

C C C
Cash inflows directly attributable to the Laser Beam 60 000 000 60 000 000 60 000 000
Depreciation (1 000 000) (1 000 000) (1 000 000)
Necessary maintenance expense to operate the Laser Beam (2 000 000) (2 000 000) (2 000 000)
Salaries of admin staff (2 500 000) (2 500 000) (2 500 000)
Sale of Laser Beam in 20X9 - - 50 000 000
Alterations planned in 20X7 to enhance the Laser Beam (5 000 000) - -
Additional inflows from the alteration - 10 000 000 10 000 000
Pinkie and The Brain have correctly determined that a pre-tax discount rate of 13% is appropriate.
Required:
a) Briefly outline what cash flows should be included in the value in use calculation.
b) Determine the value in use of the Laser Beam at the financial year end 20X6, briefly explaining
why each of the abovementioned items are included or excluded from this calculation.
c) Calculate the recoverable amount of the Laser Beam at the financial year end 20X6.
Question 11.6
Tuna Limited is based in the United States (functional currency: $). Its current financial reporting date
is 31 December 20X1. Tuna owns a plant located and used in South Africa (currency: R).
Chapter 11 127
Tuna expects to use this plant for a further two years after which it will be sold. This expectation is
reflected in the following forecast of the net cash flows from this plant over these remaining two
years:
20X1 20X2 20X3
Net cash inflows from usage R150 000 R80 000
Net cash inflow from disposal - R10 000
Expected average spot rates R8.0: $1 R9.0: $1
Expected closing spot rates R8.2: $1 R9.1: $1
Actual closing spot rates R8.5: $1
The relevant post-tax discount rate for South Africa based on risks in South Africa is 7% (pre-
tax discount rate: 10%) whereas the relevant post-tax discount rate for the United States
based on the risks in the United States is 8% (pre-tax discount rate: 9%).
The plant’s fair value less costs of disposal, at 31 December 20X1, has been estimated at $20 000.
The plant’s carrying amount, at 31 December 20X1, before considering the information above, is
$30 000.
Required:
a) Calculate the plant’s value in use to Tuna Limited as at 31 December 20X1.
b) Process the necessary journal/s at 31 December 20X1, or explain why no journals are required.
Question 11.7
Contain-it Limited offers safe and easily accessible container-based storage for its customers
on a piece of land situated between Durban and Umhlanga. The land was bought on the date
of the company’s incorporation (1 January 20X6) for C800 000. The land is measured under
the revaluation model and is not depreciated.
A year later, due to an influx of people and immense property development in the area, both
the value of the land and the profitability of the company increased. An independent valuer
measured the land's fair value at C1 080 000 as at 31 December 20X6. The next revaluation
is scheduled for 31 December 20X9.
Until 20X7, there had been no previous indications of an impairment, but during the course of 20X7,
other storage companies moved into the area and reduced Contain-it Limited's profitability. The
reduced profit projections were considered to be an indication of an impairment and thus the land's
recoverable amount was calculated at 31 December 20X7 using the following information:
x the fair value and cost of disposal are estimated at C600 000 and C75 000, respectively;
x the value in use was C500 000.
Required:
Show the journal entries that would be processed from 1 January 20X6 to the year ended
31 December 20X8 assuming that the following amounts apply at 31 December 20X8:
a) fair value of C780 000, costs of disposal of C0 and value in use of C700 000.
b) fair value of C840 000, costs of disposal of C0 and value in use of C700 000.
Ignore tax.
Question 11.8
Part A:
a) A cash generating unit is an identifiable group of assets that assist the company in
generating cash flows.
128 Chapter 11
b) Some cash-generating units include assets that are excluded from the scope of IAS 36.
However, when assessing whether or not the cash-generating unit (CGU) is impaired, the
calculation of the CGU’s carrying amount must include these ‘scoped out’ assets if they
were included in the calculation of the recoverable amount.
c) We should always try to calculate the recoverable amount for each individual asset. The
only time we will be unable to calculate the recoverable amount for an individual asset is
when that asset does not generate cash inflows from continuing use that are largely
independent of those from other assets, in which case we must find out which cash
generating unit it belongs to, and include the asset when calculating the recoverable
amount of the cash generating unit instead.
d) A corporate asset is an asset, other than goodwill, that contributes to more than one cash
generating unit.
e) If a cash generating unit includes goodwill, and is found to be impaired, then the impairment is
first allocated against the goodwill and any excess impairment thereafter is allocated on a pro-
rata basis to the carrying amount of all other assets in the CGU.
Required:
Indicate whether the above statements are true or false and briefly justify your answer.
Part B:
An accountant has asked for help in understanding certain aspects of IAS 36 Impairment of
assets. In this regard, you have been asked the following questions:
a) How are impairment losses allocated to the individual assets within a cash generating unit,
where the cash generating unit contains goodwill but no corporate assets.
b) How are impairment loss reversals allocated to the individual assets within a cash generating
unit, where the cash generating unit contains goodwill but no corporate assets.
Required:
Provide brief explanations to the short questions posed above.
Question 11.9
Part A:
Boom Limited has a cash generating unit, made up of the following assets and liabilities.
Assets Carrying amounts Recoverable amount
C C
Plant A 189 000 unknown
Plant B 105 000 unknown
Machinery 21 000 unknown
Total carrying amount of CGU 315 000 252 000
Required:
Calculate how much of the impairment loss must be allocated to each of the items in the
cash-generating unit.
Part B:
Bang Limited has 3 cash generating units (CGU-A, CGU-B and CGU-C) and 2 corporate assets: a
head office building and a research centre. The research centre is only used by CGU-A and CGU-B,
but all three CGUs benefit from the head office building.
Chapter 11 129
The corporate assets are allocated to the CGUs, where appropriate, based on their relative carrying
amounts.
Carrying amounts Recoverable amounts
C C
CGU – A (excluding corporate assets) 840 000 630 000
CGU – B (excluding corporate assets) 1 260 000 1 050 000
CGU – C (excluding corporate assets) 420 000 315 000
2 520 000 1 995 000
Head office building 630 000
Research centre 126 000
Total carrying amount 3 276 000
Required:
Calculate the impairment loss relevant to each of the cash-generating units.
Question 11.10
K & S is a medium sized audit and assurance practice. The partner who heads up the IFRS
division has mentioned in a recent meeting that impairment testing under IAS 36 Impairment
of assets is an important issue for many clients, and the disclosures about impairment testing
in the financial statements are often scrutinised by regulators.
This partner has appointed you as part of the development team to design the IFRS
handbook on impairment of assets for the practice. The two main areas that you will be
working on include the impairment process and impairment disclosures.
Required:
a) Discuss the process that must be followed in testing cash-generating units for
impairments. Your answer should address each of the following issues:
x Identification of CGUs,
x Allocation of assets to CGUs,
x Identification of impairment indicators,
x Calculation of the recoverable amount of a CGU,
x Calculation of the impairment loss of a CGU and
x Allocation of impairment losses to assets within the CGU.
Ignore corporate assets.
b) Outline the disclosure requirements. Your answer should focus on the following:
x The recoverable amount where it is determined as the value in use,
x Periods covered by budgets,
x Sensitivity disclosures,
x Events leading to an impairment.
Question 11.11
Elna Limited has a division that is considered to be a cash-generating unit for purposes of
IAS 36 Impairment of assets. Its recoverable amount at 31 December 20X7 is C130 000.
The carrying amount of the cash-generating unit is C181 000 at 31 December 20X7,
constituted by the following individual carrying amounts as at this date:
x Goodwill (purchased goodwill): C20 000
x Investment property (measured under the cost model): C81 000
x Inventory: C20 000
x Equipment (measured under the cost model): C60 000.
130 Chapter 11
The recoverable amounts at 31 December 20X7 for the goodwill and investment property could not
be estimated on an individual basis, but the recoverable amount for equipment was estimated to be
C40 000. In accordance with IAS 2 Inventory, the net realisable value of the inventory was C15 000.
Required:
Calculate whether the cash-generating unit is impaired and process any necessary journal/s.
Question 11.12
Part A
Nikky Limited has two divisions:

x a Durban-based division, manufacturing a well-known brand: 'Hassle-Free' computers, and
x a Cape Town-based division, manufacturing a well-known brand: 'Trendy Designs' clothing.
Each of these divisions (the computer division and the clothing division) operates as a cash
generating unit (CGU). The following are the carrying amounts of the assets within each of
the CGUs as at 31 December 20X9, after depreciation had been processed:
Assets Computer division (CGU) Clothing division (CGU)
C C
Equipment 800 000 900 000
Furniture 600 000 500 000
Investment property 1 200 000 1 000 000
Vehicles 400 000 -
3 000 000 2 400 000
All the assets are measured under the cost model.
Due to the recent recession, the recoverable amounts of each of the cash-generating units
needed to be calculated, the recession being an indication of possible impairments. The
recoverable amount of each cash generating unit at 31 December 20X9 was determined as:
x the computer division recoverable amount: C2 800 000; and
x the clothing division recoverable amount: C2 175 000.
The furniture's fair value less costs of disposal at 31 December 20X9 was determinable:
x furniture in the computer division: C500 000; and
x furniture in the clothing division: C400 000.
Required:
Prepare the necessary journals for the year ended 31 December 20X9.
Part B
Use the information provided in Part A together with the following additional information.
x The administration of the two divisions takes place in Nikky Limited’s head office.
x The following are the carrying amounts of the head office's assets (i.e. corporate assets)
as at 31 December 20X9, after depreciation had been processed:
Head office
Corporate assets C
Equipment 100 000
Investment property 800 000
Vehicles 100 000
1 000 000
Chapter 11 131
x All the assets are measured under the cost model.

x The vehicles owned by the head office only benefit the clothing division.
x The remaining head office assets can be reasonably and consistently allocated to each
cash-generating unit.
Required:
Part C:
Use the information provided in Part A and Part B together with the following information.
x Nicky Limited had acquired the divisions by purchasing them from another entity.
x The purchase consideration exceeded the fair value of the net assets by C450 000.
Required:
Ignore tax.
Question 11.13
Little Italia has a pizzeria where it sells pizzas with customers’ choice of toppings, and it also
operates a delicatessen shop with imported Italian food. The pizzeria and the shop are
separate cash-generating units (CGUs).
The buildings are measured under the cost model but the equipment is measured under the
revaluation model, with revaluations performed every 2 years.
Little Italia revalued all its equipment on 31 December 20X4, on which date the pizzeria CGU’s
equipment was revalued upward by C250 000. Although another revaluation was performed on
31 December 20X6, the carrying amount of the pizzeria CGU’s equipment was not adjusted
because its carrying amount did not differ materially from its fair value at that date.
The pizzeria has been trading very profitably, until 20X6 when a national pizza chain opened
its doors across the road. On 31 December 20X6, as a result of the fierce competition, Little
Italia impaired its pizzeria CGU down to its recoverable amount of C250 000.
During 20X8, the competitor’s service quality spiraled downwards and consumers started
preferring Little Italia’s homely atmosphere. The profitability of Little Italia’s pizzeria was fully
restored. On 31 December 20X8, the recoverable amount of the pizzeria CGU was reliably
determined at C750 000.
The equipment and building are depreciated on the straight-line method to nil residual values.
Goodwill is carried at cost and tested for impairment annually. The implied fair value of
goodwill at 31 December 20X6 was C0.
Details of the pizzeria CGU’s assets, which were acquired from the previous owners on
1 January 20X4 are as follows (the recoverable amounts were not ascertainable):
Cost Remaining useful life
1/1/X4 1/1/X4
Equipment C500 000 10 years
Building C500 000 10 years
Goodwill C142 857 Indefinite
C1 142 857
132 Chapter 11
Required:
a) Provide the journal relating to impairment for the year ended 31 December 20X6.
b) Calculate the carrying amount of each of the assets within the pizzeria CGU at
31 December 20X8.
Ignore tax.
Question 11.14
Miss Fortune, a notorious gambler and venture capitalist, purchased what appeared to be a
lucrative business venture. However, due to an unexpected legislative restriction imposed by
the courts during 20X5, the profits from this business began to drop. As a direct result, this
business, a cash generating unit (CGU) per IAS 36 Impairment of assets, was impaired for
the first time to C1 350 000 on 31 December 20X5.
The details of the carrying amounts for each of the individual assets before and after this
impairment are shown below:
Carrying amount before Carrying amount after
impairment impairment
C C
Goodwill 180 000 0
Investment property 360 000 342 000
Plant 540 000 432 000
Furniture 720 000 576 000
1 800 000 1 350 000
All the assets in the cash-generating unit were measured using the cost model with the
exception of the plant, which was measured using the revaluation model.
The plant was originally purchased on 1 January 20X2 for C810 000. It was depreciated on
the straight-line basis over 10 years to a nil residual value.
This plant was revalued on 1 January 20X5, (its first revaluation), to its fair value of C630 000
on that date. Revaluations are accounted for on the net replacement value method (i.e. the
elimination method referred to in IAS 16.35(b)) and the related revaluation surplus will be
transferred to retained earnings on disposal of the plant.
At 1 January 20X6, the variables of depreciation for each of the depreciable assets in the
cash-generating unit were:
x Investment property: 5 years remaining useful life, straight-line to a nil residual value;
x Plant: 6 years remaining useful life, straight-line to a nil residual value;
x Furniture: 4 years remaining useful life, straight-line to a nil residual value.
During 20X6, business took a turn for the better, with the courts lifting the legislative restriction that
had been imposed in 20X5. The recoverable amount of the business was determined to be
C1 620 000 on 31 December 20X6.
Although the recoverable amounts at 31 December 20X6 for some of the assets in the cash-
generating unit could not be determined on an individual basis, the recoverable amounts for each
of the following assets were able to be estimated:
x Investment property: C396 000; and
x Plant: C432 000.
The plant’s recoverable amount of C432 000 was calculated as its fair value less costs to sell
where its fair value was C450 000 and its selling costs were C18 000.
Required:
Journalise the impairment reversals at 31 December 20X6.
Ignore tax.
Chapter 11 133
GAAP: Graded Questions Non-current assets held for sale and discontinued operations
Chapter 12
Non-current assets held for sale and
discontinued operations
Question Key issues
Part A Individual non-current assets held for sale
12.1 Short questions Core concepts – individual non-current assets held for sale
12.2 Soldier Non-current asset held for sale reclassified from PPE under the cost model and
subsequent measurement (no tax)
12.3 Escape PPE reclassified to NCAHFS
- Prior measurement under the cost model
- PPE: impairment reversal before reclassification
- NCAHFS: impairment on reclassification and impairment after
reclassification
A: Without tax
B: With tax
12.4 Removal PPE reclassified to NCAHFS
- PPE: impairment before reclassification
- NCAHFS: no adjustment on reclassification but impairment reversal after
reclassification
A: Without tax
B: With tax
12.5 Glad PPE reclassified to NCAHFS
- PPE: impairment before reclassification
- NCAHFS: no adjustment on reclassification but impairment reversal after
reclassification
With tax
12.6 Tossout PPE reclassified to NCAHFS
- Prior measurement under the revaluation model
- PPE: revaluation before reclassification
- NCAHFS: impairment on reclassification and impairment reversal after
reclassification (with limitations)
A: Without tax
B: With tax
12.7 Cutaway PPE reclassified to NCAHFS
- Prior measurement under the revaluation model (not previously impaired)
- PPE: revaluation before reclassification
- NCAHFS: impairment on reclassification and further impairment after
reclassification
A: Without tax
B: With tax
Continued on the next page …
134 Chapter 12
Questions continued… Key issues
Part B Disposal groups held for sale

12.8 True/ false Core concepts: disposal groups held for sale
12.9 Chinese Trade Measurement of a disposal group held for sale compared to the measurement of a
non-current asset held for sale
12.10 Lookatyar Measurement of a disposal group held for sale: initial and subsequent impairment
Allocation of impairment: includes scoped-out assets
12.11 MLF Initial impairment of disposal group held for sale and subsequent impairment
reversal: includes
- Goodwill; and
- Scoped-out assets
12.12 Coconuts Allocation of the impairment of a disposal group that includes:
- Goodwill; and
- Scoped-out assets (inventory and investment property under the fair value model)
12.13 Dough Allocation of the impairment of a disposal group on initial classification and on
subsequent measurement where the disposal group includes:
- Scoped-out assets
12.14 Luke Miller Allocation of the impairment of a disposal group on initial
classification and allocation of impairment reversal on subsequent
measurement where the disposal group includes:
- Goodwill; and
- Scoped-out assets (investment property under the fair value model)
Part C Discontinued operations

12.15 True/ false Core concepts – discontinued operations
12.16 Jumbo Shoes Date of classification as ‘held for sale’
12.17 Conifer Identification of date from which discontinued operation is disclosed
Discontinued operation is a disposal group
No measurement adjustments
Tax effects ignored
12.18 Dorothy Identification of date from which disclosure as a discontinued operation is required
Discontinued operation is a disposal group
Measurement adjustments: on discontinuation and afterwards
Tax effects: current and deferred
12.19 Big Nic Disposal group and discontinued operation: sale of division as a single transaction
Measurement adjustments:
- On discontinuation: None
- After discontinuation: impairment of disposal group resulting in adjustments to
carrying amounts of assets both inside and outside the scope of the
measurement requirements of IFRS 5
12.20 Ithemba Comparison: discontinued operation and disposal group
Recreation Discontinued operation is not a disposal group
Measurement adjustments: on discontinuation and afterwards
Important note: Please assume in all questions that, unless otherwise stated, the estimated costs to
sell equal the estimated disposal costs.
Further questions incorporating this topic with other topics can be found in
Chapter 12 135
Part A Individual non-current assets held for sale
Question 12.1
Part A
a) Define the term ‘non-current asset’ and, in one sentence, briefly explain how this term differs from
the term ‘non-current asset held for sale’.
b) List the criteria that must be met before an asset may be classified as held for sale in terms of
IFRS 5 Non-current assets held for sale and discontinued operations.
c) List the criteria that must be met for a sale to be considered ‘highly probable’.
d) Briefly explain whether or not an item of property, plant and equipment may be classified as ‘held
for sale’ if the intention is to sell it but the sale is not expected to be concluded within a year.
e) A plant with a carrying amount of C192 000 (cost: C240 000) on 30 June 20X2 is to be
immediately classified as held for sale. On date of reclassification as ‘held for sale’, this plant,
which was measured under the cost model and which had never before been impaired, had a
value in use of C144 000, a fair value of C180 000 and expected selling costs of C6 000.
Calculate the amount at which this non-current asset held for sale would be measured in the
statement of financial position at 30 June 20X2.
i. The asset’s carrying amount after classifying it as held for sale will be C_____________.
ii. The asset will be impaired by C_____________.
iii. The impairment in terms of IAS 36 Impairment of assets will be C_____________.
iv. The impairment in terms of IFRS 5 Non-current assets held for sale and discontinued
operations will be C_____________.
f) Briefly explain whether or not there are any current or deferred tax consequences of classifying an
item of property, plant and equipment as a non-current asset held for sale.
Required:
Provide a brief answer to each of the questions listed above.
Part B
a) Investment property is never measured in terms of IFRS 5 Non-current assets held for sale and
discontinued operations, even if it meets the criteria to be classified as held for sale.
b) A non-current asset acquired exclusively with the intention for resale must be classified as an item
of property, plant and equipment.
c) After purchasing a non-current asset exclusively for the purpose of resale, it is always immediately
impaired.
d) Non-current assets are always measured at the lower of carrying amount and fair value less costs
to sell when classified as held for sale.
Required:
Indicate whether each statement is true or false and provide a brief explanation to support your answer.
Question 12.2
Soldier Limited purchased a highly specialised machine for C1 440 000 on 1 July 20X1. This machine
was measured under the cost model with depreciation calculated on the straight-line basis over a
useful life of 6 years to a nil residual value.
136 Chapter 12
This machine was damaged in a flash flood on 1 April 20X4 but was still operational. The values
immediately after the damage were as follows:
1 April 20X4: C
Fair value 672 000
Costs to sell 36 000
Value in use 702 000
Management held a meeting on 20 April 20X4 to discuss the possibility that this asset should be sold.
The reasons for the suggestion involved the damage incurred during the flood and considerations
regarding future alternative product lines for which the machine would no longer be required. This
meeting did not reach a conclusion since management could not agree upon a suitable selling price.
A subsequent meeting was held on 1 July 20X4 where management reached agreement on the
selling price and a task team was immediately appointed to find a suitable buyer. The values
immediately after the meeting on 1 July 20X4 were as follows:
1 July 20X4: C
Fair value 672 000
Costs to sell 48 000
Value in use 480 000
Initially there seemed to be no response to the marketing of the machine at its fair value of C672 000,
but a few weeks before year end saw a sudden frenzy of offers from a number of different parties.
The highest bid was received on 30 December 20X4 of C768 000. If the company accepts this offer,
the selling costs would only be C24 000, being the legal fees to draft the sale agreement, as this offer
was made directly to the company instead of through the sales agents and would thus not involve any
sales commission.
Required:
Discuss how the machine must be recognised and measured in Soldier Limited’s financial statements
for the year ended 31 December 20X4 (include the necessary journals to support your answer).
Question 12.3
Part A: Ignoring tax effects
Escape Limited owns only two items of property, plant and equipment, being a plot of land and a
plant, both of which are measured using the cost model.
x The land was purchased for C1 000 000 on 1 January 20X1. Land is not depreciated.
x The plant was purchased for C1 000 000 on 1 January 20X6. The plant is depreciated at 20% per
annum, on the straight-line basis to a nil residual value. These variables of depreciation have
remained unchanged since date of purchase.
Escape Limited used to manufacture compasses but with the advent of global positioning technology,
it decided to cease the manufacture of compasses and begin manufacturing GPS devices instead.
The directors have decided to sell the plant, which can only be used in the manufacture of
compasses. This decision was made on 1 April 20X8, on which date all criteria necessary for
reclassification as a non-current asset held for sale were met.
The following values related to this plant over the years since its purchase:
31 December 20X7: Fair value C250 000
Costs to sell C50 000
1 April 20X8: Fair value C225 000

Chapter 12 137

All impairments and/ or impairment reversals are considered material.
Required:
a) Show all journal entries relevant to the plant in the general journal for all years affected.
b) Disclose the effect on Escape Limited’s statement of financial position, related notes and profit
before tax note for the year ended 31 December 20X8.
Accounting policies are not required. Ignore tax.
Part B: Including tax effects
Use the same information provided in Part A but assume the following tax-related information:
x The tax authorities allow a wear and tear deduction of 25% of cost (not apportioned).
Required:
a) Show all journal entries relevant to the plant in the general journal for all years affected.
b) Disclose the effect on Escape Limited’s statement of financial position, related notes and profit
Tax and accounting policy notes are not required.
Question 12.4
Removal Limited owns a machine (the AinChint Model) that it had purchased for C800 000 on
1 January 20X6. This machine has always been measured under the cost model where depreciation
was provided at 20% per annum to a nil residual value using the straight-line method. None of the
variables of depreciation have ever changed.
New technology has recently come about, which could increase Removal Limited’s output
substantially. The new technology is included in the latest machine called the Zappemout Model. The
excited factory manager presented the amazing abilities of this new technology at the directors
meeting held on 1 April 20X8 and then the accountant presented the following amounts relevant to
the AinChint Model:
31 December 20X6: Recoverable amount C700 000
31 December 20X7: Recoverable amount C300 000
1 April 20X8: Fair value C250 000


After considering all information, a unanimous decision was taken at this meeting to dispose of the
AinChint Model, which was considered to be materially impaired, and acquire the Zappemout Model
without delay. All criteria necessary for reclassification as a non-current asset held for sale were met
on this date.
138 Chapter 12
Required:
a) Prepare all related journal entries in the general journal for all years affected.
b) Disclose the effect on Removal Limited’s statement of financial position, related notes and profit
Assume the following information regarding tax:

Required:
a) Prepare all related journal entries in the general journal for all years affected.
b) Disclose the effect on Removal Limited’s statement of financial position, related notes and profit
Tax and accounting policies notes are not required.
Question 12.5
You are the junior accountant at Glad Limited. The senior accountant, Mr Bliss, has informed you that
the company has decided to dispose of its factory plant (the Mannamen Z100) as part of a
transformation programme being initiated in order to boost profits. This Mannamen Z100 is the only
item of property, plant and equipment owned by Glad Limited. The plant was purchased at a cost of
C500 000 on 1 January 20X0 and is measured under the cost model. Depreciation on the plant was
provided on the straight-line basis over 5 years to a nil residual value. All criteria necessary for
reclassification as held for sale were met on 1 April 20X2.
x The plant had a recoverable amount of C210 000 on 31 December 20X1.
x The following values during 20X2 have been given to you:
1 April 20X2: Fair value less costs to sell C 190 000
Value in use C 180 000
31 December 20X2: Fair value less costs to sell C290 000
x The tax authority allows the plant to be deducted over 4 years (not apportioned).
The directors have requested a report detailing the effect that reclassifying the plant as held for sale
will have on the financial statements. This report will be discussed at the next directors meeting.
Mr Bliss is extremely busy and has requested your assistance. He has assigned you the task of
preparing a memorandum (from which he will base the final report).
All impairments and/ or impairment reversals are considered material.
Required:
Prepare the memorandum explaining how the reclassification to ‘held for sale’ will affect the financial
statements for the year ended 31 December 20X2. Be sure to include:
x all journal entries relevant to the above information for 20X2; and
x the relevant disclosure in the statement of financial position, related notes and profit before tax
note for the year ended 31 December 20X2 (you may ignore all notes relating to tax and
accounting policies).
Chapter 12 139
Question 12.6
Tossout Limited owns only one item of property, plant and equipment being plant, which it has always
carried under the revaluation model, details of which follow:
Cost (1 January 20X1) C500 000
Depreciation 20% pa straight-line to a nil residual value
Fair value (1 January 20X2) C800 000
Tossout Limited always uses the net replacement method to account for changes in fair value.
On 1 April 20X3, the company decided to sell the plant. All the criteria necessary for reclassification
as a non-current asset held for sale were met on this date.
The following information was relevant on 1 April 20X3:

Fair value C500 000
There was no indication that this asset was impaired.
At 31 December 20X3 (the company’s year-end) the following information was relevant:
Fair value C700 000
The company’s policy is to reverse any revaluation surplus on disposal of the related asset.
Any difference between the carrying amount and fair value immediately before classification as non-
current asset held for sale, and any impairment and / or impairment reversals are considered material.
Required:
a) Show all journal entries relevant to the above information.
b) Disclose the effect on the statement of financial position, related notes and profit before tax note
Assume the following information regarding tax:

x The tax authorities allow a wear and tear deduction of 25% per annum based on the cost of the
plant (not apportioned for part of a year).
Required:
Notes relating to tax and accounting policies are not required.
Question 12.7
Cutaway Limited owns only one item of property, plant and equipment being plant, which it has
always carried under the revaluation model, details of which are provided overleaf:
140 Chapter 12
Cost (1 January 20X1) C500 000

Fair value (1 January 20X2) C800 000
Depreciation 20% pa straight-line to a nil residual value
Cutaway Limited uses the net replacement method to account for changes in fair value.
On 1 April 20X3, the company decided to sell the plant. All the criteria necessary for reclassification
as a non-current asset held for sale were met on this date. The following information was relevant on
this date:
Fair value C650 000
Costs to sell/ Costs to dispose C50 000
There was no evidence that this asset was impaired.
At 31 December 20X3 (the company’s year-end) the following information was relevant:
Fair value C500 000
The policy is to reverse the revaluation surplus on the eventual disposal of the related asset.
Required:
The situation is the same as in Part A. Assume the following information regarding tax:
x The plant has a base cost of C530 000.
x Capital gains are included in taxable income at 80% and are taxed at 30%.
Required:
Notes relating to tax are not required.
Part B Disposal groups held for sale
Question 12.8
a) A disposal group is simply a group of non-current assets that are to be disposed of.
b) Non-current assets held for sale are carried at the lower of the asset’s carrying amount and fair
value less disposal costs. This treatment is the same for a disposal group held for sale.
c) Each of the items in the disposal group must be measured to the lower of its carrying amount and
fair value less costs to sell.
d) If a disposal group is impaired, the impairment loss will be allocated to all assets in the disposal
group in proportion to their relative carrying amounts before the adjustment.
Chapter 12 141
e) The classification, measurement and presentation principles in IFRS 5 Non-current assets held for
sale and discontinued operations are not always applied to every asset that qualifies as a non-
current asset held for sale.
f) Current assets may be subject to the requirements of IFRS 5 Non-current assets held for sale and
discontinued operations.
g) The impairment of a non-current asset held for sale, where the asset had previously been
measured to a fair value in terms of the revaluation model is first recognised as a revaluation
decrease (i.e. debited to the revaluation surplus, equity) until the revaluation surplus has a nil
balance and thereafter, the impairment is recognised in profit or loss.
h) A cash-generating unit that meets the criteria to be classified as held for sale is the same as a
disposal group held for sale.
Required:
Question 12.9
Chinese Trade is a company that imports goods from China. The company is facing some possibly
serious issues due to ailing local economic conditions and, as a result, the financial director, Mr
Green, believes the company may need to dispose of a number of its assets.
Sadly, when Mr Green walked into the accountant’s office to discuss this as an option, the accountant
announced that these same local economic conditions had forced him to apply for another passport
and since his papers have suddenly been granted, he has to resign with immediate effect.
The loss of his accountant is worrying Mr Green because he has realised that, during the last five
years as the financial director of the business, he has been involved in every aspect of the business
other than financial accounting.
As the accountant was leaving after his farewell lunch, he leaned out the car window and gently
reminded Mr Green that, if the company is considering the sale of assets, he may need to apply
IFRS 5 Non-current assets held for sale and discontinued operations to the measurement of these
assets, and in an effort to soften the blow, he said “If it’s just individual assets that are to be sold, the
measurement is quite simple really, although if you’re planning to sell groups of them at a time, it can
get a little tricky – perhaps you should contact our IFRS consultant?” With a sinking feeling,
Mr Green, who had not heard of IFRS 5, headed back to the office to write a letter to the company’s
IFRS consultants to ask for advice.
Required:
As the IFRS consultant to Chinese Trade, write a letter in reply to Mr Green in which you briefly
outline when the IFRS 5 measurement requirements would apply to assets held for sale and explain
how disposal groups held for sale are measured.
Question 12.10
Lookatyar Limited is a manufacturer and retailer of children’s toys. The company was once renowned
for its innovative designs. Recent years, however, have seen profits slump due to the inability of
Lookatyar Limited to keep up with technological advances in the toy industry. The board has taken the
decision to dispose of the manufacturing division and source toys from a South Korean manufacturer.
Lookatyar Limited is split into the following 2 divisions:

x Manufacturing division; and
x Retail division.
142 Chapter 12
The resolution to sell the manufacturing division was passed on 1 October 20X4. All criteria to be
classified as held for sale was met on this date. The manufacturing division consisted of the following
assets: a factory building, machinery and investment property. The following values apply to the
manufacturing division during 20X4:
PPE: Factory building PPE: Machinery Investment property

C C C
1 October 20X4
Carrying amount 3 240 000 675 000 2 376 000
Cost 4 050 000 810 000 2 376 000*
Accumulated depreciation (810 000) (135 000) -
Fair value 3 078 000 607 500 2 308 500

Costs to sell 40 500 27 000 0
Value in use 3 510 000 702 000 N/A
31 December 20X4
Fair value 2 673 000 513 000 2 011 500
Costs to sell 54 000 18 900 35 000
*No fair value adjustment has yet been processed for the current year.
Neither the buildings nor the machinery had been impaired before 1 October 20X4. Costs to sell can
be assumed to equal costs of disposal.
It is the accounting policy of Lookatyar to measure all property, plant and equipment under the cost
model and measure investment property under the fair value model.
Required:
Prepare all journals to record the reclassification and re-measurement of the manufacturing division
Question 12.11
MLF Limited is a construction company operating in the southern African region. Over the years, it
has profited from numerous international donations designed to develop the region. However, due to
political unrest in some of the countries, the board of directors has decided to divest from certain cash
generating units (CGU’s) operating in sub- Saharan Africa. One such CGU operated in Zimbabwe.
The carrying amounts on 1 January 20X8 of the Zimbabwe CGU’s only assets were as follows (there
were no liabilities):
C
Bob Cat Earth Removal Machinery Note 1 200 000
Sukdeo Concrete Mixer Note 2 150 000
Singh Cement Mix Note 3 40 000
Goodwill Note 4 20 000
Note 1: Bob Cat Earth Removal Machinery

x The Bob Cat Earth Removal Machinery was purchased on 1 January 20X5 for C500 000.
x It has been accounted for using the cost model and depreciated over a useful life of 5 years to a
nil residual value.
x It had never been necessary to test the machinery for impairments.
Note 2: Sukdeo Concrete Mixer

x The Sukdeo Concrete Mixer was purchased on 30 June 20X6 for C300 000.
x It is measured under the cost model and depreciated over 3 years to a nil residual value.
x It had never been necessary to test the mixer for impairments.
Chapter 12 143
Note 3: Singh Cement Mix

x The inventory of Singh Cement Mix is accounted for in terms of IAS 2 Inventory.
Note 4: Goodwill
x Goodwill arose a few years ago when MLF Limited acquired Amrit Limited, a medium sized
company operating in Zimbabwe.
x The goodwill had never been impaired.
The Zimbabwean CGU met all the criteria to be classified ‘held for sale’ in terms of IFRS 5 on 30 June
20X8, on which date all operating activities ceased
The fair values less costs to sell and net realisable values were as follows:
30/06/X8 31/12/X8
Inventory (cost) 50 000 50 000
Inventory (net realisable values) 28 000 55 000
Zimbabwean CGU (fair value less costs to sell) 200 000 320 000
Required:
Provide the journal entries for the above transactions for the year ended 31 December 20X8.
Question 12.12
Coconuts Limited was incorporated in 20X1. The company has built a good reputation and specialises
in providing refreshments at corporate events throughout South Africa.
x Coconuts was interested in expanding their line of business to include supporting social events,
such as those that involve hosting international music artists. The financial director of Coconuts
suggested acquiring Jellyfish Limited, a company that specialises in such social events and it was
a matter of months before Jellyfish was acquired, as a wholly-owned subsidiary.
x The entire Jellyfish operation was physically moved to the Coconuts Limited head office and the
only property owned by Jellyfish was then leased out to a third party.
x During a meeting on 1 August 20X2, the Coconut directors reached an agreement in principle,
that certain aspects of the social events operation was damaging Coconut’s profits. After many
lengthy meetings, a resolution to dispose of the group of assets and liabilities relating to these
certain aspects of the ‘social events’ operations was finally reached on 1 October 20X2. All
criteria for classification as held for sale were met on this date.
Immediately before the assets and liabilities were classified as ‘held for sale’, they were re-measured (and
impaired where necessary) in terms of their own relevant standards to the following carrying amounts:
x Investment property (IAS 40) measured using the fair value model – C276 000
x Investment property (IAS 40) measured using the cost model – C184 000
x Inventory (IAS 2) – C322 000
x Plant (IAS 16) measured using the cost model – C690 000
x Purchased goodwill – C115 000
x Trade payables – C69 000
On the date that the group of net assets met all criteria for classification (1 October 20X2):
x The recoverable amounts were not able to be determined for any of the assets other than the
investment property measured in terms of the cost model, which was C184 000, and the plant,
which was C690 000.
x The net realisable value of inventory was C345 000 on this date.
x The fair value of the group of net assets was C1 403 000 and the related estimated costs to sell
were C92 000.
Required:
Journalise the reclassification and measurement of the disposal group on 1 October 20X2.
144 Chapter 12
Question 12.13
Dough Limited is involved in the production of plastic car parts that it supplies to Japanese and
German motor manufacturers.
Due to the economic recession prevalent in 20X4, one of Dough Limited’s customers announced that
it would be discontinuing the production of all its vehicles, effective 1 January 20X5.
In an attempt to avoid potential losses, the board of directors of Dough Limited resolved to dispose of
the asset group that had been modified specifically for the manufacturer, in a single transaction. All
criteria for reclassification as “held for sale” were met on 31 December 20X4.
All of the assets were bought on 1 July 20X2 and have never been impaired. The details relating to
the various carrying amounts at 1 July 20X4 are provided in the table below:
Measurement Cost Depreciation rate/ Residual Carrying

model useful life value amount
Investment property Fair value 55 000 N/A N/A 88 000
Furniture Cost 110 000 10 years 0 88 000
Equipment Cost 220 000 20 years 0 198 000
The following values were determined for each of the assets on date of reclassification to non-current
assets held for sale (31 December 20X4):
Value in use Fair value Costs to sell

Investment property 66 000 77 000 5 500
Furniture 99 000 77 000 5 500
Equipment 231 000 187 000 16 500
Disposal group as a whole 320 000 6 500
During June 20X5, a smaller manufacturing company submits to Dough Limited an offer to purchase
the group of assets.
x The settlement price is agreed upon on 30 June 20X5 and is set at C300 000 (considered to be a
fair market price).
x Dough Limited has estimated that the cost to dispose of the assets would be C3 000.
x On this date, the investment property has an individual fair value of C75 900.
x The sale agreement is expected to be concluded and signed during July 20X5.
Required:
Provide all relevant journal entries for the year ended 30 June 20X5.
Question 12.14
Luke Miller is the newly appointed accountant of SOS Limited. On his first day, he found the following
memorandum on his desk from Betsy Great, the previous financial accountant.
Hi Luke,
As you are already aware, management has decided to dispose of a few of our assets to
Opportunist Limited. It’s a pity we did not get an opportunity to discuss the disposal before I left
but here is some of the relevant information to get you going:
x The decision to sell the group of assets (investment property, plant and purchased goodwill)
was taken on 30 September 20X0. I looked carefully at IFRS 5 and have concluded that all
necessary conditions for reclassification were met on this date.
Chapter 12 145
x Immediately prior to the reclassification on 30 September 20X0, the assets were correctly
measured at:
x Investment property: fair value of C60 000;
x Plant: depreciated cost: C100 000.
x Goodwill: C30 000
x At year-end, 31 December 20X0:
x Investment property: fair value of C150 000;
x Plant: depreciated cost: C80 000.
x It has never been necessary to impair the plant.
The fair value less costs to sell of the disposal group as a whole was estimated as follows:
x 30 September 20X0: C140 000;
x 31 December 20X0: C300 000.
I have not passed any journal entries nor has the trial balance been updated. Genevieve (the
secretary on the second floor) will have all the valuation records if you wish to see them.
I leave this in your very capable hands (the directors want to make sure everything is done right
before the auditors come around).
Regards,
Betsy Great
Luke, immediately daunted by the unexpected challenge, has come to you for your assistance due to
his limited experience with IFRS 5.
Required:
Assist Luke Miller by providing him with the journal entries and relevant workings in order to account
for the above for the year ended 31 December 20X0.
Part C Discontinued operations
Question 12.15
a) A discontinued operation is defined as a component of an entity that has either been disposed of
or has been classified as held for sale.
b) The existence of a discontinued operation will require that the statement of comprehensive
income include disclosure of a single line-item reflecting the profit (or loss) for the period from the
discontinued operation, where the analysis of this line item may be presented either on the face of
the statement of comprehensive income or in the notes thereto.
c) The existence of a discontinued operation neither requires separate disclosure in the statement of
cash flows nor in the notes supporting the statement of cash flows.
d) The disclosure of a discontinued operation would never require separate disclosure of items
either on the face of the statement of financial position or in the supporting notes.
e) Information relating to an operation that meets the definition of a discontinued operation is presented as a
discontinued operation from the date that it meets the definition of a discontinued operation, which also
means that, if the operation met the definition of a discontinued operation in the current year, the prior
period disclosures would not be adjusted to present the operation as a discontinued operation.
f) The measurement and disclosure requirements (set out in IFRS 5 Non-current assets held for
sale and discontinued operations) relating to discontinued operations are the same as the
requirements that apply to non-current assets and disposal groups held for sale.
146 Chapter 12
g) The two criteria to be met before an asset (or disposal group) may be classified as ‘held for sale’ are:
x the asset (or disposal group) must be available for sale subject only to terms that are usual
and customary for sales of such assets (or disposal groups); and
x its sale must be probable.
h) A disposal group that is to be abandoned will be presented as a discontinued operation from the
date on which it meets the definition of held for sale.
i) All discontinued operations are disposal groups.
j) A disposal group that is to be abandoned instead of sold is not covered by IFRS 5.
Required:
Question 12.16
Jumbo Shoes Limited is a company that manufactures and distributes footwear. It has a number of
factories situated throughout the country.
A decision was made on 15 September 20X2 to close one of the factories, this one being situated in
the Epsom Valley. The directors had the factory valued by a professional firm of business valuers and
immediately advertised the factory at the price suggested by this firm.
A buyer for the factory was found on 5 October 20X2 and this buyer signed a commitment to purchase
the factory on 10 October 20X2. On this date, the factory had a backlog of orders that the directors
intend to complete before the sale, although no new orders would be accepted from this date.
The buyer has agreed that the effective date of the sale (the date on which ownership of the factory
will be transferred) is to be delayed until all outstanding orders are completed. It is expected that
these orders will be completed on 30 April 20X3.
Required:
Discuss when this factory would meet the criteria to be classified as ‘held for sale’.
Question 12.17
Conifer Limited is a company that manufactures both soccer balls and hosepipes. The company has
two divisions: the soccer ball division and the hosepipe division.
The following is an extract from the current trial balance at 31 December 20X7 that is relevant to the
soccer ball division:
x Income and expense items C
- Revenue 123 750
- Cost of sales 49 500
- Other expenses 89 100
- Finance costs 0 4 455
- Income tax expense 0 2 475
x Assets
- Inventory 19 800
- Accounts receivable 4 125
- Equipment (cost C45 000) 55 935
x Liabilities
- Bank overdraft 0 24 750
- Accounts payable 74 250
Chapter 12 147
During 20X6, management identified a downward trend in the profitability of the soccer ball division.
This division’s profits deteriorated even further in 20X7. A number of meetings were held to discuss
the way forward.
On 1 October 20X7, it was proposed that the soccer ball division be sold. Numerous lengthy debates
followed this proposal and finally, on 15 December 20X7, the proposal to sell the division was agreed
upon and this decision was documented in the minutes of the directors’ board meeting.
The formal plan of sale, which detailed all relevant aspects and involved an aggressive approach that
would have the division sold within between 5 and 7 months, was presented and agreed upon at this
same meeting.
A suitable buyer was identified in early January 20X8 and negotiations during February 20X8
culminated in the signing of a sale agreement on 23 March 20X8, effective from 1 May 20X8. The
agreement involved the buyer taking over all the division’s assets and liabilities, including any
contracts outstanding on effective date.
x The carrying amounts of all assets and liabilities are considered to reflect their fair values.
x There is no indication that this signed contract will fail to be executed.
x The financial statements at 31 December 20X7 are due to be presented to the board on
2 April 20X8 for approval.
Required:
a) Identify the year in which the soccer ball division meets the definition of a discontinued operation,
providing a full discussion of the relevant definitions to support your answer.
b) Discuss how a discontinued operation could affect the presentation and disclosure of information
in an entity’s financial statements.
c) Disclose the above information in the notes to the financial statements of Conifer Limited for the
year ended 31 December 20X7 in conformity with International Financial Reporting Standards.
Assume that the entity does not include any detail in the statements when this detail can be
included in the notes instead. Comparatives are not required.
Question 12.18
Dorothy Limited currently has two divisions: a manufacturing and distribution division. On 30 August
20X1, senior management decided to sell the distribution division as studies found that it would be
more cost effective to outsource the distribution of the inventory that is manufactured by the company.
A formal plan outlining how the division would be disposed of was presented to and agreed upon by the
board of directors on 1 October 20X1. A team was immediately appointed to manage the disposal of the
division. By the close of business, this team had already prepared an advertisement for the sale of the
division. All parties agreed that the sale would be complete within nine months. It is expected that the team
tasked with managing the disposal of the division will be paid commission of C2 300.
Negotiations with a buyer began on 20 December 20X1 to sell the entire distribution division for C126 500.
During discussions with the potential buyer, it was agreed that all assets and liabilities reflected in the trial
balance (see extract below) were a fair reflection of their values with no impairments considered necessary,
with the exception of the following items each of which was considered overstated by C2 875:
x accounts receivable was considered overstated due to a loss allowance for expected credit losses
that had not yet been accounted for, and
x inventory was considered overstated due to items on hand that had been damaged in a recent
storm on 29 December 20X1 and no adjustments had yet been processed for this.
148 Chapter 12
The sales contract was signed on 28 February 20X2, and was effective on 4 April 20X2.
The directors offered retrenchment packages totalling C11 500 to various employees due to the
discontinuance of the distribution division. The offer is legally binding and will be paid on 4 April 20X2,
when ownership of the division will be transferred. These expenses are not allowed as a tax
deduction as they are directly related to the decision to discontinue the operation and therefore are
not in the production of income.
None of the costs mentioned above were included in the trial balance at 31 December 20X1. The following is
an extract of balances relating to the distribution and manufacturing divisions at 31 December 20X1:
Distribution Manufacturing
Credit balances C C
Revenue (172 500) (7 500 000)
Plant: accumulated depreciation (103 500) (2 000 000)
Accounts payable (16 675) (600 000)
Debit balances:
Plant: cost 207 000 7 000 000
Deferred tax asset/ liability: 1 January 20X1 0 0
Deferred tax asset/ liability: 31 December 20X1 0 0
Inventory 28 750 1 125 000
Cost of sales 115 000 2 250 000
Other expenses 51 175 750 000
Income tax expense – current tax ? 1 350 000
Income tax expense – deferred tax ? 0
Plant is depreciated at 10% per annum on the straight-line basis to nil residual values. Depreciation
on the plant of C20 700 for the entire financial year has been included in the ‘other expenses’ line
item in the distribution division’s trial balance.
x Wear and tear is allowed as a tax deduction, calculated at 10% per annum on the cost price. This
allowance is apportioned for part of a year in the event that the asset is sold.
x Expenses that are in the production of income are allowed as tax deductions in the year that the
expenses are incurred, unless the expenses relate to provisions, in which case the expenses are
allowed as tax deductions in the year that the expenses are paid.
x Income tax is levied at 30% on taxable profits.
x There are no differences between accounting profit and taxable profit other than those evident
General information:
x There were no measurement adjustments required other than those that are evident from the
Required:
a) Identify, with reasons, the date at which the division would be classified as ‘held for sale’.
b) Explain whether the division should be presented as a discontinued operation.
c) Prepare the statement of comprehensive income of Dorothy Limited for the year ended
31 December 20X1 and disclose the note to the discontinued operation, the disposal group held
for sale and tax in accordance with International Financial Reporting Standards.
Chapter 12 149
Question 12.19
Big Nic Limited owns many divisions across the country, some of which are involved in the
manufacture of stationery for office use and some of which are involved in the manufacture of
cosmetics.
The profits earned by one of the divisions that specialises in the manufacture of anti-ageing cosmetics
have been dropping steadily ever since the economy went into decline following a world-wide slump
in the stock markets.
After reaching agreement that the economic slow-down was not expected to end any time soon, the
directors of Big Nic Limited agreed that the anti-ageing cosmetics division should be closed, signing a
formal plan for the disposal of the cosmetics division on 01 December 20X4. This decision was
announced publicly immediately after the meeting.
x It was agreed that the sale of the division as a whole would not render the greatest profits and thus it
was agreed that the division should be sold off in a piecemeal fashion.
x All the criteria necessary for classification as held for sale were met on the date that the agreement
was signed, at which point none of the assets in the cosmetics division were considered impaired in
terms of either IAS 36 Impairment of assets or IFRS 5 Non-current assets held for sale and
discontinued operations.
The draft extract of the trial balance of this cosmetics division at 31 December 20X4 is on the next page:
C
Building: carrying amount on 31 December 20X4 Note 1 671 000

Machinery: carrying amount on 31 December 20X4 Note 2 and Note 3 74 800
Inventory Note 3 140 800
Accounts receivable Note 3 94 600
Current tax payable Note 3 48 576
Accounts payable Note 3 68 640
Revenue 2 596 000
Other expenses Note 4 2 434 080
Disposal account Note 1 924 000
Note 1. On 15 December 20X4 the division’s building was sold for C924 000. Payment for the building
was deposited in the bank and credited to a disposal account on this date. This was the only
entry processed for the sale of the building.
The building had been depreciated on the straight-line method over a useful life of ten years to a
nil residual value. The building had been purchased for C1 320 000 on 1 January 20X0.
Note 2. Machinery is depreciated on the straight-line method over a useful life of ten years to a nil
residual value. The machinery had been purchased for C105 600 on 1 January 20X2.
Note 3. All remaining assets are expected to be sold by 1 July 20X5. Similarly, all accounts payable are
expected to be paid by 1 July 20X5.
The remaining assets are considered to have the following fair values at 31 December 20X4,
although no entries have yet been processed for this information:
x Machinery:
- Value in use: C110 000
- Fair value less costs to sell: C70 400
x Inventory
- Net realisable value: C129 800
x Accounts receivable:
- Cash expected to be received: C87 120
Note 4. Other expenses includes depreciation.
150 Chapter 12
Other information:
x Retrenchment packages of an estimated C198 000 will have to be paid to employees who will lose
their jobs as a result of the termination of the cosmetics division. It is expected that these packages
will be paid to the employees in the first half of 20X5 after the amount is finalised through
negotiations with the trade unions. These expected costs have not been recognised in the trial
balance above.
Tax related information:

The taxation authorities:
x allow the deduction of the full cost of all non-current assets at a rate of 10% per annum (not
x allow the deduction of inventory write-downs and doubtful debts adjustments in the year in which the
adjustment was made in the financial records.
x allow the deduction of the cost of retrenchment packages in the year in which they are paid.
x levy income tax at 30%.
There are no differences between accounting profit and taxable profit other than those evident from
Required:
a) Prepare the following for inclusion in Big Nic Limited’s financial statements for the year ended
31 December 20X4 in terms of International Financial Reporting Standards:
- the statement of comprehensive income (showing the analysis of discontinued operations on
the face thereof);
- the accounting policy notes for assets held for sale and for discontinued operations;
- the income tax expense note; and
- the discontinuing operations note.
b) Explain to what extent your answer may have changed had the building been classified as an
investment property (i.e. had been accounted for as investment property) and not as an owner-
occupied property (i.e. had not been accounted for as property, plant and equipment).
Question 12.20
Ithemba Recreation Limited currently operates in two divisions:

x Camping division: this division manufactures camping equipment;
x Cycling division: this division manufactures bicycles and related equipment.
On 30 September 20X4, the directors of Ithemba Recreation Limited drew up a formal plan to dispose
of the camping division since they wished to concentrate their resources on the more profitable
cycling division. They agreed that the disposal would take place on a piecemeal basis. The camping
division met the requirements for classification as held for sale on this same date, at which point all
necessary measurement adjustments were processed.
The camping division’s only non-current asset was machinery (original cost C200 000 on
1 January 20X2):
x Machinery is depreciated at 10% per annum on the straight-line basis.
x The following values were estimated for machinery as at 30 September 20X4:
- value in use of C180 000; and
- fair value less cost to sell of C142 000.
Chapter 12 151
On 29 December 20X4 all the machinery in the camping division was sold to Mr. Holte for C168 000
cash. This sale has not yet been processed by Ithemba Recreation Limited.
The carrying amount and tax base of the machinery equalled each other at 1 January 20X4.
Depreciation has been calculated correctly and included in ‘other expenses’ at 31 December 20X4.
The directors of Ithemba Recreation have estimated that the disposal of the entire camping division
would be completed within the first half of 20X5.
An assessment of the value of the remaining assets within the camping division at 31 December 20X4
revealed the following:
C
Accounts receivable at 31 December 20X4 (expected cash flow) 156 000
Inventory at 31 December 20X4 (net realisable value) 33 000
All accounts payable balances at 31 December 20X4 will be paid by Ithemba Recreation in January 20X5.
The following summarised draft trial balance was extracted from the books of Ithemba at
31 December 20X4 immediately prior to processing year-end adjustments.
Information relating to the

Total camping division included
in the total
20X4 20X3 20X4 20X3
C C C C
Share capital 600 000 600 000
Revenue 3 282 000 2 334 000 582 000 601 200
Accounts payable 67 500 75 000 30 000 37 500
4 459 395 3 180 885
Machinery at carrying amount: 31 December 1 019 760 720 000 142 000 160 000
Inventory 263 685 156 000 42 000 81 000
Accounts receivable 168 000 192 000 168 000 192 000
Cash 229 650 116 895
Cost of sales 2 100 000 1 400 000 420 000 350 000
Other expenses 498 300 279 700 78 300 29 200
Dividends paid 180 000 120 000
Income tax expense ? 196 290 ? ?
4 459 395 3 180 885
Information about the camping division:

The other expenses of C78 300 (20X3: C29 200) in the trial balance of the camping division include
the following:
20X4 20X3
C C
Redundancy packages paid to employees 24 000 -
Impairment losses for credit risk (i.e. bad debts) 12 000

x Taxation is levied at a rate of 30%.
x The machinery’s cost is deductible for tax purposes at 10% p.a. (not apportioned).
x The adjustments to inventory and accounts receivable and the redundancy costs are all deductible
for tax purposes in the year in which they were incurred.
x No tax is levied on the dividends paid.
152 Chapter 12
Other information:
x No temporary differences have ever arisen within the cycling division.
x There are no differences between accounting profit and taxable profit other than those evident
Required:
a) Discuss whether the camping division can be classified and presented as:
i) a discontinued operation
ii) a disposal group held for sale
b) Prepare the following for Ithemba Recreation Limited’s financial year ended 31 December 20X4,
in compliance with International Financial Reporting Standards: the statement of financial position,
statement of comprehensive income, statement of changes in equity, discontinued operation note,
income tax expense note and related accounting policies note.
Chapter 12 153
GAAP: Graded Questions Inventories
Chapter 13
Inventories
Question Key issues

13.1 Missing words Core concepts
13.2 True/-False Core concepts – true or false
13.3 Shine Disclosure: accounting policies and basic notes
13.4 Buyhouse/ Cost: Trade discounts and settlement discounts
Salehouse
13.5 Financial Inventory cost: net realisable value write-downs and reversals thereof,
Fitness conversion costs, imported stock
13.6 Bubbles Manufacturing overhead costs – fixed only:
- Application rate
- Under-absorption
- Portion of fixed overheads that are capitalised versus expensed
13.7 Elder Manufacturing costs involving fixed & variable costs
- Application rate
- Comparison of over- and under-absorption
Complete inventory cycle: manufacture to sale
13.8 ToyCars A: Perpetual – FIFO versus WA
B: Periodic system – FIFO versus WA
C: Perpetual versus Periodic – Stock losses
13.9 Cadcon Manufacturing accounts
FIFO versus WA
13.10 Cheesecake Net realisable value of raw material: basic calculations and write-downs
13.11 Tesla Net realisable value involving:
- Firm orders
- Events after reporting period
13.12 Bikini Excessive costs, consultant fees, fixed cost application rate, lower of cost
and net realisable value: discussion
13.13 Woody Manufacturing costs involving fixed & variable costs
- Under-absorption
- Allocation of costs between manufacturing and non-manufacturing
13.14 Padfoot Manufacturing costs involving fixed & variable costs
- Under-absorption
- Allocation of costs between manufacturing and non-manufacturing
- Allocation of costs between fixed and variable
Net realisable values and write-downs
Imported raw materials
13.15 Chunky Non-manufacturing costs and manufacturing costs (fixed and variable)
- Application rate
- Under-absorption
Net realisable value and write-downs,
Including events after reporting period
Inventory pledged as security
13.16 Kudu Manufacturing costs involving fixed & variable costs
- Under-absorption
- Application rate
Net realisable values and write-downs
Pledged as security
154 Chapter 13
Question 13.1
a) Inventory is an asset held for _________in the _________ of business; in the process of
_________ for such sale; or in the form of materials or supplies to be _________ in the
production process or in the rendering of _________ .
b) Inventory presented in the statement of financial position is measured at the _________ of
_________ or _________ .
c) The cost of inventories includes all costs of _________, costs of _________ and
_________ costs incurred in bringing them to their present _________ and _________.
d) Fixed manufacturing overheads are allocated to inventories based on_________ capacity.
Then, if _________ production was _________ than _________ capacity, any unallocated
overhead will be _________ , whereas if _________ production was _________ than
_________ capacity, then the amount allocated to each unit of production will need to be
_________ to ensure that inventory is not measured at an amount greater than cost.
e) Net realisable value is defined as the estimated _________ in the _________ less the
estimated costs of _________ and the estimated costs necessary to make the sale.
f) The cost of inventory that is expensed due to a write-down to net realisable value
_________ (will always/ will never/ may) affect the calculation of gross profit.
g) IAS 2 Inventories refers to three cost formulae to assign the cost of inventories sold. Two
of these formulae represent an accounting policy choice but, depending on the
circumstances, the entity may not be in a position to select one of these two formulae but
may be forced to use the _________ (specific identification formula/ weighted average
formula/ first-in-first-out formula).
h) X Limited entered into the following inventory-related transactions, listed in date order:
x1 March 20X5: opening balance: 80 units, all bought on 28 February 20X5 at C50 each
x10 March 20X5: 40 units bought at C70 each
x21 March 20X5: 140 units sold
Using the first-in-first-out formula (FIFO formula), the cost of the goods sold for the month
ended 31 March 20X5 is C_________ and the inventory balance as at 31 March 20X5 is
C_________.
i) X Limited entered into the following inventory-related transactions, listed in date order:
x1 March 20X5: opening balance: 80 units, all bought on 28 February 20X3 at C50 each
x21 March 20X5: 140 units sold
Using the weighted average formula (WA formula), the cost of the goods sold for the
month ended 31 March 20X5 is C_________ and the inventory balance as at
31 March 20X5 is C_________.
Required:
Fill in the missing word, words or amount. Please note that a single space does not
necessarily mean that there is only one missing word.
Question 13.2
a) Net realisable value is the same as fair value less costs to sell.
b) IAS 2 does not apply to agricultural produce.
c) IAS 2 does not apply to commodity broker-traders.
Chapter 13 155
d) A contract for revenue from services of C100 000 is partially complete and due to the
contractual terms and conditions, none of the revenue from the partially complete contract
may yet be recognised. The costs of providing the services during the current year is
C40 000. The following journal should be processed:
Debit Credit
Wage expense (P/L) 40 000
Bank 40 000
Cost of services provided expensed
e) The cost of electricity used in a manufacturing process is a direct cost of manufacturing.

f) Depreciation on a machine that is used exclusively to manufacture inventories is always
capitalised to the inventory account.
g) As Pharmacy Limited requires a complex raw material catalogue system, dedicated
administrators are employed in the factory, and are paid C45 000 to manage this
catalogue system. Pharmacy must capitalise this cost to inventory.
h) Dairy Limited manufactures specialist cheeses. As part of the production process, the
cheese is required to be stored for a year in order to fully mature. As the company does
not have the necessary space, the cheese is stored in a rented-out warehouse, for which
the company pays C500 000 per annum. Dairy must expense this rental cost.
i) Antique Limited sells vintage cars. Due to the rarity of vintage cars, no two cars are the
same, and the cars are not interchangeable (i.e. when a customer purchases a specific
car, Antique cannot deliver a different car to that customer). Antique can elect to use the
first-in-first out formula.
j) The cost of manufactured inventory is made up of direct costs and indirect costs. Direct
costs are manufacturing costs that vary directly with the level of production whereas
indirect costs are manufacturing costs that do not vary directly with the level of
production.
Required:
Indicate whether the following statements are true or false and provide a brief explanation.
Question 13.3
Shine Limited, a proudly South African clothing manufacturer and distributor, sources all its raw
materials locally. Shine specialises in the production of luxury leather jackets for women. Shine
supplies clothing directly to individuals as well as to retail stores, such as EBGARDS and other
online-based platforms such as Sprek. Sales to retailers are on consignment and sales to
individuals are on a cash basis only.
The following matters came to your attention:

x Shine Limited uses a computerised perpetual inventory costing system based on a
program that charges out the oldest inventory first. This program was introduced 4 years
ago and is running smoothly. For costing and control purposes the variable costing system is
used but, for financial reporting purposes, manufacturing overheads are absorbed on the
basis of actual production for the year.
x The selling price (excluding VAT) per jacket is C6 900 for a sale to an individual, and C6 000
per jacket if the sale is to a retailer. The jacket’s cost price is C3 600.
x A total of 480 jackets were sold on consignment to retail stores during the year ended
31 December 20X5. The retail stores sold 180 of these jackets by 31 December 20X5.
x The company operates a just-in-time inventory management system, and thus normally
holds no inventory at the beginning or end of a year. However, finished goods on hand in the
warehouse at 31 December 20X5, comprised 120 unsold jackets.
156 Chapter 13
x During the year, Shine experienced a slow decline in the demand for their clothing. Urgent
research revealed that the decline was due to a new fashion design store that was offering
top quality products at a far lower price. A careful analysis estimating the price at which the
remaining jackets could be sold, given the existence of this new competition, led to the
accountant realising that the closing inventory of jackets must be written-down by C100 000.
x The company's main business is the sale of its jackets. However, it derives other income
from delivery services, rental income from sub-letting a portion of its warehouse, and sales
from a non-profit-making canteen run for the benefit of the staff.
The financial manager has prepared the following draft accounting policy notes for inclusion in
Shine Limited’s annual financial statements:
SHINE LIMITED
NOTES TO THE FINANCIAL STATEMENTS
FOR THE YEAR ENDED …
1. Basis of preparation
1.1 The reporting entity
…Statement of compliance
These financial statements comply with International Accounting Standards.
2. Accounting policies
2.1 Measurement bases
The financial statements have been prepared on the historical cost basis.
2.2 Inventory
Inventory is measured at the lower of cost and net realisable value.
Required:
a) Redraft the accounting policy notes to comply with IAS 1 Presentation of Financial
Statements and IAS 2 Inventories
b) State what further information would be disclosed in the notes to the financial statements in
respect of the items dealt with in the above accounting policy notes.
c) Prepare the inventory note(s) disclosure in compliance with IAS 2 Inventories.
Question 13.4
Part A:
Buyhouse Limited purchased inventory on credit from BYM Limited at a cost of C1 000
BYM Limited allows a settlement discount of 5% if payment is made within 30 days.
Buyhouse Limited uses a perpetual inventory system.
Required:
a) Prepare the journal entry to record the purchase of the goods.
b) Prepare the journal entry to record the payment of the amount owing to BYM Limited,
assuming that payment is made within 30 days.
c) Prepare the journal entry to record the payment of the amount owing to BYM Limited,
assuming that payment is made after 30 days.
Part B:
Salehouse Limited sold inventory on credit to D Thomas at a selling price of C400.

A settlement discount of 5% is allowed if payment is received within 30 days.
Chapter 13 157
Required:
a) Prepare the journal entry to record the sale of the goods.
b) Prepare the journal entry to record the receipt of the amount owing from D Thomas,
assuming that payment is received within 30 days.
c) Prepare the journal entry to record the receipt of the amount owing from D Thomas,
assuming that payment is received after 30 days.
Question 13.5
You have started your own business called “Financial Fitness Limited”, an entity that provides
advice on how to comply with the International Financial Reporting Standards. Business is
booming and your latest client is Perfect Plastics Limited (a manufacturer and retailer of
various plastic products). You are known as an expert on IAS 2 Inventories. Peter Parker, the
financial manager at Perfect Plastics Limited, needs help accounting for certain costs and has
sent you an email, an extract of which follows:
Hi
We are finalising our financial statements for our reporting period ended 31 December 20X2
and I need a better understanding of accounting for certain costs associated with our
inventories. Please see my queries below:
Query 1: Plastic buckets purchased from China:
We purchase plastic buckets from China to resell in South Africa, rather than manufacture
them ourselves. We purchase the goods from our Chinese supplier on a “free on board”
basis. As these buckets are imported, we have to pay import duties and transport costs to our
warehouse. The Customs Department will refund 100% of the import duties as soon we
submit our claim forms. The terms of the purchase agreement include a settlement discount
of 5% if we pay within 60 days, and a rebate of 3% to assist us with selling costs. I am not
sure how to measure inventory that we import from overseas.
Query 2: Plastic cutlery manufactured by Perfect Plastics Limited
We manufacture plastic cutlery that is popular for picnics. I’m not sure about the accounting
treatment of the costs associated with the conversion of inventory. I have listed the costs that
I think should be recorded as inventory below:
x Labour costs of factory workers who manufacture the cutlery.
x Salaries to personnel in Human Resources whose responsibilities include the payment of
the wages to the factory workers.
x During the year, there was a strike by employees for higher wages. As a result, we had to hire
inexperienced casual labour, and additional costs were incurred when they caused the
machines to become jammed. Also, our actual production was less than expected.
x Fixed annual rent expense for the storeroom where we store the plastic pellets used to
manufacture the cutlery.
x Fixed annual rent expense for the factory.
x We’ve been having trouble selling some of the plastic cutlery and so organised a major
advertising campaign, at great expense, to promote the product in time for the summer holiday.
Query 3: Plastic “Broc” shoes sold by Perfect Plastics Limited
We sell plastic shoes called “Brocs”. These shoes were very popular in the past, and then we
received news that our competitor was releasing a new range of shoes that were superior to
ours. As a result, the “Brocs” on hand at 31 December 20X1 were written down to a net
realisable value of C75 per pair (original cost was C105 per pair).
158 Chapter 13
During 20X2, it was discovered that the shoes manufactured by our competitor were
extremely uncomfortable. Bad news for them - but good news for us! We have now
determined, during 20X2, that the net realisable value is C120 per pair!
Regards
Peter Parker
Required:
a) Discuss, with reasons and with reference to IAS 2 Inventories, the appropriate
measurement of inventory in query number (1) and query number (2) above.
b) Process the journal entries (per pair of shoes) that would have been required for query
number (3) for the years ended 31 December 20X1 and 31 December 20X2.
UKZN, 2011 test, adapted
Question 13.6
Bubbles Limited was incorporated on 1 July 20X1. The bookkeeper has provided you with
the following information regarding its factory:
x A supervisor was hired to manage all administration at the factory. His annual salary is C96 000.
x A plant was purchased on 1 July 20X1 and has an expected useful life of 10 years. The
plant cost C480 000 and is depreciated on a straight-line basis to a nil residual value.
x There are no other fixed manufacturing costs.
x Raw materials of C300 000 were purchased during the year (the only variable cost
incurred) and that these had all been used by year-end.
x Production during the first period (10 months) of operation was as follows:
Budgeted (10 months) Actual (10 months)
Production (units) 24 000 units 14 400 units
Sales (units) 18 000 units 12 000 units
Required:
a) Calculate the following for the year ended 30 April 20X2:

i. the application rate to be used when allocating fixed manufacturing costs to inventory
at year end;
ii. the amount of fixed manufacturing costs included in the closing balance of inventory
on 30 April 20X2;
iii. the total amount of fixed manufacturing costs expensed during the period ended
30 April 20X2.
b) Prepare the journal entries to account for the events and transactions in Bubbles Limited
for the year ended 30 April 20X2.
Question 13.7
Elder Limited manufactures Zimmer frames. The costs that have been expensed by the
bookkeeper during the current year ended 31 December 20X1 are shown below:
C
Raw materials (a direct cost) 120 000
Factory labour: wages (a direct cost) 90 000
Cleaners: wages (an indirect, variable cost) 60 000
Annual factory rent (an indirect, fixed cost) 20 000
Depreciation on plant (an indirect, fixed cost) 10 000
Chapter 13 159
x Budgeted production for the year ended 31 December 20X1 was 50 000 units, but this
was the first year of operations and thus the numerous teething problems resulted in the
company operating at only 60% of its budgeted capacity.
x Sales were good during the year with only 500 Zimmer frames still unsold at year-end.
x There was no stock of raw material or work-in-progress at year-end.
Required:
Part A:
Using the information given above:

a) Calculate the value of the inventory at 31 December 20X1.
b) Calculate the portion of the fixed manufacturing overheads capitalised to inventory during the
c) Calculate the portion of the fixed manufacturing overheads still in inventory at
31 December 20X1.
d) Calculate the portion of the fixed manufacturing overheads that have been expensed during
e) Show all journals possible. Assume that all transactions/ events were processed as single
transactions and that, where applicable, amounts were paid in cash.
f) Calculate the amount at which cost of inventories expense will be disclosed in the statement
of comprehensive income for the year ended 31 December 20X1.
Ignore tax.
Part B:
Assuming that actual annual production totalled 60 000 units:

a) Calculate the value of the inventory at 31 December 20X1.
b) Calculate the portion of the fixed manufacturing overheads capitalised to inventory during the
c) Calculate the portion of the fixed manufacturing overheads still in the inventory asset account
d) Calculate the portion of the fixed manufacturing overheads that have been expensed during
e) Show all possible journals. Assume that all transactions / events were processed as single
transactions and that, where applicable, amounts were paid in cash.
f) Calculate the amount at which cost of inventories expense will be disclosed in the statement
of comprehensive income for the year ended 31 December 20X1.
Ignore tax.
Question 13.8
ToyCars Industries is a wholesaler that distributes boxes of toy cars to local shops.
The company has a 31 December financial year-end.
The inventory transactions that occurred during January 20X5 are shown overleaf.
160 Chapter 13
January Purchase descriptions January Sales descriptions

1 220 boxes at C220 10 220 boxes at C286
31 330 boxes at C308
Additional related information includes:

x All purchases and sales were for cash.
x All cost prices and selling prices referred to above are shown net of a 10% cash discount.
x There was no opening inventory in January 20X5.
x The monthly stock count revealed that there were 330 boxes on hand at 31 January 20X5.
Part A
Use the information provided and assume:

x The company uses the perpetual system to account for inventory movements.
Required:
Prepare all the inventory-related ledger accounts for month January 20X5 assuming that:
a) the FIFO formula is used.
b) the WA formula is used
Part B:
Use the information provided and assume:

x The company uses the periodic system to account for inventory movements.
Required:
Prepare all the inventory-related ledger accounts for month January 20X5 assuming that:
a) the FIFO formula is used.
b) the WA formula is used.
Part C:
Use the information provided except assume that the:

x monthly stock count on 31 January 20X5 revealed 300 boxes on hand (i.e. not 330 boxes).
Required:
Discuss the accounting implications for the information revealed by the stock count for the
month ended 31 January 20X5 assuming that:
a) a perpetual inventory costing system is used.
b) a periodic inventory costing system is used.
Question 13.9
You are the accountant for Cadcon, a chocolate manufacturer, and are currently preparing the
inventory accounts for March 20X8. In preparation, you have obtained the following information,
shown overleaf:
Chapter 13 161
Balances on 1 March 20X8:

x Raw Materials (4 125 kilograms) C5 500
x Work-in-Progress C9 625
x Finished Goods (825 units) C 8 250
Raw Materials:
x Purchased during March 20X8 (11 000 kilograms) C11 000
x Used during March 20X8 (7 150 kilograms) ?
Wages:
C27 500
x Incurred during March 20X8
x Incurred as follows:
- Factory workers 80%
- Cleaning staff in the factory 6%
- Cleaning staff in the head office 4%
- Administrative workers in the head office 10%
Other conversion costs:

x Electricity (Electricity considered a variable cost and paid in cash) C17 050
x Depreciation (considered a variable cost) C13 750
- Relating to machinery used in the factory 80%
(This machine was idle for 30% of the time)
- Relating to equipment used by head office 20%
x Rent of factory building for March 20X8 (paid in cash) C11 000
x Budgeted normal production for March 20X8 (units) 5 500
x Units put into production in March 20X8 5 775
x Cost of units completed during March 20X8 (4 950 units) C44 550
x Percentage of all finished goods sold during March 20X8 80%
Required:
Show the ledger accounts for raw materials, work-in-progress and finished goods using the
perpetual system and assuming that:
a) the first-in-first-out formula is used.
b) the weighted average formula is used.
Question 13.10
Cheesecake Limited produces cheese cakes for the local market. At its financial year ended
30 September 20X5, it had raw materials of C320 000 on hand. It is expected that the cost to
convert the raw materials into finished cheese cakes is C80 000.
Required:
Calculate the net realisable value of the raw materials and journalise the write-down, if any,
assuming that, once converted into the finished cheese cakes, the total inventory of cheese cakes
would have a:
a) sales value of C480 000, where related selling costs would be C40 000.
b) sales value of C400 000, where related selling costs would be C40 000.
Question 13.11
Tesla Limited is a company that is a retailer of all manner of electrical and electronic goods.
The merchandise that was on hand at 31 December 20X4 is presented below.
x Transformers: The company has 500 transformers in stock, each with a cost of C11 000
and a net realisable value of C13 400.
162 Chapter 13
x Generators: There were 3 600 generators in stock, each with a cost of C18 000 and a net
realisable value of C16 400.
x Insulators: There were 1 500 insulators in stock, each with a cost of C17 000 and a net
realisable value of C14 000.
x Solar panels: There were 4 400 solar panels in stock, each with a cost of C12 800 and a
net realisable value of C16 000.
x Wind turbines: There were 2 000 wind turbines in stock, each with a cost of C30 000 and
a net realisable value of C27 000.
In order to boost sales, Tesla began an intensive marketing drive in December 20X4,
advertising all merchandise at a discount of 5% from January 20X5. The accountant did not
consider these advertised prices when calculating the abovementioned net realisable values.
Shortly before year-end, Tesla Limited received an order for 400 wind turbines to be delivered
to a new wind farm in Cape Town. The order is considered to be a firm commitment from the
farm and the purchase agreement has set the selling price per turbine at C37 000. Selling
costs on this contract total C640 000. The customer requires that these items be painted in
their own company colours. The expected repainting costs per turbine are C4 000.
Shortly after year-end, Tesla Limited experienced a strong wind storm that destroyed 10% of
the transformers that were in stock.
Required:
Calculate the inventory balance that would be presented in the statement of financial position
Question 13.12
Bikini Limited, an audit client of your firm, has approached you with the following questions
regarding inventory:
a) Fabric included in year-end inventory includes fabric being shipped from USA on FOB terms
(i.e. risks and rewards are transferred on date of shipment from the foreign harbour).
x Delivery costs associated with this special fabric are excessive (C50 000 more than
normal delivery costs), but the fabric is required urgently for seamless production.
Can this C50 000 be included in the inventory value at year-end?
b) The company used a consultant to design new swimming shorts (a completely new product
with which the company has no experience), at a total cost of C30 000.
x This was a once-off order for a large surf store chain.
x The shorts were complete by year-end at a total production cost of C500 000.
Can the consultant’s fees be included in the inventory valuation?
c) During the year, the company produced 85 000 bikinis and sold 75 000 bikinis.
x Normal production is 100 000 bikinis per annum.
x Variable costs are C30 per unit, and annual fixed manufacturing overheads amount to
C700 000.
Prepare journal entries to record inventory and cost of sales for the year.
d) Fabric X, used in production of the bikinis, is valued at C40 per metre.
x Fabric X can only be sold at C35 per metre.
x Finished bikinis are expected to sell for C100 and cost C37 to produce.
At what value should Fabric X be recognised in the financial statements?
Required:
Respond briefly to all the above queries of your client.
Chapter 13 163
Question 13.13
Woody Limited manufactures toy wheelbarrows for young children. The following information
relates to its inventory for the year ended 31 December 20X3.
Quantity Details C
Beginning of the year:
- Raw materials 17 000 kg C6.80/ kg ?
- Work-in-progress 0 0
- Finished goods 34 000 units
During the year:
- Raw materials purchases ? C6.80/ kg 2 720 000
- Raw materials usage 170 000 kg ? ?
- Rent incurred 680 000
(75% used by the factory and 25% by the head office)
- Direct factory wages incurred 850 000
- Office telephone incurred 34 000
- Electricity incurred (each wheelbarrow manufactured C0.2/ kilowatt 25 500
requires 0.5 kilowatts of electricity)
- Year-end party for factory staff 13 600
x 170 000 wheelbarrows were started during the year. Of these, 90% were completed during the
year and the remaining 10% were effectively complete at year-end, merely requiring the drying
process to be finalised. This drying process does not involve any further costs.
x 70% of finished goods that were available for sale during the year remained unsold at
31 December 20X3.
x Annual fixed manufacturing costs incurred are C510 000 and a normal annual production
level is 510 000 units.
x The cost per finished wheelbarrow in the current year is the same as the cost per finished
wheelbarrow in the prior year.
x All amounts incurred were paid for in cash.
Required:
Prepare journal entries to reflect the information presented above.
Question 13.14
Padfoot Limited manufactures dog food. 20X5 is Padfoot’s first year of operations. The following
information is available:
Financial information for the year ended 20X5 C
Raw material purchased (marked price including 14% VAT) 605 000
Trade discount received (calculated on marked price excluding VAT) 8%
Settlement discounts offered on purchases of raw materials 4 200
Settlement discounts received on purchases of raw materials 3 200
Variable costs (30% admin; 70% manufacturing) 100 000
Rent and insurance (see below) 200 000
Salaries and wages (see below) 500 000
Packing materials purchased (see below) 685 000
Other fixed costs (65% manufacturing; 35% administration) 285 000
164 Chapter 13
x Rent and insurance for the 20X5 year was paid in full on 3 January 20X5 for the entire
year. It consists of the following items:
Factory C140 000
Storage of work-in-progress while food cools before colourants added C30 000
Shop where dog food is sold to the public C30 000
x Salaries and wages comprise of 55% manufacturing, 15% administration, and 30% sales
department salaries. Manufacturing salaries vary with production levels, while
administration and sales department salaries are fixed.
x Packing materials relate to the individual re-sealable bags in which dog food is placed for
sale. These materials may only be imported from the USA due to their specialised nature.
- The accountant erroneously converted the dollar amount on the FOB date (free on
board) instead of the DDP (delivery duty paid) date.
- Risks and rewards of ownership were transferred on the date the inventory arrived in
the Durban harbour (goods were delivered on a DDP basis).
- This was the first (and only) purchase of the packing materials during the year.
- Spot rates were as follows:
x Order date $1: C6
x Date goods were loaded in USA harbour FOB date $1: C7
x Date of arrival in Durban harbour DDP date $1: C9
x Other relevant information for the year:

- 75% of packing materials were used
- 20% of raw materials were on hand at year end
- There was no work-in-progress at year end
- 80% of the finished goods produced were sold during the year.
x Normal production levels are estimated to be 18 000 units per annum. These 18 000
units were expected to be produced evenly over the 12-month period. The actual number
of units produced during the year was 15 500 units.
x During November, Padfoot experienced the unfortunate incident of being held up by
armed thieves, during which 1 550 units of finished products were stolen.
x Padfoot Limited is a VAT vendor. All amounts exclude VAT unless otherwise indicated.
x A single entry to adjust for any over- or under-absorption of fixed manufacturing
overheads is processed at year-end.
Required:
a) Calculate the carrying amount of each category of inventory at 31 December 20X5.
b) Calculate the value at which the finished goods should be measured on the statement of
financial position as at 31 December 20X5, as well as the amount of any write down (if
required) assuming that:
x on 31 December 20X5, a flood damaged most of the finished goods on hand;
x expenditure to restore the goods to saleable condition is expected to be C90 000;
x an advertising campaign for the clearance sale will cost approximately C15 000; and
x the dog food may then be sold at a discounted price of C200 000.
c) Prepare the journals to reflect the information provided in (b) above.
d) Disclose the inventory note in the notes to the financial statements for the period ended
31 December 20X5 after taking into account the information in (b) above.
Chapter 13 165
Question 13.15
Chunky Limited is a company that specialises in the manufacture of residential built-in air
conditioners. Chunky Limited is in its first year of operations and has 750 units of finished goods
on hand at its financial year ended 31 December 20X1 (there was no stock of either raw material
or work-in-progress on this date).
Chunky Limited has recently hired an accountant who is familiar with neither the manufacturing
industry nor how to account for fixed overheads and has thus allocated all fixed overhead costs
incurred during the year to a suspense account. You are given the following information:
Units C
Inventory of finished products: 31 December 20X1 750 3 750
- conversion costs: direct labour and indirect costs (C3 per unit) 2 250
- direct materials (C2 per unit) 1 500
Fixed manufacturing overheads suspense account 30 000
Budgeted Actual
Units Units
Sales (12 months) 30 000 36 750
Production (12 months) 60 000 37 500
The 750 units on hand at year-end were sold for a net amount of C4 500 after year-end but
before approval of the financial statements. This is considered to be a normal selling price.
Required:
a) Calculate the amount at which finished goods will be disclosed in the statement of
financial position for the first year of operations. Show all your workings.
b) Calculate at what value inventories would be shown on the face of the statement of
financial position for the first year of operations, assuming that:
x the company also had work-in-progress on hand at year-end with a cost of C352 500
(correctly calculated);
x the work-in-progress requires another C18 000 costs to be incurred in order to be
completed;
x the product made by the company is fast becoming obsolete; and
x the company plans to complete the work in progress and sell it at a discounted mark-
up of only 15% on cost (below the usual mark-up) and expects to incur selling costs
estimated at C63 000 (finished goods on hand at year-end will be sold at normal
prices).
Show all your workings.
c) Assuming that the company also has raw materials of C30 000 at year-end, which had all
been offered as security for a loan, show the disclosure of inventory in the statement of
financial position, as well as the inventory note and the profit before tax note.
Question 13.16
Kudu Limited produces South African-styled gifts, all pre-packaged in designer leather boxes.
x At 31 December 20X3, its inventory comprised the following:
- Consumables: C0
- Raw materials: C100 000
- Work-in-progress: C250 000
- Finished goods: C150 000.
166 Chapter 13
x The bookkeeper has summarised the following costs incurred during the year ended
31 December 20X4:
- Raw materials were purchased for C1 020 000, before taking into account the trade
discount of C20 000 and the cash discount of C30 000 that were received.
- The cost of having the raw materials delivered was C100 000.
- Consumables of C800 000 were paid for during the year. Of this, 37,5% related to
packaging materials used for the designer leather boxes and the balance related to
the packaging used to prevent breakages during delivery of the gifts to customers.
- Wages of C3 000 000 were paid, 60% of which related to the factory workers and 40%
related to head-office cleaning staff.
- Salaries paid to head office management totalled C300 000.
- Salaries to sales representatives – all variable with the number of units sold by the
representative – totalled C400 000.
- The annual rent and insurance was C800 000, C100 000 of which related to storage of raw
materials prior to production and the rest related to the factory production processes.
- Costs of delivering completed gifts to customers were C50 000.
- Other variable costs of C1 000 000 were incurred, 60% of which related to the factory
and 40% related to the head-office.
- Depreciation of C800 000 was incurred on the plant and depreciation of C200 000 was
incurred on office equipment (all housed at head-office). Depreciation is a fixed cost.
x Kudu Limited produced 200 000 leather-boxed gifts of biltong, which was 80% of the normal
production level expected during the year ended 31 December 20X4.
x At 31 December 20X4:
- 100% of all consumables purchased during the year had been used
- 70% of all raw materials had been used
- 80% of all work-in-progress had been completed
- 90% of all finished goods had been sold.
Required:
a) Journalise the above. You may assume that each cost / transaction was a single transaction
and that where relevant, the amount was paid in cash.
b) Soon after 31 December 20X4, the directors decided to cease the production of leather-
boxed gifts and produce shoes instead.
- It has been decided that the raw materials on hand at 31 December 20X4 will be sold
as is for C300 000. The selling costs thereof are expected to be C50 000.
- The work-in-progress on hand at year-end will be completed at an expected cost of
C100 000 and is expected to sell for C700 000 (selling costs are expected to be C20 000).
- The finished goods will sell for C1 300 000 and will result in selling costs of C80 000.
Calculate the value at which inventories should be measured at year-end and show any
journal entries that may be necessary
c) Prepare the financial statements of Kudu Limited for the year ended 31 December 20X4 in
accordance with International Financial Reporting Standards, assuming further that C150 000
of the finished goods have been offered as security for a loan.
Ignore tax.
Chapter 13 167
GAAP: Graded Questions Borrowing costs
Chapter 14
Borrowing costs
Question Key issues

14.1 Various Core concepts
14.2 Stars Theory:
commencement,
suspension, and
cessation of capitalisation
14.3 Jellyvog Specific loan (foreign currency):
Costs incurred on specific dates,
Loan raised when construction begins,
Investment of surplus funds,
Construction complete before year-end:
a) Construction of a qualifying asset
b) Construction of a non-qualifying asset
14.4 Mali Specific loan:
Loan raised before construction began,
Interest compounded annually,
Construction completed before year-end
14.5 Squash Specific loan (two loans):
Costs incurred evenly over period,
Construction complete before year-end,
Partial repayment of loan at year-end
14.6 Sports Specific loan:
Loan raised when construction began,
Construction incomplete at year end,
Delays in construction:
a) Temporary delay in construction
b) Extended delay in construction
14.7 Butterfly Specific loan:
Costs incurred evenly,
Construction complete before year-end,
Asset brought into use in the following year after it was available for
use,
Deferred tax effects
14.8 Bafana General loan:
Construction incomplete at year-end
Continued on the next page…
168 Chapter 14
Question Key issues

14.9 Rugby General loan:
Costs incurred evenly over time,
Interest compounded every four months,
Construction incomplete at year-end
14.10 Comodo General loan (more than 1):
Interest incurred is given,
Loans raised before construction began,
Construction incomplete at year end
14.11 Yoodle General loan (more than 1):
Cost incurred evenly over time,
Construction complete after two years,
Temporary delay
14.12 Wayout General overdraft and specific loan (two loans):
Construction costs incurred on specific dates,
Interest compounded quarterly,
Loan raised after construction began,
Construction complete before year-end
Chapter 14 169
Question 14.1
Part A
a) Borrowing costs are expensed unless they are incurred in connection with the
construction of a qualifying asset, in which case they may be capitalised.
b) A company financed the construction of a plant through an issue of shares. The
dividends declared on these shares may not be capitalised to the cost of the plant.
c) Qualifying assets refer to non-current assets that take a substantial period of time to get
ready for their intended use or sale.
d) Borrowing costs may never be capitalised to the acquisition of financial assets.
e) IAS 23 allows one to choose between capitalising or expensing the borrowing costs incurred on the
acquisition, construction or production of an item of plant, being a qualifying asset.
f) On 1 March 20X1, Light Limited began the construction of a new factory plant, a qualifying asset.
On the same day, a specific loan was raised. Capitalisation of the borrowing costs on this specific
loan began immediately since all criteria for capitalisation were met. However, construction
activities were halted for the entire month of June 20X1 due to the entity experiencing cash flow
problems. The borrowing costs incurred during June should be expensed.
g) A loan of C100 000 was raised specifically for the construction of a plant, which met the definition of
a qualifying asset. The loan was used to acquire the necessary raw materials and pay the related
labour costs necessary for the construction of this asset. A further loan of C20 000 had to then be
raised to buy an extra 3 tons of material X since the original load of material X (also having cost
C20 000) was completely destroyed in a freak storm. Since both loans are specific loans, the entire
borrowing costs on both loans would be capitalised, irrespective of the fact that C20 000 of the
combined loan of C120 000 was used to replace raw materials.
h) Borrowing costs that are directly attributable to construction of investment property must always be
expensed.
i) IAS 23 requires disclosure of the borrowing costs that are expensed as finance costs in
the statement of comprehensive income.
Required:
Indicate whether the statements are true or false and provide a brief explanation if false.
Part B
a) Define the term ‘borrowing costs’ and explain whether this refers exclusively to interest on loans
and overdrafts.
b) Define the term ‘qualifying asset’ and identify the assets that IAS 23 expressly excludes
from this term.
c) Briefly explain when capitalisation of borrowing costs on a qualifying asset would begin.
d) Briefly explain when capitalisation of borrowing costs on a qualifying asset would cease.
Required:
Provide brief answers to the questions above.
Part C
a) Min Limited constructed a building during 20X4, details of which are as follows:
x Min Limited secured a loan to finance the construction of a building (a qualifying
asset) on 5 January 20X4 and began incurring interest on the loan from
1 February 20X4 when the loan funds became available.
170 Chapter 14
x Min Limited purchased the first batch of raw materials (sand, cement and bricks) on
10 February 20X4.
x The construction of the building began on 20 February 20X4.
Identify the date on which capitalisation of borrowing costs should commence (i.e. identify
the commencement date).
b) Max Limited was constructing a building during 20X4. A spreadsheet of outstanding work
as at 30 September 20X4 was drafted by the project manager. The date on which each
of these outstanding tasks was completed was then filled onto this spreadsheet. The
completed spreadsheet was presented to you as follows:
Outstanding work as at 30 September 20X4: Date completed:

x Construction of the roof on the east wing 05 November 20X4
x Plumbing on all floors still to be installed 08 December 20X4
x Final documentation to be submitted for filing with the municipality. 12 December 20X4
x Painting of the interior and exterior of the building. 22 December 20X4
Identify the date on which the capitalisation of borrowing costs should cease (i.e. identify
the cessation date).
c) Arnica Limited is constructing an amusement park on the beachfront. Construction of the

park had to be suspended thrice, details of which are as follows:
Reasons for periods during which construction was Date suspended: Date
suspended: resumed:
x Construction was delayed for almost 1 month because 02 February 20X4 05 March 20X4
the cement work involved in the construction of the
various foundations had to cure before construction
could commence.
x Construction was delayed for almost 2 months after a 20 March 20X4 15 June 20X4
minor earthquake on 20 March 20X4 caused certain
tectonic plates to tilt in a way that caused underground
water to pool. This water had to be drained from the
construction site before construction could continue.
x Construction was delayed for almost 2 months due to 05 September 20X4 27 October 20X4
the anticipated seasonal monsoons during most of
September and October 20X4.
Explain whether the capitalisation of borrowing costs should be suspended during any of
these periods referred to above.
Required:
Provide brief answers to the questions above.
Question 14.2
Stars Limited borrowed money on 1 February 20X5 specifically to fund the acquisition,
construction or production of the following assets:
x A factory building was being constructed in East London:
x Development and related expenditures began in December 20X4.
x Development has been slow, having been hampered by a combination of:
- seasonal wet weather that halted construction in January and February 20X5 (the
project manager had anticipated this delay and built it in to his project timeline) and
- a freak tornado on 1 May 20X5. Mopping up after the tornado took a month and
construction resumed on 1 June 20X5.
Chapter 14 171
x An office park was being constructed during 20X4 and 20X5.

x This office park consists of five separate office blocks, one of which is to be used as the
company headquarters and the remaining four blocks will be rented out to tenants.
x Three of the office blocks were completed on 1 July 20X5. The other two office
blocks were still under construction at year-end.
x A factory plant was ordered from a foreign supplier in America.
x The plant was shipped on 1 February 20X5, on which date the risks and rewards of
ownership passed.
x The payment for the plant was made on 1 March 20X5. No interest was charged on
the amount owing from 1 February 20X5.
x The plant arrived on 1 June 20X5. Installation of the plant began immediately and
was complete on 1 September 20X5. Safety tests were performed on the plant during
September 20X5 and the plant was considered available for use on 1 October 20X5.
x A tract of land in Queensburgh:
x This land, purchased for C700 000, is not yet being developed since the entity is still
waiting for the plans to be passed by the local building authorities.
x The C700 000 was paid to the transferring attorneys on 1 March 20X5 and transfer of
ownership took place on 1 June 20X5.
x An architect was hired on 1 July 20X5 to design the factory building: these plans were
completed on 1 September 20X5 and were submitted to the local building authority on
5 September 20X5. The local building authority has indicated that it will take
4 months for the plans to be properly assessed and passed.
x A team of construction engineers was paid C200 000 as a non-refundable deposit to
secure a commitment to being available to begin construction in February 20X6.
Required:
Write a letter to the accountant of Stars Limited advising him on the commencement,
cessation and suspension of capitalisation of borrowing costs for each of the entity’s assets.
Question 14.3
Jellyvog Limited is a company based in Paris. On 1 January 20X8 it began the construction
of a new shopping mall in America.
Details of the progress payments made during 20X8 are as follows:

Costs in $
On 1 January 200 000
On 1 April 300 000
On 1 July 550 000
On 30 September 350 000
The construction of the shopping mall (considered to be a qualifying asset) was completed on
30 September 20X8 and it was let out to tenants on the same day.
The construction was financed by a foreign loan of $1.5 million raised on the 1 January 20X8
(raised specifically to finance the mall construction). The interest rate on this loan was 15%
per annum. The loan and related interest were repaid on 31 December 20X8. Surplus funds
were invested in a dollar-denominated call account earning 10% interest per annum. Interest
income on this account accrues annually. The balance in the dollar-denominated call account
was transferred to the company’s Euro-denominated call account on 31 December 20X8.
172 Chapter 14
Jellyvog uses the Euro as their functional currency. The average Euro/ Dollar exchange rates
were as follows:
Euro Dollar
Average rates in 20X8:
1 January – 31 March 6.00 : 1
1 April – 30 June 4.00 : 1
1 July – 30 September 7.00 : 1
1 October – 31 December 8.00 : 1
1 January – 31 December 6.25 : 1
Spot rates in 20X8: : 1
1 January 5.00 : 1
31 March 6.10 : 1
30 June 3.60 : 1
30 September 7.20 : 1
31 December 7.00 : 1
Required:
a) Calculate the amount of borrowing costs that may be capitalised to the shopping mall
during the year ended 31 December 20X8 and provide the related journal entries.
b) Calculate the amounts to be expensed or included as income in the statement of
comprehensive income for the year ending 31 December 20X8 assuming that the
shopping mall was not considered to be a qualifying asset.
Ignore tax
Question 14.4
In order to meet the requirements as stipulated by the tender board of the KwaZulu-Natal
provincial department, Mali Limited’s directors voted in favour of the construction of a new
building (a qualifying asset). This building will be used as a warehouse for the safe-keeping of
goods before they are despatched to all the municipalities within the province.
The pertinent financing details of the construction of the building are as follows;
x The construction was financed by a loan of C2 280 000 from Cash Limited.
x The loan was raised on 1 January 20X6 specifically to fund the construction of the building.
x Since Mali Limited is a fairly new company with no credit rating at all, the loan bears a
hefty interest rate of 30% per annum. Mali made no capital repayments during the year.
x Surplus funds were invested and earned interest at 24% per annum.
x All interest is compounded annually.
The construction began on 1 February 20X6. Construction costs incurred during 20X6 were
paid for on the first day of each of the following months:
x Progress payment in February: C600 000
x Progress payment in July: C720 000
x Progress payment in November: C960 000
The construction of the building ended on 1 December 20X6 on which date it became ready
for use as a warehouse, and on which day the tender proposal was immediately submitted.
However due to delays in finalising the tender process, Mali was only awarded the tender on,
and thus only brought the building into use from, 1 January 20X7. Depreciation on the
building is based on a useful life of 12 years, a nil residual value and the straight-line method.
Required:
a) Calculate the borrowing costs to be capitalised during the year ended 31 December 20X5.
b) Calculate the depreciation for the year ended 31 December 20X5.
c) Calculate the carrying amount of the building as at 31 December 20X5.
d) Show all the interest related journal entries for the year ended 31 December 20X5.
Chapter 14 173
Question 14.5
You are a recently employed accountant of Squash Limited. The company had decided to
construct a more energy-efficient factory to minimise its carbon footprint. The construction of
the factory began on 1 March 20X5 and was finalised on 31 August 20X5. The construction
resulted in the costs of C300 000 being paid on 31 March 20X5, C100 000 on 30 April 20X5
and C220 000 on 31 July 20X5.
To use the most appropriate finance the company decided to use an external consultant to
determine the financing for the project.
x In line with the consultant’s suggestion, the company raised a $62 500 foreign loan on
1 January 20X5 from Green Bank at 10% interest. The exchange rates were as follows:
x 1 January 20X5 C8,00: $1 Spot exchange rates
x 1 March 20X5 C9,00: $1 Spot exchange rates
x 31 August 20X5 C10,00: $1 Spot exchange rates
x 31 December 20X5 C11,00: $1 Spot exchange rates
x 1 January – 28 February 20X5 C6,00: $1 Average exchange rates
x 1 March – 31 August 20X5 C9,20: $1 Average exchange rates
x 1 September – 31 December 20X5 C9,50: $1 Average exchange rates
The interest rate on 1 January 20X5 that would have been available on a local loan of
C500 000 (i.e. equivalent to the foreign loan of $62 500) was 18%.
x A second loan of C400 000 was raised on 1 June 20X5 from a local bank, Peace Bank, at
an interest rate of 15%. Unfortunately, due to a breach of contract, Squash Limited was
forced to repay C100 000 of the Peace Bank loan (capital portion) on 31 July 20X5.
Interest on both loans is compounded annually. Any surplus funds from the loans are invested
in a 6% per annum interest-bearing account.
Required:
Prepare all the related journal entries for the year ended 31 December 20X5.
Ignore tax.
Question 14.6
Sports Unlimited began construction of a building to be used as a sports training academy for
aspiring athletes. Construction began on 1 July 20X5 and was still incomplete at year-end.
Construction was forced to temporarily cease between 30 July and 25 August 20X5 in order
for the concrete foundations to cure (this is a necessary part of the building process).
In preparation to fund the construction, a loan of C4 000 000 was secured with Ref Bank on
15 March 20X5. These funds were remitted to Sports on 1 July 20X5 and were immediately invested
in a cash call account with the same bank. The loan incurs interest at 15% per annum and the call
account pays 9% per annum, all interest being compounded annually on 31 December.
Three progress payments of C1 000 000 each were made: on 1 July 20X5, 1 January 20X6
and 1 March 20X6.
Required:
a) Using the general journal, show the interest-related journal entries for the year ended
30 June 20X6.
b) Briefly explain how to calculate the amount of borrowing costs that may be capitalised to the
building cost account in the year ended 30 June 20X6 assuming that construction could not
begin due to the building plans failing to meet local authority’s basic building regulations.
Assume that the plans were re-submitted and that it is expected that the local authority will give
the necessary permission to begin construction in early August 20X6.
174 Chapter 14
Question 14.7
Butterfly Limited raised a loan of C500 000 on 1 January 20X5.

x This loan was raised specifically to fund the construction of a building (a qualifying asset).
Interest of C50 000 is charged on this loan (10% per annum) and is compounded
annually on 31 December.
x Interest income of C30 000 was earned evenly during the year. Included in this amount is
C9 000 earned by investing surplus funds from the specific loan in a fixed deposit
between 1 July – 30 September.
x Construction began on 1 March 20X5 and ended 31 August 20X5. Construction costs
totalled C410 000 during this period.
x The building was available for use on 1 September 20X5 but was only brought into use on
1 October 20X5 due to unforeseen circumstances. Buildings are depreciated at 10% per
annum, straight-line to a nil residual value.
The company owns only one other item of property, plant and equipment, this being equipment with
a carrying amount of C370 000 at 31 December 20X5 (C420 000 at 31 December 20X4).
There have been no disposals, purchases or other movements in property, plant and
equipment other than those that are evident from the information provided.

x allow the deduction of interest as it is incurred unless it relates to the construction of an
asset, in which case it is allowed in full as a deduction in the year in which the asset is
brought into use;
x allow the deduction of a capital allowance based on the cost of the building at 5% per
annum in the year that it is brought into use, not apportioned for part of a year;
x levy income tax at 30% of taxable profits.
There are no other temporary differences other than those evident from the information above.
Required:
a) Calculate the amount of borrowing costs that must be capitalised in terms of IAS 23.
b) Show all related journal entries in 20X5.
c) Provide the following disclosure in Butterfly Limited’s financial statements for the year
ended 31 December 20X5 in as much detail as is possible:
x Statement of comprehensive income
x Statement of financial position
x Notes showing the borrowing costs accounting policy, finance charges, depreciation
expensed, property, plant and equipment and deferred tax.
Comparatives are not required
Question 14.8
Bafana Limited began the construction of a new office block, a qualifying asset, on
1 January 20X4.
x The company has a number of various loans at its disposal, currently used for a variety of
other projects, which it can use to finance the construction of the office block.
x The average balance outstanding on these general loans was C30 000 000 during 20X4.
Chapter 14 175
x The total interest incurred on general loans was C3 900 000 for the year ended
31 December 20X4 (interest is compounded annually).
The accountant provided the details of the construction costs paid during 20X4 as follows
(each of the month’s payments was made in advance on the first day of that month):
Date of payment C
1 January 20X4 450 000
1 April 20X4 300 000
1 July 20X4 375 000
1 September 20X4 225 000
1 October 20X4 300 000
The office block was still under construction at 31 December 20X4.
Required:
a) Calculate the amount of borrowing costs that may be capitalised to the office block during
b) Calculate the depreciation for the year ended 31 December 20X4.
c) Calculate the carrying amount of the office block as at 31 December 20X4.
d) Provide the journals related to the interest expense and capitalisation of interest for the
Question 14.9
Rugby Limited began the construction of a new stadium on 1 January 20X5. This stadium, which is a
qualifying asset in terms of IAS 23, was still under construction at 31 December 20X5.
Payments made relating to the construction were made evenly during 20X5 as follows:
Construction payments paid evenly over the following periods: C
1 January 20X5 – 30 April 20X5 600 000
1 May 20X5 – 31 August 20X5 300 000
1 September 20X5 – 31 December 20X5 900 000
The construction was financed by general borrowings within the company. General loans
outstanding at any one time during 20X5 averaged C20 000 000. The interest expense incurred on
these loans during 20X5 was C2 600 000. The financier compounds interest every 4 months.
The stadium is a qualifying asset as defined by IAS 23.
Required:
a) Calculate the amount of borrowing costs that should be capitalised to the stadium during
the year-ended 31 December 20X5.
b) Calculate the depreciation for the year-ended 31 December 20X5.
c) Calculate the carrying amount of the stadium as at 31 December 20X5.
d) Provide the journals related to the interest expense and capitalisation of interest for the
Question 14.10
Comodo Limited began the construction of a building, a qualifying asset, on 1 June 20X5.
The building was not complete at 31 December 20X5.
176 Chapter 14
The construction costs were incurred as follows:

Construction costs paid for on the following dates: C
On 1 June 20X5 150 000
On 1 October 20X5 300 000
On 1 November 20X5 300 000
These costs were funded from general borrowings, details of which are as follows:
Interest
Balances incurred
C C
Loan from Chibbing Bank – balance at 31 December 20X5* 300 000 24 000
Loan from Lubbing Bank – balance at 31 December 20X5* 1 050 000 105 000
Bank overdraft: average balance during the year ended 510 000 63 000
31 December 20X5
1 860 000 192 000
* Both loans were in existence throughout the year. No additional amounts had been raised
and no repayments had been made during the year.
Required:
Show the related journal entries during the year ended 31 December 20X5.
Ignore tax.
Question 14.11
Yoodle Limited is constructing a factory building for its own use. At 31 December 20X4, a
total of C450 000 had already been capitalised to the cost of this building.
x Cash flow was becoming problematic near the end of December 20X4 and thus, in order
to have sufficient available resources, Yoodle Limited raised an additional loan of
C400 000, costing interest of 15% per annum (these funds became available from
1 January 20X5). This loan is to be used for a variety of purposes (it has not been raised
specifically for the building costs). Interest on this loan is compounded annually.
x Yoodle Limited had an existing general loan at 1 January 20X5 of C800 000, costing
interest of 10% per annum. Interest on this loan is compounded annually.
x There are no other loans. No repayments on either loan were made during 20X5 or 20X6.
x Interest income was earned on the investment of funds from the general loans that were
surplus to requirements. Interest income earned was as follows:
Year-ended 31 December 20X5 C45 000
Year-ended 31 December 20X6 C92 000
x The following construction costs were incurred in 20X5 (paid evenly during each month):
C per month
1 January – 31 July (7 months) 70 000
1 August – 30 November (4 months) 40 000
1 – 31 December (1 month) 90 000
x No further construction costs were paid for during 20X6 although the builders completed
laying the final concrete slab around the base of the building on 3 January 20X6. This
slab required roughly 4 weeks to ‘cure’ with the result that the building was not available
for use until 1 February 20X6.
x Whilst the factory equipment should have been installed on or around 1 February 20X6,
the contractors involved in the installation were delayed on a previous unrelated job, with
the result that the equipment was only installed in the last week of February and thus the
factory building was only brought into use on 1 March 20X6.
Chapter 14 177
x The building is expected to have a useful life of 10 years and a nil residual value. The
straight-line method of depreciation is considered to be appropriate.
Required:
a) Show the journal entries related to the above information in the books of Yoodle Limited
for the year-ended 31 December 20X5 and 20X6.
b) Provide as much disclosure as is possible for the year-ended 31 December 20X6.
Ignore tax.
Question 14.12
Wayout Limited embarked on the construction of one of the world’s first rotating buildings on
1 January 20X1. The contract price is C400 000 000. Construction costs were paid as follows:
- 2 January 20X1 100 000 000
- 1 April 20X1 50 000 000
- 1 July 20X1 80 000 000
- 1 October 20X1 200 000 000
x The construction, which was complete by 1 November 20X1, was financed as follows:
x An overdraft facility limited to C160 000 000:
- the facility is used by the company for various company costs;
- the interest incurred on the overdraft was C24 million for the year and the
average overdraft balance was C150 000 000;
- Interest is compounded on a quarterly basis
x Two loans raised specifically for this project:
- C250 000 000 raised on 1 July 20X1 with the Bank of Oz at 10% per year; and
- C50 000 000 raised on 1 October 20X1 with the Bank of Wizardry at 8% pa.
- Interest is compounded on a quarterly basis
x Surplus funds were invested from 1 July to 30 September, earning interest at 5% p.a.
Required:
Provide all journal entries relating to interest for the year ended 31 December 20X1.
Ignore tax.
178 Chapter 14
GAAP: Graded Questions Government grants and assistance
Chapter 15
Government grants and assistance
Question Key issues
15.1 - Concept questions

15.2 Rugs Galore Grant to subsidise expenses, comparing:
- recognition as income; versus
recognition as a reduction in expenses
15.3 Dozey Journals: grant to subsidise asset, comparing:
- recognised as income; versus
- recognised as reduction of asset.
15.4 Potato Grant to subsidise asset and for immediate financial support:
- recognition as income; versus
- recognition as a reduction of asset
15.5 Blot Grant to subsidise asset, comparing:
Repayment of grant (change in estimate).
15.6 Anthony Grant of asset:
- recorded at fair value; versus
- recorded at nominal amount
Government assistance.
15.7 Explorer Grant to subsidise an asset
15.8 Sparky Journals: grant to subsidise asset:
Repayment of grant (change in estimate), comparing:
- partial repayment; versus
- full repayment.
15.9 Shrek Journals: grant to subsidise a non-depreciable asset, comparing:
- secondary condition leads to future expenses (non-measurable);
- secondary condition leads to future expenses (measurable);
- secondary condition leads to future asset (depreciable).
15.10 Lavender Journals and tax disclosure: tax effects of a grant to subsidise a non-
monetary asset, comparing:
- grant is taxable; versus
- grant is exempt from tax
15.11 Snowy Low interest loan
Forgiven amounts
Capitalisation of borrowing costs (IAS 23)
Further questions incorporating this topic with other topics may be found in Chapter A
(after Chapter 15) and in Chapter B (after Chapter 28). Chapters A and B are the
Integrated Questions chapters.
Chapter 15 179
Question 15.1
a) Define the term ‘government’.

b) Explain what is meant by the term ‘government assistance’ and identify the two categories
thereof in terms of accounting requirements, explaining how the accounting of each
category differs.
c) Explain the difference between the capital approach and income approach to accounting
for government grants and explain whether IAS 20 allows a choice between these
methods.
d) A government grant received in the form of cash to be used to subsidise future expenses
must be recognised immediately in profit or loss as a credit to the ‘government grant
income’ account. True or false?
e) A cash grant received as immediate financial support where all terms and conditions have
been met must be presented as a separate line-item on the face of the statement of
comprehensive income. True or false?
f) A grant of a non-monetary asset (e.g. a plant) is recognised by debiting the asset and
crediting grant income with the fair value. True or false?
g) Explain how a government grant in the form of a non-monetary asset is measured.
h) Explain how we recognise a grant of a non-monetary asset that is non-depreciable and
how and why this differs to the recognition of a grant of a non-monetary asset that is
depreciable.
Required:
Provide answers to each of the above questions, together with a brief explanation.
Question 15.2
Rugs Galore Limited is a company that manufactures rugs. Rugs Galore is a labour-intensive
business. As an incentive for Rugs Galore to continue promoting employment rather than
investing in machinery, the government granted it a cash sum of C150 000. This grant was
received on 1 January 20X6 and was to be used to subsidise 20% of future wages.
Rugs Galore Limited complied with all the pre-conditions to be awarded this grant during the
previous financial year (20X5). The only condition that remained on 1 January 20X6 is to
incur future wages. Wages were then incurred and paid as follows:
x 31 December 20X6: C200 000
x 31 December 20X7: C250 000
x 31 December 20X8: C400 000
Required:
Show all journals in the general journal of Rugs Galore Limited, for the years ended
31 December 20X6 to 20X8, assuming that the accounting policy is to:
a) recognise this grant as grant income;
b) recognise such government grants as an adjustment to expenses.
Question 15.3
Dozey Limited manufactures and sells toys for babies. They have been operating a profitable
business for many years in the Amakanda area.
180 Chapter 15
Due to a recent baby boom, Dozey Limited needed extra equipment. At the time, the directors
discovered that the government was awarding grants to manufacturing companies operating
in the Amakanda area. Dozey Limited’s directors thus applied for a grant.
On 1 January 20X5, Dozey Limited was awarded a grant of C400 000 to purchase the needed
equipment. Dozey Limited had met all the conditions of the grant by 31 December 20X4, apart
from the actual acquisition of the equipment. Dozey Limited purchased the equipment immediately
on receipt of the grant (1 January 20X5).
The acquisition of the equipment cost C1 500 000. Its expected useful life is 4 years. Dozey Limited
does not expect to receive any amount for the equipment at the end of its useful life.
Required:
a) Show the journal entries in the years ended 31 December 20X5, 20X6, 20X7 and 20X8.
The company has the policy of recognising government grants directly in income.
b) Show the journal entries in the years ended 31 December 20X5, 20X6, 20X7 and 20X8.
The company has the policy of recognising government grants indirectly in income.
Question 15.4
Potato Limited is a company that farms corn. Potato Limited is a relatively new company in
the corn industry, having previously been in the gun manufacturing industry.
Potato Limited was awarded a government grant of C500 000 on 1 January 20X5, the details
of which are as follows:
x C300 000 is to assist with the purchase of a new harvester;
x C200 000 is for immediate financial support and is not associated with any future costs;
x All conditions attaching to the grant have been met.
Later that day, the harvester was acquired for C900 000. The harvester has a useful life of
5 years and, at the end of its useful life, Potato Limited expects to sell it for C50 000 as scrap metal.
Required:
a) Show the general journal entries for the years ended 31 December 20X5 to 20X9 using
the direct method (recognised as grant income).
b) Show the general journal entries for the years ended 31 December 20X5 to 20X9 using
the indirect method (recognised as a reduction of the related costs).
Question 15.5
Blot Limited is a newly formed company that is considering entering the ink business. Blot
plans to manufacture ink and sell it to printing businesses. Due to the scarcity of businesses
in this sector, Blot Limited was awarded a government grant to purchase the machinery it
needed to start operations.
x The grant was awarded to Blot Limited on 1 January 20X6 for an amount of C250 000
and is conditional upon Blot manufacturing ink for an unbroken period of 3 years. Should
Blot Limited stop manufacturing before the end of the 3-year period, the grant will have to
be repaid in full.
x Blot Limited purchased the requisite machinery on 1 January 20X6 for C500 000. The
machinery is expected to have a useful life of 4 years and a nil residual value.
x Due to unforeseen circumstances, Blot Limited had to stop manufacturing ink on
1 January 20X8, but intends to continue on 1 January 20X9.
Chapter 15 181
Required:
a) Show the general journal entries for the years ended 31 December 20X6 to 20X9 using
the direct method (recognised as grant income).
b) Show the general journal entries for the years ended 31 December 20X6 to 20X9 using
the indirect method (recognised as a reduction of the related costs).
Question 15.6
Anthony Limited wanted to start manufacturing guns and weapons, a business that requires a
government licence. Anthony was astounded when the licence application, which cost
C35 000, was awarded on 31 December 20X8, only a week after submitting the application.
x The fair value of the licence is reliably determined to be worth C630 000 (gun
manufacturing licences are sought after and easily transferable).
x The application fee of C35 000 was paid on 31 December 20X8.
x The licence must be renewed every 5 years.
Over and above the licence, the company was also given free advice, by officials from the
government military department, on the manufacture and marketing of weapons. This
assistance was given because of the company’s excellent BEE rating (a government imposed
set of criteria that companies in that country should abide by) in its other operations.
Required
a) Show the journal entries for the year ended 30 June 20X9 assuming that Anthony Limited
measures the licence at its fair value.
b) Show the journal entries for the year ended 30 June 20X9 assuming that Anthony Limited
measures the licence at its nominal amount.
c) Provide the necessary disclosure relating to the free government advice in Anthony
Limited’s accounting records.
Question 15.7
Explorer Limited has recently commenced operations as a manufacturer. Soon after the
commencement of operations, the directors became aware of incentives being offered to
businesses pursuing sustainable development in rural areas.
As a result of the incentives being offered, management relocated the entire operation to
Qunu (Eastern Cape). As an incentive for relocating their factory, the government agreed to
subsidise 70% of the cost of constructing a new state-of-the-art factory building, which
operated exclusively on wind and solar energy. The only condition attached to the subsidy is
that the subsidy will be limited to a maximum of C2 000 000.
Required:
Draft a memorandum to the directors of Explorer Limited explaining how they should account
for the subsidy if the factory cost C2 500 000 to construct.
Question 15.8
Sparky Limited, a manufacturer of light bulbs, recently received a government grant of

C300 000 to assist the company in purchasing a glass blower costing C500 000. The grant
was received, and the related glass blower was purchased, on 1 January 20X8.
182 Chapter 15
The useful life of the glass blower was 5 years, its residual value was nil, and the straight-line
method of depreciation applied.
The grant was conditional upon Sparky Limited producing 10 000 light bulbs for the new
parliament buildings by 31 December 20X9. Failure to comply with part (or all) of this
condition would cause a proportionate amount of the grant to be repayable.
Sparky Limited produced and installed 6 000 light bulbs in the new parliament building during
the 20X8 financial year. However, the minimum production failed to be met in 20X9 with only
2 000 of the government light bulbs produced and installed. The reason for the lower
production was due entirely to the frequent power cuts experienced during 20X9.
Required:
a) Prepare the entries in Sparky Limited’s general journal for the years ended 31 December 20X8
and 20X9, assuming that Sparky Limited credits government grants to the asset.
b) Prepare the entries in Sparky Limited’s general journal for the years ended
31 December 20X8 and 20X9, assuming that Sparky Limited recognises government grants
as grant income (i.e. not as a reduction to the cost of the related non-monetary asset).
c) Prepare the entries in Sparky Limited’s general journal for the years ended
31 December 20X8 and 20X9 assuming that Sparky Limited recognises government
grants as grant income (i.e. not as a reduction to the cost of the related non-monetary
asset), and that the grant became repayable in full in the event that a total of 10 000 light
bulbs were not produced by 31 December 20X9.
Ignore tax.
Question 15.9
On 1 January 20X1, Shrek Limited received C900 000 cash from the government of Farfaraway.
x The cash is to be used by Shrek to buy a swamp from one of its government officials.
Ownership of the swamp was transferred into Shrek’s name on 1 April 20X1 (on which
date the full and final payment of C200 000 was made).
x Shrek has received many grants in the past and has always credited them, where
possible, to the related non-monetary asset.
Part A:
Assume that the grant came with a secondary condition that required Shrek to employ ten
government officials (a list of their names has been given to Shrek) from 1 January 20X1 for a
minimum period of 3 years. Their salaries will have to be in-line with company policy and be
subject to normal increases applicable to any other person employed by Shrek Limited.
Required:
Provide all entries in Shrek Limited’s general journal for the year ended 31 December 20X1.
Part B:
Assume that the grant came with a secondary condition that required Shrek to drain the
swamp and clear it of all plant-life before 31 December 20X2.
x At 31 December 20X1, Shrek had estimated that the total cost of drainage would be
C70 000 and the total cost of removing all plant life would be C130 000. By this date,
Shrek had already incurred C40 000 in draining costs and C50 000 in removal costs.
Chapter 15 183
x At 31 December 20X2, Shrek had incurred a total of C200 000 in draining costs and
C100 000 in removal costs and had completed this condition.
Required:
Provide all entries in Shrek Limited’s general journal for the years ended 31 December 20X1
and 20X2.
Part C:
Assume that the grant came with a secondary condition that required Shrek to build a small
castle in a corner of the swamp to house Shrek’s employees.
x The castle was complete on 31 March 20X2 at a total cost of C100 000 (paid in full on this date).
x The castle was available for use immediately, is expected to have a nil residual value and
a useful life of 10 years.
Required:
Provide all entries in Shrek Limited’s general journal for the years ended 31 December 20X1
and 31 December 20X2.
Question 15.10
The government granted C114 000 in cash to Lavender Limited on 1 July 20X0. A condition
of this grant was that it be used to purchase a specific plant. Where government grants are
related to non-monetary assets, Lavender Limited’s accounting policy is to credit the grant
directly to the related non-monetary asset.
Lavender Limited purchased the specified plant on 1 August 20X0 for C570 000. It was
delivered on the same day but needed to be installed before it could be used.
The installation was fairly technical and the only person qualified to perform it happened to be
on an extended sabbatical. However, he installed the plant immediately upon his return,
which enabled the plant to be used from 1 October 20X0. Strike action during October 20X0
resulted in the plant only being brought into use on 1 November 20X0. Depreciation is
provided on this plant on the straight-line basis over its expected useful life of 6 years to a nil
residual value.
Lavender Limited made a profit before tax of C1 520 000 for the year ended 30 June 20X1.
This profit has been correctly calculated after taking into account all adjustments necessary
as a result of this grant.

x Income tax is levied at 30% on taxable profits.
x There are no temporary differences, exempt income or non-deductible expenses other
than those evident from the information provided.
Required:
Show the tax journal entries and tax expense note for the year ended 30 June 20X1,
assuming:
a) The tax authorities:
- tax the receipt of the grant as income in the year of receipt; and
- allow the deduction of 20% of the cost of the plant per year, apportioned for periods of
less than a year.
184 Chapter 15
b) The tax authorities:

- do not tax the receipt of the grant; and
- allow the deduction of 20% of the cost of the plant per year, apportioned for periods of
less than a year.
Question 15.11
Snowy Limited is a South African manufacturer of marshmallows. Keen on improving its

undesirable ecological footprint, the South African government was offering loans to qualifying
companies in order to facilitate production of ‘green power’. Snowy Limited applied for, and
was duly granted, one of these government loans on the basis that it was currently
constructing a building that was completely self-sufficient in terms of power.
The government loan granted to Snowy was for a sum of C700 000 and was effective from
1 March 20X1. The market interest rate on loans of this magnitude is 14%. The conditions of
the government loan were set out in a contract, an extract of which is shown below:
Clause 1: The loan is conditional upon: Not applicable

Clause 2: The loan is to be repaid on expiry of a two-year period from date the loan is
granted: refer clause 4.
Clause 3: Interest of 7% will be charged on the loan, compounded annually and payable
only on expiry of the loan: refer clause 4 and clause 5.
Clause 4: The entire capital together with accrued interest for the two-year period is due
and payable on 28 February 20X3 as a bullet payment: refer clause 5 and 6.
Clause 5: Should the company have in its employ 100 or more local workers on
28 February 20X2, the government agrees to write-off a sum equal to C140 000
(forgiven) against the capital balance owing, effective from this date and from
which date interest shall be calculated on the reduced capital balance.
Clause 6: Should the company’s BEE rating reach Level 4 (100% compliance) as at
28 February 20X3, the government agrees to write-off a further sum (forgiven)
against the capital balance owing, effective from this date, this sum being equal
to C420 000.
x Snowy Limited had in its employ 162 local workers as at 28 February 20X2 and had
reached the required Level 4 BEE rating on 28 February 20X3.
x The building meets the definition of a qualifying asset in terms of IAS 23 Borrowing costs
and thus interest incurred on the construction thereof is capitalised as part of the costs of
construction. The building was still under construction at 28 February 20X3.
x The loan was fully utilised from the date that it was granted and thus there were no
surplus funds to be invested at any stage during the period of the loan.
Required:
Show all journals that Snowy Limited would process for the years ended 28 February 20X2
and 20X3 assuming that its policy is to recognise grants directly as grant income.
Chapter 15 185
GAAP: Graded Questions Integrated questions: chapters 1 - 15
Appendix A
Integrated questions: chapters 1 - 15
Question Key issues
A.1 Pearls Recognising assets and liabilities in terms of the Conceptual Framework
and IFRS
A.2 Corn Ferries Conceptual Framework

IAS 16: Property, plant and equipment
A.3 Sail Loft IAS 1: Presentation of financial statements

IAS 36: Impairments
A.4 Natal IAS 16: PPE: Cost model

IAS 12: Deferred tax: temporary difference and exempt temporary
differences.
A.5 Murky Ether IAS 1: Presentation

IAS 16: PPE: Cost model
IAS 38: Intangible assets: Cost model
IAS 2: Inventory
A.6 Pink IAS 16: PPE: Purchase and revaluation (net replacement value method)
IAS 12: Taxation: Current and deferred tax affected by:
x revaluation of depreciable and deductible asset:
- revaluation above cost (intention to keep); and then
- devaluation below cost (no impairment)
x accruals
A.7 Cooper IAS 8: Change in estimated useful life of plant
IAS 12: Deferred tax and rate change
IAS 16: Revaluation of depreciable asset (gross replacement value
method)
A.8 Shot IAS 16: PPE: Revaluation (gross replacement value method)
IAS 12: Deferred tax, involving:
x exempt temporary differences and
x PPE: revalued above cost: depreciable, non-deductible and
intention to sell
x tax loss: deferred tax asset recognised, used, written-down
IAS 8: Change in estimated useful life of building
A.9 Steve IAS 12: Current tax: calculation

IAS 12: Deferred tax: calculation involving PPE that is depreciable
IAS 16: Cost model involving a self-constructed plant
IAS 23: Borrowing costs
A: Deductible plant involving borrowing costs
B: Non-deductible building involving borrowing costs
A.10 Phuza Grant package including a low interest loan, self-constructed asset
(IAS 16), capitalisation of borrowing costs (IAS 23), impairment of
assets (IAS 36) and tax effects (IAS 12)
186 Appendix A
Question A.1
An extract from the trial balance of Pearls Limited at 31 December 20X8 is shown below:
PEARLS LIMITED
(EXTRACT FROM) TRIAL BALANCE AT 31 DECEMBER 20X8
Debit Credit
Plant and machinery 3 500 000
Investment property 10 000 000
Right of use asset 1 200 000
Inventory 720 000
Lease liability 988 000
Required:
Explain, in terms of the Conceptual Framework and International Financial Reporting
Standards, whether each of the items of the trial balance extract will be recognised as an
asset or liability on the statement of financial position.
Question A.2
Corn Ferries operates a ferry service on the Fal River, in Cornwall, south-west England.
The following transactions relating to the non-current assets took place during the year ended
31 March 20X6:
1. The entity purchased a new ferry on 1 April 20X5 for C880 000 and paid for it in cash.
The ferry has an estimated useful life of ten years and an estimated residual value of
C80 000. Depreciation is provided on the straight-line method.
2. On the same date, the old ferry, with an original cost of C400 000 and accumulated
depreciation of C360 000 on 31 March 20X4, was sold for C30 000 cash.
3. On 1 July 20X5, an air-conditioning system was installed in the passenger seating area at
a total cost of C75 000 paid for in cash, to make the journeys more comfortable for
passengers during the summer months. The air-conditioning system has an estimated
useful life of five years and no residual value.
4. On 30 January 20X6, the ferry was serviced at a cost of C5 000.
Required:
a). Discuss, with reasons, how Corn Ferries should recognise the costs in (1), (3) and (4)
above.
Your answer should refer to the Conceptual Framework definition of an asset as well as
the IAS 16 definition of property, plant and equipment and its recognition criteria.
b) Show all the journal entries relating to the ferry in the journal of Corn Ferries for the year
c). Provide an extract from the statement of financial position of Corn Ferries at 31 March
20X6, showing the disclosure of the ferry.
Question A.3
Sail Loft Limited is a manufacturer and distributor of sails that are used by professional and
recreational windsurfers. The draft trial balance of the company for the year ended
31 March 20X5 is as follows:
Appendix A 187
SAIL LOFT LIMITED

DRAFT TRIAL BALANCE AT 31 MARCH 20X5
Debit Credit
Retained earnings 565 000
Land: Cost 2 000 000
Equipment and machinery: Cost 800 000
Equipment and machinery: Accumulated depreciation (31/03/X4) 272 000
Motor vehicles: Cost 440 000
Motor vehicles: Accumulated depreciation (31/03/X4) 220 000
Inventory 890 000
Cash and bank 591 000
Borrowings 2 240 000
Sales 3 650 000
Salaries expense 362 000
Litigation costs 150 000
Advertising expense 40 000
Repairs and maintenance 12 000
Fuel expense 33 000
Other costs 110 000
8 051 000 8 051 000
x The ordinary share capital consists of 1 600 000 shares issued at C0,50.
x C200 000 of the borrowings are repayable on 30 September 20X5.
x Sail Loft Limited classifies expenses according to their function. Management categorise
- The bad debts, advertising and litigation costs relate to the administration function.
- The repairs and maintenance and the fuel relate to the distribution function.
- The other costs are all individually not material and relate C65 000 to administration
and C45 000 to distribution.
x The land is being held with the intention of building a new head office.
x The equipment and machinery are used in the production of inventory and were acquired
at a cost of C680 000. Additional equipment and machinery was purchased on
1 April 20X4 at a cost of C120 000. Depreciation is recognised on the straight line basis
over five years with no residual value.
x The motor vehicles are all delivery vehicles used to deliver goods to customers and cost
C440 000. Depreciation is recognised on the straight line basis over four years with no
residual value.
x On 31 March 20X5, management performed an impairment test on the vehicles after
news broke of an emissions testing scandal. The fair value was estimated at C45 000
with C5 000 associated selling costs and the value in use was calculated to be C60 000.
x Interest of C8 000 for March 20X5 has not yet been paid.
x An amount of C12 000 of the advertising expense included on the trial balance has been
paid in advance in respect of the following period.
x The income tax expense has been correctly calculated at C64 800 and has not yet been
processed or paid.
188 Appendix A
x The final dividend for the year ended 31 March 20X4 of C50 000 was declared on
18 April 20X4. The final dividend for the year ended 31 March 20X5 of C60 000 was
declared on 15 April 20X5. No interim dividends were declared.
x The financial statements have not yet been authorised for issue.
Required:
a) Prepare the statement of comprehensive income of Sail Loft Limited for the year ended
31 March 20X5 in accordance with International Financial Reporting Standards.
b) Prepare the current assets and current liabilities sections only of the statement of financial
position at 31 March 20X5 in accordance with International Financial Reporting
Standards.
c) Prepare the statement of changes in equity of Sail Loft Limited for the year ended
31 March 20X5 in accordance with International Financial Reporting Standards.
d) Prepare the following notes to the financial statements of Sail Loft Limited for the year
ended 31 March 20X5 in accordance with International Financial Reporting Standards.
- Statement of compliance
- Basis of preparation
- Accounting policies for land, motor vehicles, equipment and machinery, and inventory
- Profit before tax
- Land, motor vehicles, equipment and machinery
- Trade and other receivables and payables
- Dividends.
Ignore comparatives for required a) to d).
Question A.4
Natal Limited owns a property that is used use as the company’s administrative office. It was
purchased on 1 January 20X4 for C600 000. The cost of the land is considered to be
immaterial and therefore the entire C600 000 is allocated to the building. The building is
measured using the cost model and is depreciated over its estimated useful life of 20 years to
a nil residual value.
The profit before tax was C560 000 after correctly processing the depreciation on this
building.
The tax authority:

x does not allow the cost of this building to be deducted when calculating taxable profits;
x levies tax at 30% on taxable profits and taxable capital gains are included in taxable
profits using an inclusion rate of 50%; and
There was no balance on the current tax payable account on 1 January 20X4 and no
payments were made to the tax authorities during 20X4.
There are no other differences between accounting profit and taxable profit other than those
Required:
a) Provide all journal entries relating to the above information for the year ended
31 December 20X4.
Appendix A 189
b) Prepare an extract from the statement of comprehensive income for the year ended
31 December 20X4 in accordance with International Financial Reporting Standards,
starting with ‘profit before tax’.
c) Prepare an extract from the statement of financial position at 31 December 20X4 in
accordance with International Financial Reporting Standards, showing the non-current
assets and current liabilities only.
d) Prepare the income tax expense note for the year ended 31 December 20X4 in
Journal entry narrations are required.

Question A.5
The accountant of Murky Ether Limited has extracted the following balances, together with
working notes, for inclusion as separate line-items on the face of the statement of financial
position at 30 April 20X5:
Working note C
Land – carrying amount 1 638 000
Plant – carrying amount 2 175 000
Patent – carrying amount 3 50 000
Inventory 4 575 700
Accounts receivable 5 472 700
Allowance for doubtful debts 5 9 200
Ordinary share capital - 26 400
Retained earnings - 1 477 800
8% debenture liability - 50 000
Accounts payable 6 294 600
Bank overdraft - 18 400
Dividends payable - 30 000
Working notes
1. The company’s land was purchased on 1 April 20X0 for C638 000 and is measured using
the cost model.
2. The balance on the plant’s accumulated depreciation account at 30 April 20X4 was
C50 000. The plant’s depreciation expense in the current year was C25 000.
Depreciation is provided on the straight-line basis, at 10% p.a. to a nil residual value.
Plant is measured using the cost model.
3. The carrying amount of patent at 30 April 20X4 amounted to C60 000. The patent has an
estimated finite useful life of ten years and there is no commitment from a third party to
purchase it.
4. Inventory at year end consists of raw materials of C196 400, work-in-progress of
C177 300 and finished goods of C202 000. Inventory is valued at the lower of cost and
net realisable value. The cost is measured using the FIFO basis.
5. Accounts receivable includes an amount of C50 000 owing by the managing director.
6. Accounts payable consists of accruals of C75 000, current tax payable of C27 520 and
trade payables of C192 080.
Required:
a) Prepare the non-current assets, current assets and current liabilities sections of the
statement of financial position for Murky Ether Limited at 30 April 20X5 in compliance with
190 Appendix A
b) Prepare the relevant notes to the financial statements to support the non-current assets,
current assets and current liabilities sections of the statement of financial position for
Murky Ether Limited at 30 April 20X5 in compliance with International Financial Reporting
Standards.
Accounting policy notes should be provided in respect of the statement of compliance,
basis of preparation, property, plant & equipment and inventory.
Question A.6
Part A
Pink Limited offers a bespoke suit and shirt making service. The following information and
trial balance extracts relate to Pink Limited’s financial years ended 31 May 20X8 and 20X9:
x The profit before tax has been correctly calculated at C1 670 000 for the year ended
31 May 20X9.
x The company purchased the equipment on 1 June 20X7. It was installed and available
for use in the manner intended by management on the same day. The cost of the
equipment was C1 350 000. It has an estimated useful life of five years and no residual
value. The tax authority allows a tax allowance of 20% per annum on the straight line
basis.
x Pink Limited uses the revaluation model for the measurement of its equipment and due to
the nature of its operations the company has a policy of revaluing its equipment on an
annual basis. The net replacement value method is used to account for the change. The
company transfers the revaluation surplus to retained earnings as the asset is used.
x The fair value of the equipment, estimated using discounted cash flows by an
independent valuer amounted to C1 275 000 at 31 May 20X8 and C750 000 at 31 May
20X9. The useful life and residual value of the equipment has remained unchanged.
There were no indicators of impairment at any stage during the year. The company’s
intention has always been to keep the asset.
x Revenue received in advance at year end relates to deposits received from customers
with regards to customised orders for suits and shirts. Revenue received in advance is
taxed in the year that it is received.
x Expenses prepaid at year end relate to normal office expenses. Expenses prepaid are
deductible in the year that they are paid.
x Provisional tax payments made during the year ended 31 May 20X8 amounted to
C279 000. The note to income tax for the year ended 31 May 20X8 was as follows:
Income tax expense C

Current 298 948
Deferred 50 960
Income tax expense per statement of comprehensive income 349 908
The tax assessment for the year ended 31 May 20X8 was received during March 20X9
and reflected an assessed tax of C312 040. The amount owing was paid in March 20X9.
Provisional tax payments made during the year ended 31 May 20X9 amounted to
C450 000. The current tax payable for the year ended 31 May 20X9 has been correctly
calculated at an amount of C488 844.
x Included in other expenses is an amount of C7 120 which is not tax-deductible.
x The company income tax rate is 28% for both years.
Appendix A 191
x There are no other components of other comprehensive income other than those outlined
above.
PINK LIMITED
TRIAL BALANCE EXTRACTS
31 May 20X9 31 May 20X8
Note Dr/ (Cr) Dr/ (Cr)
Share capital (1 000 000) (1 000 000)

Retained earnings: 1 June 1 (320 000) (274 000)
Equipment 2 750 000 1 275 000
Deferred tax ? (50 960)
Current tax payable: income tax 5 (38 844) (19 948)
Revenue received in advance 3 (60 000) (21 000)
Expenses prepaid 4 7 000 8 000
Inventory 398 000 400 000
Bank overdraft (41 020) (10 000)
Revenue from sales 3 (1 510 000) (1 900 700)
Dividend income (80 000) (55 000)
Depreciation on equipment 1 ? 270 000
Other expenses 6 38 000 70 200
Required:
a) Provide the journal entries relating to the equipment for the years ended 31 May 20X8
and 31 May 20X9.
b) Ignore the entry relating to the purchase of the equipment.
c) Prepare an extract from the statement of comprehensive income of Pink Limited for the
year ended 31 May 20X9 in conformity with International Financial Reporting Standards.
Start with the ‘profit before tax’ line item.
d) Prepare an extract from the statement of changes in equity of Pink Limited for the year
ended 31 May 20X9, showing only the revaluation surplus and retained earnings
columns, in conformity with International Financial Reporting Standards.
e) Prepare the following notes to the financial statements of Pink Limited for the year ended
31 May 20X9 in conformity with International Financial Reporting Standards.
x Profit before tax
x Income tax expense
x Equipment
x Deferred tax asset / liability
x Tax on other comprehensive income
Comparative figures and accounting policies are not required.
Part B
The managing director of Pink Limited made the following comment when reviewing the
financial statements for the year ended 31 May 20X8:
“I see that revaluation of equipment is shown under the heading of ‘other comprehensive
income’. Surely this is incorrect – a revaluation can’t result in income as nothing has been
sold?’
Required:
Provide an answer to the managing director’s question.
192 Appendix A
Question A.7
Cooper Limited is a company that distributes accessories for the range of Mini cars.
The following is an extract from the trial balance of the company for the years ended
31 December 20X7, 20X8 and 20X9:
COOPER LIMITED
TRIAL BALANCE AT 31 DECEMBER
20X9 20X8 20X7
C C C
Profit before taxation 2 400 000 1 300 000 1 100 000
Prepaid expenses 20 000 15 000 0
Accrued expenses 32 000 24 000 0
The profit before taxation has been correctly calculated and takes into account the effect of all
the transactions described below.
The company purchased its only item of plant on 1 January 20X6 at a cost of C400 000. The
estimated useful life of the plant is 10 years with no residual value. The tax authorities allow a
tax allowance of 20% per annum on the straight line basis. The company’s intention has
always been to keep the plant.
On 31 December 20X8, the plant was revalued by an independent valuer to a fair value of
C480 000. The useful life and residual value remained unchanged. The policy of the
company relating to revaluations is to use the gross replacement value method and to
transfer the revaluation surplus to retained earnings on sale of the asset.
During 20X9 the estimated useful life of the plant was reassessed from a total of 10 years to a
total of 15 years. The change in the estimated useful life is applied from the beginning of the
20X9 year. The residual value remained unchanged.
The financial accountant has correctly prepared the following computation relating to the
plant:
CA TB
Plant C C
01/01/X6 Cost 400 000 400 000
31/12/X7 Balance 320 000 240 000
The company has operated from rented premises for a number of years and on
1 January 20X6 purchased a property at a cost of C4 000 000. The financial accountant
estimated that C1 000 000 of the cost was attributable to the land and that C3 000 000 of the
cost was attributable to the building. The land is not depreciated. The estimated useful life of
the building is 20 years with no residual value.
The tax authorities agreed with the company’s allocation of the cost. The base cost of the
building was determined to be C3 100 000. The tax authorities do not allow any tax
allowances on the land or on the building.
Towards the end of 20X9, the directors realised that the property was not suitable for their
needs and it was sold on 31 December 20X9 for an amount of C5 000 000. It was estimated
that C1 000 000 of the selling price was attributable to the land and that C4 000 000 of the
selling price was attributable to the building.
The financial accountant has correctly prepared the following computation relating to the
property:
Appendix A 193
CA TB
Building C C
01/01/X6 Cost 3 000 000 ?
31/12/X7 Depreciation/ tax allowance (300 000) ?
Balance 2 700 000 ?
Land
01/01/X6 Cost 1 000 000 ?
31/12/X7 Depreciation/ tax allowance - ?
Balance 1 000 000 ?
The corporate tax rate was 29% for the year ended 31 December 20X8. The Minister of
Finance announced a change in the corporate tax rate to 28% at the end of August 20X9,
effective for years ending on or after 30 September 20X9. The inclusion rate for CGT is 50%.
The tax authorities

x allow the deduction of prepaid expenses in the year when the payment is made
x allow the deduction of accrued expenses in the year of accrual
Required:
a) In so far as information has been provided, prepare a statement of comprehensive income
of Cooper Limited for the year ended 31 December 20X9, in conformity with International
Financial Reporting Accounting Standards.
b) Prepare all the relevant notes to the financial statements of Cooper Limited for the year
ended 31 December 20X2, inconformity with International Financial Reporting Standards.
Accounting policies and the basis of preparation note are not required.
For the Property, plant and equipment note, disclosure of the property is not required, i.e.
limit your disclosure to the plant only.
Question A.8
Shot Limited is a newly established company in the information technology service industry.
Information regarding Shot Limited’s property, plant and equipment:
Shot Limited’s policy is to measure all classes of property, plant and equipment on the
revaluation model, to account for revaluations using the gross replacement value method and
to transfer any revaluation surplus to retained earnings over the life of the underlying asset.
Details of Shot Limited’s only class of property, plant and equipment, being a building, are as
follows:
x The building was purchased on 1 July 20X7 for C1 100 000 (including transfer duty of
C100 000), paid directly to the lawyer dealing with the conveyancing. The cost of the land
on which it was built is considered to be immaterial and therefore no portion of the
purchase consideration was allocated to land.
x The building became available for use on 1 October 20X7 and is being used exclusively
as the company’s head office.
x The building was valued by an independent valuer at 31 December 20X7 to its fair value
of C1 484 500, which was calculated using level one inputs using the market approach on
this date. The next valuation is due to be performed on 31 December 20X9.
x The total useful life of the building was originally expected to be 10 years. From
1 January 20X8, however, the remaining useful life was re-estimated to be 20 years. The
194 Appendix A
residual value was nil and the method of depreciation was straight-line (both unchanged
since date of purchase). The company uses the reallocation method to account for
changes in estimates.
x The building has never been impaired.
x At the end of the 20X7 financial year, the company’s intention was to sell the building.
The company was still actively looking for a buyer at 31 December 20X8. The criteria to
be classified as held for sale had, however, not been met at any stage.
x The base cost of the building for the purposes of calculating any taxable capital gain is
C1 200 000.
Information regarding its tax loss:

x Shot Limited made a tax loss (assessed loss) of C5 000 000 in the tax year ended
31 December 20X7. There was no tax loss brought forward from years before 20X7.
x Shot Limited made a taxable profit for the year ended 31 December 20X8 of C4 000 000,
calculated before taking into consideration the tax loss carried forward from 2007.
x At 31 December 20X7, management was of the opinion that there would be sufficient
future taxable profits against which the unused tax loss could be utilised. At
31 December 20X8, however, management was of the opinion that no future taxable
profits would be earned in future against which the tax loss could be utilised.
- levy corporate income tax at 40% (unchanged for many years);
- apply a capital gains inclusion rate of 50%;
- do not allow any tax deductions relating to the cost of the building;
- allow tax losses to be carried forward to future years where they may be deducted
against taxable profits.
Required:
Show all the journal entries in the accounting records of Shot Limited for the years ended
31 December 20X7 and 31 December 20X8 that are possible from the information provided.
Question A.9
Part A:
Steve Limited earned a profit before tax of C3 000 000 in the year ended 31 December 20X8,
before taking into account the depreciation on the item of property, plant and equipment
below.
Steve Limited owned only one item of property, plant and equipment, being a plant which it
constructed between 2 January 20X8 and 30 June 20X8.
x The construction costs totalled C1 000 000.
x Steve Limited incurred borrowing costs of C500 000 during this period of construction
which were correctly capitalised to the plant in terms of IAS 23 Borrowing Costs.
x The plant was available for use from 1 July 20X8.
x Depreciation on this plant is provided on the straight-line basis over the estimated 10 year
useful life to a nil residual value.
Appendix A 195

x allow a deduction of 20% per annum of the cost of the plant (excluding the borrowing
costs), not apportioned for part of a year;
x allow a deduction of borrowing costs in the year that the underlying asset is first available
for use in the production of income
x levy corporate income tax at 30%.
There are no other differences between accounting profit and taxable profit other than those
There are no items of other comprehensive income.
Part B
Same information as in Part A, except that the item of property, plant and equipment is a
building and the cost is not allowed as a deduction for the purpose of calculation of taxable
profit.
Required:
a) Prepare all the journal entries relating to tax in the accounting records of Steve Limited for
the year ended 31 December 20X8 in compliance with International Financial Reporting
Standards.
b) Prepare the income tax expense note for inclusion in Steve Limited’s financial statements
for the year ended 31 December 20X8 in compliance with International Financial
Question A.10
Phuza Limited was unable to secure financing from a bank for the construction of a
desalination plant at the Tugela River mouth. On 1 January 20X7 the government offered to
assist Phuza Limited by giving the company a package to the value of C1 200 000.
This package consists of the following:

x a C200 000 grant for the general expenditure over the next 2 years,
x a C100 000 grant to cover past expenses incurred by the company,
x a C400 000 grant to be used to pay for the construction of the plant, and
x a further C500 000 specific loan at 10% interest repayable in 2 years’ time, for additional
construction costs of the plant. Interest is compounded annually on 31 December. The
prevailing market interest rate is 10%.
The construction of the plant began on 2 January 20X7 and was complete on 31 December 20X7, at
a cost of C2 000 000. Due to administrative problems, the constructed plant only began production
of fresh water on 1 March 20X8. The plant has an expected useful life of 10 years and a nil residual
value.
In the afternoon of 31 December 20X8, the plant was flooded due to a severe storm. As a
result, the plant’s recoverable amount was calculated and determined to be C800 000.
The interest on the loan for both 20X7 and 20X8 was paid on 31 December 20X8 together
with the repayment of the loan principal.
The company accounting policy is to measure plant using the cost model and to recognise
grants as a credit to the related expense and assets.
The desalination plant is a qualifying asset in terms of IAS 23.
196 Appendix A

x allow the deduction of all capitalised borrowing costs in the first year of use;
x allow an annual wear and tear allowance on the cost of the plant (excluding the borrowing
costs) of 20%;
x tax government grants in the year they are received;
x levy corporate income tax at 30%.
Required:
a) Based on the above information, prepare all the journal entries in the accounting records
of Phuza Limited for the financial years ended 31 December 20X7, 20X8 and 20X9.
b) Draft the property, plant and equipment note for the year ended 31 December 20X8, in
accordance with International Financial Reporting Standards, assuming Phuza Limited
had no other property, plant and equipment.
Appendix A 197
GAAP: Graded Questions Leases: lessee accounting
Chapter 16
Leases: lessee accounting
Question Key issues

16.1 - Core Concepts
16.2 Dark & White Identified asset, substitution rights

16.3 Big Deal Identified asset, substitution rights, protective rights
16.4 Hello Ability to direct the use of an identified asset
16.5 Big Red Ability to direct the use of an identified asset
16.6 Point to Point Identification of short-term lease exemption
16.7 Teach Identification of low value lease exemption
16.8 Build Lease components
16.9 Food for All Lease term
16.10 Villa Residual value guarantee
16.11 Abey Low value lease exemption, journal entries
16.12 Cow Low value lease exemption, journal entries, financial statements, current tax
and deferred tax
16.13 Highlands Recognition of right of use asset and lease liability, direct costs of lessee,
journals
16.14 Eagle Recognition of right of use asset and lease liability, residual value
guarantee, journals, extract from financial statements, lease note
16.15 Devon Coach Recognition of right of use asset and lease liability, purchase option,
Tours journals, extract from financial statements, lease note
16.16 Roasted Bean Recognition of right of use asset and lease liability, reassessment of lease
term, journals, lease note
16.17 Chirp Recognition of right of use asset and lease liability, variable lease
payments, current tax and deferred tax, journals, extract from financial
statements, lease note
198 Chapter 16
Question 16.1
You have been asked to assist a client with understanding IFRS 16 Leases. The client poses
the following queries to you:
a) How is a lease defined in the standard? Briefly explain this definition.
b) Explain what is meant by an identified asset.
c) Briefly outline the factors to consider in assessing whether a customer has the right to
obtain substantially all of the economic benefits from the use of an identified asset.
d) Briefly explain the factors to consider in assessing whether a customer has the right to
direct the use of an identified asset.
e) Under what circumstances can a lessee elect not to apply the lease accounting model?
f) How does a lessee measure the lease liability at the commencement date of the lease?
g) Briefly explain the meaning of the lease term.
h) What is the implicit interest rate and how is it calculated?
i) How does a lessee measure the right of use asset at the commencement date of the
lease?
j) Briefly explain the depreciation implications of the right of use asset.
Question 16.2
Part A
Dark & White Limited is a manufacturer of luxury chocolates. The entity enters into a three
year contract with Wheels Limited, a road transport company, for the use of ten vehicles to
deliver orders of customer chocolates around the country.
The model and capacity of the vehicles are specified in the contract and the vehicles are
painted in the corporate colours of Dark & White Limited. Dark & White Limited provides its
own drivers.
The vehicles are parked at Dark & White’s factory when not in use and can be used for
storage or to transport goods of other manufacturers. Wheels Limited cannot take back a
vehicle during the contract period. If a particular vehicle needs servicing or repair, Wheels
Limited is required to substitute a vehicle of the same type.
Required:
Discuss, with reference to IFRS 16 Leases, whether the arrangement contains a lease.
Part B
Dark & White Limited is a manufacturer of luxury chocolates. The entity enters into a three
year contract with Wheels Limited, a road transport company, for the use of ten vehicles to
deliver orders of customer chocolates around the country.
The model and capacity of the vehicles are specified in the contract. Wheels Limited provides
drivers for the vehicles and can also transport goods of other customers if there is spare
capacity in the vehicles.
Chapter 16 199
Wheels Limited has a depot in the same area as Dark & White Limited’s chocolate factory
and the vehicles are parked at Wheels Limited’s premises when not in use. Wheels Limited
has a large pool of similar vehicles that could be used to fulfil the requirements of the
contract. The cost associated with substituting the vehicles used by Dark & White Limited
with other similar vehicles are minimal for Wheels Limited.
Required:
Question 16.3
Big Deal Limited is a large diversified company with interests in various sectors spanning
several countries. The directors and senior management often travel internationally and the
board has approved a five year contract with Wings Limited, a supplier of executive jets for
the use of a jet, known as a Wizz 727.
The contract specifies extensive customisation of the interior fittings and the painting of the
exterior in the corporate colours of Big Deal Limited. Big Deal Limited can decide where the
jet will fly and what cargo may be carried. However, there are restrictions for safety purposes,
of where the aircraft can fly and explosive cargo may not be carried. The jet will be operated
by Wings Limited with its own crew.
Wings Limited is permitted to substitute an alternative aircraft during the lease term but this
would involve a substantial cost due to the extensive customisation specifications.
Required:
Question 16.4
Part A
Hello Limited is a telecommunications company, providing internet and data services to its
customers. Its engineers have been investigating ways to improve customer service and
have taken a decision to create their own privately owned fibre optic network.
Hello Limited enters into a twenty year contract with Interdata Limited, a telecommunications
company, for the right to use 100 out of 1 000 strands of fibre within the undersea cable
connecting the United Kingdom and Europe with South Africa.
Hello Limited has control of the use of the 100 strands of fibre within the cable and decides
the type and quantity of data that will be transported. It is also responsible for the technical
connections to its equipment.
Interdata Limited is responsible for the repairs and maintenance to the undersea cable. It can
substitute the strands only for purposes of repair and maintenance.
Required:
Part B
Hello Limited is a telecommunications company, providing internet and data services to its
customers. Its engineers have been investigating ways to improve customer service and
200 Chapter 16
have taken a decision to obtain the right to use a specified amount of bandwidth capacity
within an existing fibre optic network .
Hello Limited enters into a twenty year contract with Interdata Limited, a telecommunications
company for the right to use a specific amount of bandwidth capacity within the undersea
cable connecting the United Kingdom and Europe with South Africa. The specified amount is
equivalent to Hello Limited having the full capacity of 100 strands of fibre within a 1 000
strand cable.
Interdata Limited makes decisions about which strands are used to transport Hello Limited’s
data and is responsible for the technical connections to its equipment.
Required:
Question 16.5
Part A
Big Red Limited is a producer of apples. It enters into a contract with Freight Limited, a
shipping company, for the transport of apples from Cape Town to Southampton on a specific
ship. Freight Limited does not have substitution rights.
The contract specifies the quantity, grade and packaging of the apples to be transported as
well as the dates of departure and arrival. The apples will occupy substantially all of the
capacity of the ship.
Freight Limited operates and maintains the ship and is responsible for the safe transport of
the apples and other cargo on board. Big Red Limited is not permitted to hire another
operator for the ship or to operate the ship itself.
Required:
Part B
Big Red Limited is a producer of apples. It enters into a contract with Freight Limited, a
shipping company, for the transport of apples for a three year period on a specific ship.
Freight Limited does not have substitution rights.
Big Red decides on the quantity, grade and packaging of apples to be transported, the dates
of travel and also the departure and arrival ports. It is also permitted to use spare capacity to
transport produce from neighbouring farms.
Freight Limited operates and maintains the ship and is responsible for its safe passage. It
can restrict the ship from sailing into waters at high risk of piracy and can restrict the carrying
of unsuitable cargo.
Required:
Chapter 16 201
Question 16.6
Point to Point Limited provides a service transporting passengers to and from the airport to
hotels in the city and surrounding areas.
It enters into a contract with Bus Limited for the lease of five 25 seater buses for a period of
three years. The lease payments are constant over the lease term.
The market for airport transfers is constantly changing and Point to Point Limited may need to
use smaller 15 seater buses or larger 40 seater buses, depending on whether other modes of
transport become available or not. As such, the contract allows Point to Point Limited to
cancel the lease at the end of the first year or at the end of the second year without any
penalty.
Required:
Discuss, in terms of IFRS 16 Leases, how Point to Point Limited should account for this lease
contract.
Question 16.7
Teach Limited is a private educational institution. It enters into a contract with Copy Limited
for the lease of twenty-one printers for a period of three years.
One of the printers is a high specification printer that can cope with high volumes and can
email scanned documents to recipients. It has a current retail price of C20 000. The other 20
printers are desk models for use in individual offices and each has a current retail price of
C2 000.
The make and model of the printers is specified in the contract and although Copy Limited
has substitution rights, it is not economically viable to do so.
Required:
Discuss, in terms of IFRS 16 Leases, how Teach Limited should account for this lease
contract.
Question 16.8
Build Limited enters into a contract with Bull Limited for the lease of heavy-duty construction
equipment. The duration of the lease is for one year.
Bull Limited undertakes to insure the equipment and to maintain it by having it serviced every
month. The contract stipulates that the payments are C24 000 for the year, of which C4 000
relates to the annual insurance and C7 200 relates to the provision of the monthly services.
Similar insurance provided by third parties would normally cost C4 000 per year and the cost
for the monthly services would normally be C10 000 per year.
Build Limited elects the short-term lease exemption for this contract.
Part A
The stand-alone price of the equipment is not available.
202 Chapter 16
Part B
The price to lease similar equipment for a year (without the insurance and additional services)
is C20 000.
Required:
a) Discuss briefly the identification of the components in this lease contract in terms of IFRS
16 Leases.
b) For each of Part A and Part B, calculate the amount to allocate to the lease and non-
lease components.
c) For Part A, provide the journal entries in the accounting records of Build Limited.
Question 16.9
Part A
Food for All Limited operates a chain of supermarkets around the country. It enters into a
contract with Prop Limited for the lease of a warehouse in a location chosen by Food for All
Limited for its proximity to some of its retail outlets and access to the road transport network.
It cannot be substituted by Prop Limited.
The initial lease term is for three years, at a rental of C50 000 per month which is in
accordance with current market rates. It is non-cancellable. Food for All Limited has the
option to extend the lease for a further three year non-cancellable term at the same rental.
Market rentals for similar warehouses in the same area are expected to increase by 10% over
the six year period. Over the next ten years, Food for All Limited intends to expand its retail
outlets in the surrounding areas and the government has announced plans to further improve
the road network.
Required:
Discuss, in terms of IFRS 16 Leases, the length of the lease term that Food for All should use
in accounting for this contract.
Part B
Food for All Limited operates a chain of supermarkets around the country. It enters into a
contract with Prop Limited for the lease of a warehouse in a location chosen by Food for All
Limited for its proximity to some of its retail outlets and access to the road transport network.
It cannot be substituted by Prop Limited.
The initial lease term is for three years, at a rental of C50 000 per month which is in
accordance with current market rates. It is non-cancellable. Food for All Limited has the
option to extend the lease for a further three year non-cancellable term at a rental of C55 000
per month.
Food for All Limited is considering the future of its retail outlets in the surrounding areas as
some of the stores are not performing well.
Required:
Discuss, in terms of IFRS 16 Leases, the length of the lease term that Food for All should use
in accounting for this contract.
Chapter 16 203
Question 16.10
Villa Limited entered into a contract with Motor Holdings Limited for the lease of five luxury
motor cars for use by its directors. The lease term is for five years and is non-cancellable.
The contract stipulates a residual value guarantee – if the fair value of the cars at the end of
the lease term is below C100 000 in total, Villa Limited is required to pay the difference
between C100 000 and the fair value of the cars to the lessor.
At the inception of the lease, Villa Limited expects the fair value of the cars at the end of the
lease term will be C80 000.
Required:
Discuss, in terms of IFRS 16 Leases, the amount that Villa Limited is to include in the
calculation of the present value of future lease payments in respect of the residual value
guarantee.
Question 16.11
Abey Limited entered into a contract with Data Pro Limited for the lease of twenty-four laptop
computers. The contract was entered into on 1 April 20X1 for a two year period. Each item is
of low value and Abey Limited applies the low value exemption of IFRS 16 Leases. The
benefit derived for Abey Limited from the lease agreement is constant over the lease period.
The following amounts are payable to Data Pro Limited per the lease agreement:
x From 1/4/20X1 – 31/03/20X2: C2 000 per month
x From 01/04/20X2 – 31/03/20X3: C3 000 per month
Abey Limited has a 31 December year-end.
Required:
Prepare the journal entries in the accounting records of Abey Limited for the years ended
Ignore taxation
Question 16.12
Cow Limited is a firm operating in the advertising industry. It entered into a contract with
Funky Furniture Limited for the lease of furniture for 100 work stations. This includes a desk,
chair and side table for each work station. Each item is of low value and Cow Limited applies
the low value exemption of IFRS 16 Leases. The benefit derived for Cow Limited from the
lease agreement remains constant over the lease period.
The lease period is for eight years, commencing on 1 January 20X2. Cow Limited has won a
large contract spanning 20X3 to 20X5 and thus will be hiring more staff who will need work
space. The lease payments have been structured to assist Cow Limited with its cash flows,
and are payable in advance as follows:
Year C
20X2 10 000 per annum
20X3 – 20X5 25 000 per annum
20X6 0
20X7 – 20X9 10 000 per annum
204 Chapter 16
Cow Limited’s profit before tax is C750 000 in 20X2 (after correctly accounting for the lease).
The tax authority account has a debit balance of C112 000 before recognising the income tax
expense for the current year.
The income tax rate is 30%. The tax authorities allow the deduction of lease payments in the
year the payment is made. There are no other temporary differences other than those
evident from the information provided. Cow Limited satisfies the requirements to raise
deferred tax assets.
Required:
a) Prepare the journal entries in the accounting records of Cow Limited for the year ended
31 December 20X2.
b) Prepare extracts from the statement of comprehensive income of Cow Limited for the year
ended 31 December 20X2 and from the statement of financial position for the year ended
on that date.
c) Prepare the lease and income tax expense notes to the financial statements of Cow
Limited for the year ended 31 December 20X2.
Question 16.13
Highlands Limited enters into a contract with Lothian Limited for the lease of equipment. The
equipment is specified in the contract and Lothian Limited does not have substitution rights.
The commencement date of the lease is 1 April 20X5 and the duration of the lease is for ten
years.
Highlands Limited incurs commissions and legal fees of C1 741 directly related to the lease.
These are paid on 1 April 20X5.
The lease payments required to be made are as follows:

x C6 000 in advance on 1 April 20X5
x C5 250 in arrears on 31 March each year for ten years, commencing on 31 March 20X6.
The fair value of the equipment at the date of inception of the lease is C38 259.
The interest rate implicit in the agreement is 10%. The following present value table is
provided:
PV factor
Present value of annuity in arrears of C1 for ten years, discounted at 10% 6,1446
Present value of C1 in ten years, discounted at 10% 0,3855
Required:
a) Prove that the implicit interest rate is 10%.
b) Calculate the amount to record as the initial lease liability and right of use asset,
explaining your answer.
c) Prepare the journal entries in the accounting records of Highlands Limited for the year
Ignore tax.
Chapter 16 205
Question 16.14
Eagle Limited has a factory situated away from established commuter routes and provides
bus transport for its employees from the city centre to the factory.
Eagle Limited entered into a contract with BigFin Limited for the lease of a bus. The model
and size of the bus is stated in the contract and BigFin Limited does not have substitution
rights.
The commencement date of the lease is 1 April 20X5 The lease agreement is for a period of
four years and requires four lease payments in advance of C110 000. The first payment is
due on 1 April 20X5 and the remaining three payments on 1 April 20X6, 1 April 20X7 and
1 April 20X8.
The contract stipulates a residual value guarantee of C80 000. At the inception of the lease,
Eagle Limited expects that the fair value of the bus at the end of the lease term will be
C42 500. The estimated useful life of the bus is six years.
Eagle Limited’s incremental borrowing rate is 7%. The following present value table is
provided:
PV factor
Present value of annuity in advance of C1 for four years, discounted at 7% 3,62431
Present value of C1 in four years, discounted at 7% 0,76289
The financial year end of Eagle Limited is 31 March.
Required
a) Prepare the journal entries in the accounting records of Eagle Limited for the year ended
31 March 20X6 (the first year of the contract) and 31 March 20X9 (the last year of the
contract).
b) Prepare an extract from the statement of financial position of Eagle Limited at
31 March 20X6 showing the disclosure of the non-current assets, non-current liabilities
and current liabilities, in accordance with International Financial Reporting Standards.
c) Prepare the lease note to support the disclosure of the lease in the financial statements of
Eagle Limited for the year ended 31 March 20X6, in accordance with International
Ignore tax and deferred tax.
Round your calculations to the nearest whole number
Question 16.15
Devon Coach Tours Limited entered into a contract with Bus Manufacturers Limited for the
lease of two buses. The model and size of buses are stated in the contract and Bus
Manufacturers does not have substitution rights.
The commencement date of the lease is 1 July 20X0 and the duration of the lease is for five
years. It is non-cancellable. Five lease payments of C135 000 are to be made annually, in
arrear, the first being made on 30 June 20X1.
The lease agreement gives the lessee the option to purchase the buses at the end of
the fifth year for C10 000. Devon Coach Tours Limited intends to take up this option.
provided:
206 Chapter 16
PV factor
Present value of annuity in arrears of C1 for five years, discounted at 12% 3,6048
Present value of annuity in arrears of C1 for four years, discounted at 12% 3,0375
Present value of annuity in arrears of C1 for three years, discounted at 12% 2,4018
Present value of annuity in arrears of C1 for two years, discounted at 12% 1,6901
Present value of C1 in five years, discounted at 12% 0,5674
The fair value of the buses at the inception of the lease is C492 322.
The estimated useful life of the buses is eight years, with an estimated residual value of
C7 000. The buses are to be depreciated on a straight-line basis.
Required:
a) Prove that the rate of interest implicit in the lease is 12%.
b) Prepare the journal entries to account for the lease in the accounting records of Devon
Coach Tours Limited for the year ending 30 June 20X1.
c) Prepare an extract from the statement of financial position of Devon Coach Tours Limited
at 30 June 20X2 showing the disclosure of the non-current assets, non-current liabilities
and current liabilities
d) Prepare the lease note to support the disclosure of the lease in the financial statements of
Devon Coach Tours Limited for the year ended 30 June 20X2, in accordance with
Round your calculations to the nearest whole number.
Ignore tax.
Question 16.16
Roasted Bean Limited enters into a contract with Properties for Africa Limited for the lease of
retail space for a new speciality coffee shop. The retail space is specified and the lessor
cannot require Roasted Bean Limited to move to a different retail space. Roasted Bean
Limited also makes all decisions relating to the retail space.
The commencement date of the lease is 1 January 20X1 and the lease term is for five years.
The lease payments are C5 000 per year, payable in advance. The contract contains an
option for Roasted Bean Limited to extend the contract for a further five years with lease
payments of C6 000 per year, payable in advance. These rentals are at market rates.
Commission and legal fees of C850 were incurred by Roasted Beans Limited and paid for in
cash at the inception of the lease
The speciality coffee shop is of a new format that is not yet tested in the local market or by
Roasted Bean Limited. The shop fittings and decorations provided by the lessor are expected
to have reached the end of their useful lives at the end of the fifth year.
At the inception of the lease, management of Roasted Bean Limited are unable to determine
the interest rate implicit in the lease. The incremental borrowing rate at the inception of the
lease is 4%.
After three years, at 31 December 20X3, it is apparent that the new format has not been
successful and management takes the decision to change the format of the coffee shop. This
will result in significant costs that Roasted Bean Limited will need to incur to change the
fittings and decoration to a more traditional format and to one that is being used successfully
in the entity’s other retail coffee shops.
Chapter 16 207
The incremental borrowing rate at 31 December 20X3 is 3%.
Required:
a) Determine, with reasons, the lease term that Roasted Bean Limited should use when
measuring the lease liability at the inception of the lease and whether this will change with
the new circumstances at 31 December 20X3.
b) Prepare the journal entries in the accounting records of Roasted Bean Limited for the
years ending 31 December 20X1, 20X2 and 20X3.
You will need a financial calculator to answer this question.
Question 16.17
Chirp Limited is the largest seller of bird food in the country. Chirp Limited enters into a
contract for the lease of a machine with Pack Limited that will automate the entire packaging
process. The lease is non-cancellable, Chirp Limited will make all decisions on how to use
the machine and Pack Limited does not have substitution rights.
The contract is entered into on 1 January 20X3 for a period of four years and requires Chirp
Limited to pay lease rentals of C200 754 annually, in advance. In addition to the fixed
payments, Chirp Limited is required to pay a variable payment equal to 1% of units processed
by the machine each year.
The machine has a cash cost and fair value of C700 000 on 1 January 20X3. It has an
estimated useful life of four years with no residual value.
Chirp Limited’s profit before tax is correctly calculated at C900 000 in 20X3. The only interest
incurred by Tweet Limited relates to this lease. 3 500 000 units were processed by the
machine during 20X3.
The tax authorities allow a deduction from taxable profits of the lease payments in respect of
leased assets. There are no other differences between accounting profit and taxable profit
other than those evident from the information provided. Tweet Limited satisfies the
requirements to recognise deferred tax assets. The current tax rate is 30% and there is a
debit balance on the tax authority account of C200 000 before accounting for tax for the
current year.
The interest rate implicit in the lease is 10%.
Required:
a) Prepare the journal entries for the year ended 31 December 20X3 in relation to the above
lease agreement.
b) Prepare an extract from the statement of comprehensive income of Chirp Limited for the
c) Prepare an extract from the statement of financial position of Chirp Limited at
31 December 20X3.
d) Prepare the lease note to the financial statements of Chirp Limited for year ended
31 December 20X3.
The accounting policy note is required. The deferred tax note is not required.
Ignore VAT.
208 Chapter 16
GAAP: Graded Questions Leases: lessor accounting
Chapter 17
Leases: lessor accounting
Question Key issues

17.1 - Core concepts
17.2 Equipment Operating / finance lease classification

Solutions
17.3 Sleepless Operating lease, instalments in arrear with annual increase, transfer from
PP&E to IP, journals
17.4 Big Cranes Finance lease, lessor’s initial direct costs, gross v net receivable, journals
17.5 Mediworld Finance lease, lease payments include maintenance costs, purchase option,
gross v net receivable, journals
17.6 Bus Body Finance lease, manufacturer / dealer, guaranteed residual, journals, note
disclosure
17.7 Nightlife Finance lease, guaranteed residual, current and deferred tax
Chapter 17 209
Question 17.1
a) State and briefly describe the two lease classification options available to lessors.
a) Describe briefly what is meant by risks and rewards related to the ownership of an
underlying asset.
b) When is the lease classification determined and can it be reassessed?
c) What examples are provided in IFRS 16 Leases, that normally lead to a lease being
classified as a finance lease?
d) What indicators of situations are provided in IFRS 16 Leases, that could lead to a lease
being classified as a finance lease?
e) State briefly how a lessor recognises and measures a finance lease at the
commencement date.
f) Define and explain the components of the lessor’s ‘net investment in the lease’.
Question 17.2
Part A
Equipment Solutions Limited enters into a non-cancellable lease contract with Paul Limited, a
chain of bakeries. The contract requires Equipment Solutions Limited to lease baking
equipment to Paul Limited for a period of four years at an annual rental of C23 660 per
annum, payable in arrears.
The fair value of the baking equipment is C75 000 and it has an estimated useful life of ten
years. This type of baking equipment is commonly used by bakeries.
The contract has no provisions allowing Paul Limited to purchase the equipment or to extend
the lease.
The interest rate implicit in the lease is 10%. The PV factor of an annuity in arrears of C1 for
four years, discounted at 10% is 3,169865.
Required:
Discuss, in terms of IFRS 16 Leases, whether this contract should be classified as an
operating or finance lease in the accounting records of Equipment Solutions.
Part B
Equipment Solutions Limited enters into a non-cancellable lease contract with Paul Limited, a
chain of bakeries. The contract requires Equipment Solutions Limited to lease baking
equipment to Paul Limited for a period of four years at an annual rental of C23 660 per
annum, payable in arrears.
The fair value of the baking equipment is C75 000 and it has an estimated useful life of four
years. The baking equipment has been specifically designed for Paul Limited.
The contract has no provisions allowing Paul Limited to purchase the equipment or to extend
the lease.
The interest rate implicit in the lease is 10%. The PV factor of an annuity in arrears of C1 for
four years, discounted at 10% is 3,169865.
210 Chapter 17
Required:
Discuss, in terms of IFRS 16 Leases, whether this contract should be classified as an
operating or finance lease in the accounting records of Equipment Solutions.
Question 17.3
On 1 January 20X0, Sleepless Limited purchased two factory buildings, one in Dozey Road
and one in Wakey Road, for C2 250 000 each. Both factory buildings were initially to be used
to manufacture beds for sale to retail stores. The buildings are not specialised and could be
used for a variety of manufacturing processes. The estimated useful life of each building is
fifteen years with no residual value.
Sleepless Limited lost a major customer effective 1 January 20X5 and, as a result, had
factory space surplus to their requirements. Sleepless Limited entered into a contract to
lease the factory building in Wakey Road to a tenant, with a commencement date of
1 January 20X5. The lease term is for five years.
The rental payments are C100 000 per year, payable annually in arrears and are to increase
by 20% per year over the lease term. The building will revert to Sleepless Limited at the end
of the contract.
Sleepless Limited holds all investment property under the cost model.
Required:
a) Discuss briefly whether Sleepless Limited should classify this lease contract as a finance
lease or operating lease.
b) Record the journal entries in the accounting records of Sleepless Limited in respect of the
factory building in Wakey Road for the years ended 31 December 20X5, 20X6, 20X7,
20X8 and 20X9.
Ignore tax.
Question 17.4
Big Cranes Limited, a specialised leasing company, enters into a lease contract with Build
Limited for the lease of a construction crane for a period of three years. The commencement
date of the lease is 1 July 20X4. The lease is non-cancellable and the residual value of the
crane at the end of the lease is expected to be negligible.
The cost of the crane to Big Cranes Limited is C270 000 and the accumulated depreciation at
30 June 20X4 is C120 000.
The lease rentals are C60 317 per year, payable annually in arrear. Big Cranes Limited
incurs commissions and legal fees of C7 500 in setting up the contract.
The interest rate implicit in the lease is 7,275%. The PV factor of an annuity in arrears of C1
for three years, discounted at 7,275% is 2,6112.
Required:
a) Calculate the gross investment in the lease, the net investment in the lease and the
unearned finance income.
b) Prepare the journal entry in the accounting records of Big Cranes Limited showing the
gross receivable and unearned finance income.
Chapter 17 211
c) Prepare the journal entry in the accounting records of Big Cranes Limited showing the net
receivable.
Question 17.5
Mediworld Limited, a specialised leasing company, enters into a lease contract with Image
Clinics Limited on 1 July 20X5 for the lease of specialised radiology equipment. The contract
stipulates that the lease is for five years and is non-cancellable.
The equipment was purchased by Mediworld Limited on 1 July 20X5 for C497 996, which is
also the fair value at the commencement of the lease. The equipment has an estimated
useful life of six years and an estimated residual value of C90 000. The equipment is
depreciated on a straight-line basis.
The lease agreement has a purchase option that gives the lessee the option to purchase the
equipment at the end of the fifth year for C20 000.
Five lease payments of C150 000 are to be made annually, in arrear, the first being made on
30 June 20X6. Each payment of C150 000 includes C15 000 for the maintenance of the
equipment, borne by the lessor.
provided:
PV factor
Annuity in arrears of C1 for five years, discounted at 12% 3,6048
Present value of C1 in five years, discounted at 12% 0,5674
Required:
a) Prove that the rate of interest implicit in the lease is 12%.
b) Prepare the journal entries in the accounting records of Mediworld Limited for the years
ending 30 June 20X6 and 30 June 20X7, recording the gross receivable and the unearned
finance income.
c) Prepare the journal entries in the accounting records of Mediworld Limited for the years
ending 30 June 20X6 and 30 June 20X7, recording the net receivable.
Ignore tax.
Question 17.6
Bus Body Limited is a dealer in buses used for inner-city transport. Bus Body Limited entered
into a contract for the lease of a bus to City Buses Limited and purchased the bus for
C250 000 on 1 January 20X1. The bus has a cash sale price of C320 000.
The bus was delivered to City Buses Limited on the same day, the start of the lease term. It
has an estimated useful life of five years and an estimated residual value of C50 000,
guaranteed by City Buses Limited.
Lease instalments of C100 000 are received annually in arrears on 31 December for the five
years of the lease term.
The interest rate implicit in the agreement is 19,8863%. The following present value table is
provided:
212 Chapter 17
PV factor
Annuity in arrears of C1 for four years, discounted at 19,8863% 2,59432
Present value of C1 in 5 years, discounted at 19,8863% 0,40378
Required:
a) Prove that the implicit interest rate is 19,8863%.
b) Calculate the gross investment in the lease, the net investment in the lease and the
amount of the finance income.
c) Prepare the journal entries in the accounting records of Bus Body Limited for the year
ended 31 December 20X1, using the gross method.
d) Provide the disclosure relating to the lease in the notes to the financial statements of Bus
Body Limited.
Ignore tax.
Question 17.7
Nightlife Limited is a company involved in the entertainment industry. It recently imported a

range of new lighting equipment costing C400 000 that was delivered on 1 January 20X6.
Prior to the equipment being delivered, the loss of a major contract led Nightlife Limited to
realise that the equipment was surplus to its needs and thus it entered into a contract with
DHP Entertainment Limited to lease the equipment for a lease term of three years from
1 January 20X6.
DHP Limited is to pay lease rentals of C150 000 annually in advance and guarantees a
residual value of C20 000 at the end of the contract, on 31 December 20X8.
The interest rate implicit in the contract is 17,08204%.
The estimated useful life of the equipment is three years and this is the same period over
which the tax authority allows the equipment to be written off for tax purposes. The tax
authority taxes lease instalments when received. The current tax rate is 30% and there is no
transaction tax (no VAT).
The profit before tax, taking into account all the relevant information above, has been
correctly calculated as follows:
Year ended C
31/12/20X6 242 705
31/12/20X7 244 377
31/12/20X8 212 918
Required:
Provide the journal entries in the records of Nightlife Limited for the years ended
31 December 20X6, 20X7 and 20X8 recording the gross receivable and unearned finance
income.
Chapter 17 213
GAAP: Graded Questions Provisions, contingencies and events after the
reporting period
Chapter 18
Provisions, contingencies and events after the
reporting period
Question Key issues

18.1 Short questions Core concepts: Provisions
18.2 Short questions Core concepts: Events after the reporting period
18.3 Trinity Active Legislation: Identification of obligating event
18.4 Zomba Future replacement costs: recognition
18.5 Rich Kid Guarantees for refunds (recognition and measurement)
18.6 Donkey Restructuring provision: recognition and measurement
18.7 Microwave Major inspections: past and future measurements
18.8 Park Hospital Future Disposal and penalties: recognition and measurement
18.9 Care Bear Clinic Legal claims: recognition, measurement and disclosure
18.10 Highway Blitz Provision for compensation payments
18.11 Leo Decommissioning costs
18.12 Dig Deep Decommissioning costs and the cost model
18.13 Express Travel Recognition of provision and potential event after reporting
period
18.14 Melrose Events after reporting period various discussions
18.15 Fangs Earnings after reporting period: Liability and contingent liability
18.16 Frog Events after reporting period various discussions
18.17 Lemon Events after reporting period and provisions
214 Chapter 18
reporting period
Question 18.1
a) What is the difference between a liability and a provision?

b) What is an onerous contract?
c) Explain the difference between a legal obligation and a constructive obligation.
d) Define a contingent liability and explain how the treatment of a contingent liability differs
when compared to the treatment of a provision in the financial statements.
e) An entity can recognise a provision if it has a present obligation as a result of a past event
and there is remote possibility of an outflow of resources. True or false: Explain your
answer.
f) Define a contingent asset.
g) List the criteria necessary for an entity to recognise a constructive obligation to
restructure.
Question 18.2
a) Define the term ‘events after the reporting period’ as envisaged by IAS 10 Events after the
reporting period.
b) Discuss the difference between an adjusting event and a non-adjusting event.
c) If the going concern assumption is no longer appropriate the entire financial statements
will need revision. True or false.
Question 18.3
Trinity Active Limited comprises a chain of elite South African gyms. Its target market is
mainly the late teens to the mid-30 age group who are looking for a first class gym
experience.
Due to the pressure from health and safety activists, the South African Health and Safety
legislators have put forward to parliament an amendment to the Health and Safety regulations
that are required to be complied with by all gyms in South Africa. This amendment requires
that all gyms in South Africa are to put in place a state of the art air conditioning and
circulating system.
The new legislation was accepted and announced to all gym owners on
31 October 20X5. It required all gym owners to have these air conditioning and circulating
systems in place by 31 October 20X6. If a gym does not comply with this regulation, a fine
may be imposed based on the size of the gym.
The board of directors of Trinity Active Limited took a decision not to fit these new air
conditioning systems as they believed that what they had in place already did the job
sufficiently. A year ago the company hired an assessor to assess the air conditioning unit and
the report indicated that the air conditioning system, “was in proper working order, and would
continue to keep the air cool at the required temperature for the foreseeable future.” The
directors are of the opinion that the air conditioning unit therefore need not be replaced and
are simply ignoring the amendment to the Regulations.
Trinity Active Limited has a 31 December year end.
Required:
a) Discuss whether Trinity Active Limited has a present obligation from a past obligating
event at 31 December 20X5 with reference to International Financial Reporting
Standards.
Chapter 18 215
reporting period
b) Discuss whether Trinity Active Limited has a present obligation from a past obligating
event at 31 December 20X6 with reference to International Financial Reporting
Standards.
Question 18.4
Zomba Limited is a company offering delivery services. The accountant of Zomba Limited, Mr
Delivery, is aware that in line with company policy, Zomba will be replacing all vehicles in
4 years’ time, at which point all existing vehicles will be scrapped. It is estimated that the new
vehicles will cost C800 000 (the PV thereof is C200 000). Mr Delivery wishes to provide for
25% of this expected cost of C800 000 in the current year ended 30 June 20X5.
Required:
Discuss whether the recognition of the provision in the financial statements for the year ended
30 June 20X5 is acceptable or not, with reference to International Financial Reporting
Standards.
Question 18.5
Rich Kid Limited sells various cheap, but expensive-looking, electronic items. All goods are
sold with a six-month guarantee, provided by Rich Kid Limited. Rich Kid Limited’s suppliers
are Money-Cruncher Limited and Super-Duper Limited. Super-Duper Limited also offers a
six-month guarantee on all goods sold to Rich Kid Limited, thus any returns by customers to
Rich Kid Limited will be passed on to Super-Duper Limited for the guarantee to be honoured.
In the event that Super-Duper Limited does not honour their guarantee, customers are
protected by Rich Kid Limited’s guarantee. Money-Cruncher offers no such refund policy,
although it has occasionally refunded customers for returned goods.
Details of sales of the three companies for the year ended 31 December 20X5 follow. All
sales are incurred evenly over the year.
C
Rich Kid Limited: 500 000
Super-Duper Limited: 7 000 000
Money-Cruncher Limited: 5 000 000
Estimates of returns to the three companies
Most likely Worst ever Best ever

Rich Kid Limited 15% 30% 10%
Super-Duper Limited 10% 18% 8%
Money-Cruncher Limited 5% 15% 1%
Required:
Discuss the recognition and measurement of the above transactions in the accounting
records of each company at 31 December 20X5.
Question 18.6
Donkey Limited is relocating its large departmental store from the city centre of Durban to a
smaller store on the Umhlanga Ridge. The new store is to sell only upmarket fashion.
To this end, management has devised a detailed formal plan which was agreed to by all
directors at a meeting held before 30 September 20X5. This plan is expected to be
216 Chapter 18
reporting period
implemented during December 20X6. Five cashiers and five sales staff will be retrenched
whereas two cashiers and twelve sales staff will be relocated. The costs related to the
relocation of this store are expected to be as follows:
x Annual gains expected from lower store rental: C500 000;

x Retrenchment packages: C3 000 000;
x Relocation costs: C1 000 000.
The directors have decided that the plan should be announced on 31 October 20X6.
The amounts are material but the plan above has not caused a ‘going concern’ problem.
Required:
Advise the financial accountant how the plan should be accounted for in the financial
statements at year end 30 September 20X5
Question 18.7
Microwave Limited bought a nuclear plant that, for safety reasons, has to be inspected after
every 11 000 hours.
The plant's last inspection was performed on 1 September 20X5, and when Microwave
Limited bought it on 1 April 20X6, it had been operated for 3 900 hours after that inspection
(the plant operates 24 hrs a day with short periods of down-time for general maintenance).
The inspection that took place on 1 September 20X5 had cost the previous owners
C2 000 000. With the real inflation rate ranging between 10% and 12%, the accountant of
Microwave Limited expects that the next inspection will cost at least C2 200 000.
The accountant wants to raise the provision for this full amount now; and since the next
inspection may very well be necessary within 20X6, he believes that this full amount should
be expensed now, since this would surely be the most prudent thing to do (he remembers
from his accounting studies many years ago that prudence was a general principle when
deciding how to account for all transactions).
The accountant has capitalised the plant at the C10 000 000 that Microwave Limited had paid
for it and is depreciating this plant over its estimated useful life of 10 years to its nil residual
value. He is aware that there is some new aspect in the standards regarding major
inspections and is not sure if he is dealing with the major inspections correctly.
Required:
Discuss how the previous and the future major inspections should be accounted for in terms
of International Financial Reporting Standards.
You should refer specifically to liabilities, provisions and assets.
Question 18.8
Park Hospitals Limited is a private hospital group operating five hospitals in the Cape Town
area. The following information relates to the year ended 31 December 20X6.
x In terms of environmental legislation Park Hospitals Limited is required to dispose of all

medical waste generated by the hospitals in a socially responsible manner, within two
weeks of generation, failing which penalties may be levied. The company has the
Chapter 18 217
reporting period
necessary permit to dispose of medical waste by incineration on the site of their hospital
in Cape Town.
Disposal of medical waste
x In terms of their permit Park Hospitals Limited is allowed to dispose of 120 tons of medical
waste per annum from 1 January to 31 December. The hospitals generate an average of
10 tons of medical waste per month evenly. On 25 November 20X6 the furnace used to
incinerate medical waste malfunctioned and could not be repaired. A replacement
furnace was commissioned immediately but will only be completed and installed on
31 January 20X7 at a cost of C1 500 000. A deposit of C500 000 was paid on
15 December 20X6.
x Due to the malfunction of the furnace Park Hospitals Limited has 12 tons of un-disposed
medical waste on hand at 31 December 20X6. Management has obtained a quote from
Waste Incinerators to dispose of the waste on hand during the first week of January 20X7
at an estimated cost of C10 000 per ton.
Penalty
x On 25 January 20X7 Park Hospitals Limited received notification from the Environmental
Agency that a penalty amounting to C125 000 would be levied as a result of not disposing
of waste within the prescribed period at 31 December 20X6. Management has decided
not to raise an objection to this penalty.
x The financial statements were approved for issue on 15 February 20X7.
x Profit for the period has been correctly calculated as C2 858 500 (20X5: C2 212 000) after
taking the above information into account.
Required:
a) Discuss how the cost relating to the un-disposed medical waste on hand at
31 December 20X6 should be recognised and measured in the financial statements of
Park Hospitals Limited for the year ended 31 December 20X6 in accordance with
b) Discuss how the penalty should be recognised and measured in the financial statements
of Park Hospitals Limited for the year ended 31 December 20X6 in accordance with
Question 18.9
The Care Bear Clinic Limited is a private care facility for the elderly. On 15 October 20X6, a
visitor to the clinic, Mr Downe, the Chief Executive Officer of a large company, slipped on a
wet floor in the clinic foyer while on his way to visit his ill mother.
As a result of his fall he sustained multiple fractures to his left leg and right arm and was
immobilised for 4 months. On 1 December 20X6 Mr Downe filed a lawsuit against the
hospital for negligence, claiming damages for the injuries sustained and loss of income
suffered as a result of his fall.
At 31 December 20X6 the Care Bear Clinic Limited attorneys have reported that it is highly
probable that Mr Downe’s claim will be successful against the company. However they are
uncertain how much would be awarded in damages as past rulings of this nature have been
inconsistent. The directors have applied their minds to the amount of damages likely to be
awarded and have decided that there is not enough information at the present to make a
218 Chapter 18
reporting period
reasonable estimate. The attorneys will gain a better understanding of the possible amount of
damages after the first court proceedings to be held on 1 March 20X7.
Required:
Discuss how the legal claim should be recognised, measured and disclosed in the financial
statements of Care Bear Clinic for the year ended 31 December 20X6 in accordance with
Question 18.10
Highway Blitz Limited is a bus-line that has a network of routes linking major cities around
South Africa. They operate a fleet of buses which transports passengers throughout the year.
On 24 December 20X5 one of these buses crashed into a tree while on the route between
Johannesburg and Durban, and many of the passengers on-board were injured. Highway
Blitz Limited’s year end is 31 December, and its financial statements are authorised for issue
on 15 February each year.
Part A
x South African traffic law requires companies that provide transport facilities to
compensate any passengers injured while using the service.
x Highway Blitz Limited’s lawyers have estimated that the company will be obliged to pay
C2 000 000 in compensation under the relevant statute, but the amount will only be
confirmed when the company receives notice from the National Traffic Agency in
March 20X6.
Part B
x There is no law requiring Highway Blitz Limited to pay compensation, but it is common
practice in the public transport industry for companies to compensate passengers who
are injured while using their services.
x A typical pay-out for a similar accident is C2 000 000 compensation to the affected
passengers.
Part C
x There is no law or common industry practice which might require Highway Blitz Limited to
pay compensation to the injured passengers. Media reports have, however, led to public
interest in the accident, and many groups have expressed outrage at Highway Blitz’s
lack of Christmas spirit in not assisting its customers.
x As a result, the managing director of Highway Blitz made a public announcement on

15 January 20X6, in which he stated that the company would pay compensation to those
affected by the accident. The company’s accountants have estimated that such
compensation payments will cost the company C2 000 000.
Required:
For each scenario, discuss whether a provision should be recognised in respect of the
compensation in the financial statements of Highway Blitz Limited for the year ended
Chapter 18 219
reporting period
Question 18.11
Leo Limited leases an industrial site close to a game reserve. The company recently
obtained approval for heavy plant and machinery to operate on the site for a period of five
years. The approval is in terms of a licence granted by the government. The Minister of
Environmental Affairs approved the licence because the main activity of Leo Limited is the
production of environmentally friendly paper from recycled material.
The plant and machinery was purchased on 1 October 20X2 for C1 000 000. Installation
costs of C175 480 were incurred and paid over the months of October, November and
December of 20X2. The plant and machinery was in a condition necessary to be capable of
operating in the manner intended by management on 1 January 20X3.
The plant and machinery has an estimated useful life of five years with no residual value. In
terms of the licence, Leo Limited is obliged to dismantle the plant and machinery and restore
the area at the end of its useful life. Future decommissioning costs are expected to be
C120 000. The company uses a discount rate of 10% to calculate the present value of the
decommissioning costs.
The financial accountant prepared the following schedule reflecting the unwinding of the
discounted decommissioning costs:
Years to
Date decommissioning date 10% discount factor PV
01/01/X3 5 0,621 74 520
31/12/X3 4 0,683 81 960
31/12/X4 3 0,751 90 120
31/12/X5 2 0,826 99 120
31/12/X6 1 0,909 109 080
31/12/X7 0 1,000 120 000
Required:
a) Discuss the appropriate accounting treatment for the future decommissioning costs. Your
answer should refer to the Conceptual Framework and to the relevant International
b) Prepare all the journal entries relating to the above transactions that would have been
processed in the accounting records of Leo Limited for the years ended
31 December 20X2 and 31 December 20X3.
c) Prepare the relevant extracts from the statement of comprehensive income of Leo Limited
for the year ended 31 December 20X4 and from the statement of financial position at
31 December 20X4. Notes to the financial statements (including accounting policies) are
required in respect of provisions only.
Question 18.12
Dig Deep Limited is a company involved in extracting oil from the sea bed. It purchased an oil
drilling rig, the details of which are as follows:
Cash purchase price (1 January 20X1): C2 000 000

Depreciation straight-line to nil residual values: 5 years
220 Chapter 18
reporting period
The rig must be dismantled after 5 years, details of which are as follows:
Future decommissioning cost assessed on 1 January C1 000 000

20X1:
Discount rate: 10%
Dig Deep Limited uses the cost model to measure items of plant.
Required:
a) Prepare the journal entries relating to the rig for the years 20X1 and 20X2.
b) Disclose the following in the notes to the financial statements of Dig Deep Limited for the
Standards:
x provision for decommissioning costs,
x profit before tax: showing the finance charges and depreciation
Ignore tax.
Question 18.13
In May 20X5, a bus operated by Express Travels Limited reversed into the entrance of the
hall at The Boys School, a private school with a long and proud history. The accident
damaged the pillars and some of the brickwork of the hall. An initial assessment was that the
damage was not significant. . The trustees of the school board expressed an intention to sue
Express Travels Limited but needed time to assess the extent of the damage.
In October 20X5, Express Travels received notification from the Boys School of a legal case
for damages of C1 680 000, which was based upon the estimated cost to repair the building.
The school claimed that the building was of significant historic value and that it had been
damaged to a greater extent than was originally thought. Lawyers engaged by Express
Travels Limited advised that the company was clearly negligent but the view obtained from an
expert was that the extent of the damages to the building was C1 120 000. Express Travels
Limited had an insurance policy that would cover the first C280 000 of such claims.
After the financial statements for the year ended 30 June 20X6 were authorised for issue, the
case came to court and the judge determined that the hall and the pillars are of significant
historic value. The court ruled that Express Travels Limited was negligent and awarded
C1 000 000 for the damage to the building.
Required
Discuss the accounting treatment in respect of the damages and the insurance claim in the
financial statements of Express Travels Limited for the year ended 30 June 20X5 and 30 June
20X6, in accordance with International Financial Reporting Standards.
Question 18.14
Melrose Limited is a company that manufactures and distributes computerised electronic

products. The head office is situated at The Melrose Arch with retail outlets and warehouses
in different parts of the country. The financial year end of the company is 30 June.
The management of the company completed the draft financial statements for the year ending
30 June 20X5 on 31 August 20X5. On 18 September 20X5, the board of directors reviewed
the financial statements and authorised them for issue. A profit announcement appeared in
the press on 19 September 20X5. The financial statements are made available to
Chapter 18 221
reporting period
shareholders on 1 October 20X5 and are approved by shareholders at the annual meeting on
5 November 20X5.
The following events occurred after the end of the reporting period:
a) A major competitor announced a reduction in the price of its blue tooth speakers during
July 20X5. The competitor was able to do this because of its ongoing investment in new
technology. Management of Melrose Limited had included the inventory of blue tooth
speakers on the draft statement of financial position at its cost of C6 500 000. It is
estimated that the net realisable value of this inventory at 30 June 20X5 is C5 000 000
because of the competitor’s price reduction.
b) One of Melrose Limited’s warehouses is situated on the Kwa-Zulu Natal north coast. A
tropical storm struck the area during late August 20X5 and flooded the warehouse,
destroying the entire inventory on the ground floor, comprising modems and lightning
protector kits. This inventory was included on the draft statement of financial position at
30 June 20X5 at a cost of C3 000 000.
c) A customer of Melrose Limited was placed into liquidation at the end of July 20X5. The
amount of C400 000 owing by this customer was included in accounts receivable on the
draft statement of financial position at 30 June 20X5.
d) Another customer of Melrose Limited, whose retail outlet was situated on the Kwa-Zulu
Natal north coast, announced early in September 20X5 that it was closing down after its
premises and all the fixtures and fittings as well as its inventory were destroyed as a result
of the August tropical storm. The company was under-insured and was forced to close
down. Management of Melrose Limited estimates that it is unlikely that more than
30cents in the C1 will be paid on liquidation. An amount of C150 000 owing from this
customer was included in accounts receivable on the draft statement of financial position
at 30 June 20X5.
e) Melrose Limited proposed a bonus scheme for all employees amounting to C200 000.
This scheme was approved by the board of directors and communicated to the employees
on 19 September 20X5.
Required:
Discuss, with reasons, the nature of each event described above in terms of IAS 10 as well as
the appropriate accounting treatment (include any necessary journal entries) and / or
disclosure in the financial statements of Melrose Limited for the year ended 30 June 20X5.
Question 18.15
Fangs Limited, a manufacturer of toothpaste, was taken to court over alleged defamation
charges when Fangs Limited accused a rival toothpaste manufacturer of industrial espionage.
Before the year end of 31 December 20X3, the lawyers of Fangs Limited advised that,
although losing the case was unlikely, legal fees and settlement costs could amount to
C800 000 in the event that the court case was lost.
On 4 February 20X4, the judge presiding over the case ruled that Fangs should pay
C900 000 to the plaintiff as well as pay all of the plaintiff’s legal fees, which amounted to
C150 000.
The financial statements had not yet been authorised for issue at the time of the court ruling.
222 Chapter 18
reporting period
Required:
Discuss how this information should be treated in the financial statements of Fangs Limited
Question 18.16
The summarised statement of financial position of Frog Limited at 31 December 20X0 is as

follows:
FROG LIMITED
AT 31 DECEMBER 20X0
C
ASSETS 10 000 000

Capital and reserves
Liabilities 6 200 000
10 000 000
On 16 February 20X1, prior to the finalising of the financial statements for publication, the
financial director was given the following file of ‘subsequent events’:
x On 12 January 20X1 a fire destroyed one of the company’s three major production plants.
x On 25 January 20X1 the employees of the company decided to go on strike. The strike
has reduced the company’s output by approximately 25%.
At 16 February 20X1 negotiations between the union and management are still taking
place and agreement has not been reached.
x On 2 February 20X1 one of the company’s customers was declared bankrupt. At

31 December 20X0 this customer owed Frog Limited C300 000 of which C30 000 was
paid in January 20X1. The customer has been in financial difficulty for most of the past
year. Liquidators have suggested that no further payments would be forthcoming.
x On 10 February 20X1 the board of directors adopted a resolution accepting the offer from
Investors Limited, an investment banker, to underwrite the issue of 1 000 000
14% preference shares of C1 each to be issued at C1,50. The proceeds of the issue are
to be used to finance the construction of an administration building at the Lost Office Park.
Required:
Discuss the effect of each of the above events on the 20X0 financial statements in terms of
the International Financial Reporting Standards.
Ignore taxation.
Question 18.17
Lemon Limited produces jam and tinned fruit. It has a 31 December year end.
Lemon Limited purchased 200 tons of long-life limes on 2 December 20X2 for C500 000, half
of which had been used in the production of marmalade by year-end.
Chapter 18 223
reporting period
All the marmalade produced from this delivery of long-life limes had been sold to Pack-a-Sack
Limited by year-end. On 10 December 20X2, a customer of Pack-a-Sack Limited suffered
serious food poisoning and alleged that it was caused by a bottle of marmalade purchased
from Pack-a-Sack Limited. This customer took Lemon Limited to court over the poisoning.
Lemon Limited is not insured against the potential losses that may result from the court case.
Due to public interest, the case went to court almost immediately. Indications during the court
proceedings held in late December 20X2 were that Lemon Limited was probably responsible
for the poisoning and would probably be found guilty: it was found that the marmalade was
poisoned because the long-life limes used in its manufacture had been contaminated. It was
not possible to reliably estimate the settlement costs at year-end.
Due to the negative publicity arising from the court case, Lemon Limited has decided not to
plead against the inevitable ‘guilty’ verdict and to willingly pay all costs, in the interests of
salvaging a positive public image.
The following additional information is relevant:
z Estimated costs: During January 20X3, Lemon Limited’s lawyers estimated that the
court would award the plaintiff C2 500 000 whereas an out-of-court settlement would
probably be C2 200 000.
z Findings of the specialists: Specialists hired by Lemon Limited in January 20X3

confirmed that 20% of the balance of the long-life limes in stock at year-end are also
contaminated and must be destroyed.
z Warnings by lawyers: Lemon Limited has been unable to keep the case out of the
media and their lawyers warned in December 20X2 that as soon as the verdict was
published in the media, more, similar cases will probably be brought against Lemon
Limited by other aggrieved customers, although it was impossible to estimate the number
of cases or their financial impact.
z Returns: Pack-a-Sack Limited had sold all of the bottles of marmalade by

31 December 20X2. By the time the financial statements were authorised for issue on
15 February 20X3, no bottles of marmalade had been returned. It seems that there is
only a remote chance that there would be any returns at this late stage.
All amounts are material but none of the issues mentioned above have caused there to be a
‘going concern’ problem.
Required:
Discuss, with reference to IAS 10 Events after the reporting period and IAS 37, Provisions,
Contingent Liabilities and Contingent Assets, how, if at all, the events should be recognised,
measured and disclosed in the financial statements of Lemon Limited for the year ended
31 December 20X2.
You should use the following headings in your discussion:
x Estimated costs
x Findings by the specialists
x The warning
x Possible returns
224 Chapter 18
GAAP: Graded Questions Employee benefits
Chapter 19
Employee benefits
Question Key issues

19.1 - Core concepts: across the entire IAS 19, excluding defined benefit plans
19.2 - Core concepts:
Part A: Core concepts across the entire IAS 19, excluding defined benefit plans
Part B: Core concepts – defined benefit plans
19.3 Ask Core concepts: across the entire IAS 19, excluding defined benefit plans
19.4 Pharmaco Short-term employee benefit: Short-term compensated absences: Obligation for leave pay:
- Vacation leave: accumulating but non-vesting
- Maternity leave
19.5 Thomas Tank Short-term employee benefit: Short-term compensated absences:
- Obligation for leave pay - accumulating but non-vesting
19.6 Head Book Employee benefit expense:
- Salary and bonuses
- Employee contributions (UIF, Pension, Medical aid),
- Employees tax
- Leave is accumulating (for one year) but non-vesting
19.7 Tiff Short-term employee benefit: Short-term compensated absences: Obligation for leave pay
- Leave is accumulating and vesting
- Leave is accumulating (for one year) but non-vesting
- Leave is non-cumulative and non-vesting
19.8 Futon Short-term employee benefit: Profit sharing: Obligation to pay bonuses
19.9 Arno Termination benefits recognition
19.10 Red Roofs Termination benefits recognition and measurement
19.11 Tigger Employee benefit expense:
- Short-term employee benefit: Short-term compensated absences
- Short-term employee benefit: Bonuses
x Chapter A (after Chapter 15) and Chapter B (after Chapter 28).
Chapter 19 225
Question 19.1
a) Define employee benefits.

b) List the four categories of employee benefits.
c) Define short-term benefits.
d) Define post-employment benefits.
e) Define other long-term benefits.
f) Define termination benefits.
g) List the two categories of post-employment benefit plans.
Required:
Question 19.2
Part A:
a) Employee benefits are defined as the exchange of consideration given by the entity for services
rendered by an employee. True or false? Justify your answer.
b) Identify the essential difference between termination benefits and all other categories of employee
benefits.
c) List the three types of long-term employee benefits and explain how they differ from short-term
employee benefits.
d) Explain the essential difference between long term benefits and other long-term benefits.
e) A retrenchment package offered to employees, payable within 3 months of year-end, meets the definition
of a short-term benefit since a short-term employee benefit is defined as an employee benefit ‘expected
to be settled wholly before twelve months after the end of the annual reporting period in which the
employees render the related service’. IAS 19.8 True or false? Justify your answer.
f) An employee is a member of a defined contribution fund to which their employer company makes
monthly contributions. The plan is administered and managed by Confucius Life Group Limited. The
employee believes that the company’s choice of using a defined contribution plan secures his current
income in the event of retirement. Is the employee’s understanding correct? Justify your answer.
g) Due to worsening economic conditions, a company has decided to terminate the services of a
group of employees. The employees will receive a lump sum payment as part of their employment
termination. The company’s accountant believes this payment would be recognised as a post-
employment benefit liability since it would be paid to him after his employment. True or false?
Justify your answer.
Required:
Part B:
a) Identify the ledger accounts that are combined to create the line-item ‘net defined benefit plan
asset/ liability’ that is presented in the statement of financial position.
b) Explain, briefly, what is meant by the asset ceiling and how it is measured.
c) Adjustments affecting the measurement of the net defined benefit plan asset/ liability balance in the
statement of financial position are recognised in profit or loss. True or false? Justify your answer.
d) Explain what is meant by remeasurement adjustments to a defined benefit plan.
226 Chapter 19
e) If a defined benefit plan is reflected as an asset in the statement of financial position, this asset
balance represents the surplus on the defined benefit plan. True or false? Justify your answer.
Required:
Question 19.3
Mr Bewildered was recently appointed as the new accountant at Ask Limited. Whilst Ask Limited’s HR
department were explaining the various policies, procedures and forms of benefits provided to its employees,
Mr Bewildered found himself becoming more and more confused over how the company is supposed to
account for all of it. Mr Bewildered is a family friend and since he knows you are currently studying financial
accounting, he has approached you for help, sending you the following email:
To: Joe Soap

From: V Bewildered
Subject: Application of IAS 19 to Ask Limited’s employee benefit structure
Hi
You may have heard that I have recently been appointed as the accountant of Ask Limited. It is all
very exciting. However, during my introduction to the company, the compensation policies were
explained to me and I suddenly realised how out of date I am with regard to my knowledge of IFRSs.
Frankly, I have no idea how these employee compensation policies would be accounted for! Please
could you help me by telling me if my understanding of the following issues is right or wrong?
I have many questions, but off the top of my head are the following thoughts I had:
a) If an employee was to die in an accident at work and in terms of a company life insurance policy a
payment is then made to his/her family (where this family member is not an employee of our company),
that payment will not be accounted for as an employee benefit expense by Ask Limited.
b) The company will be providing our employees with free medical check-ups at the company clinic
once a month due to the potentially hazardous work environment. These benefits will be
expensed as incurred and will be presented as part of the employee benefit expense.
c) Any leave earned by the employees which vests at the end of the next financial year is a long-
term employee benefit since it is settled in the next financial period.
d) All our employees receive accumulating annual leave, the equivalent of 22 working days per year.
As I understand it, because this leave is termed ‘accumulating’ leave, any leave not taken at the
end of the next financial year will have to be paid out in cash.
e) Ask Limited runs a profit-sharing scheme. The terms of the scheme require participating employees to
own a minimum number of shares in the employer company and entitle these employees to be paid a
bonus under the scheme, calculated on profit after tax. The correct method to account for the profit-
sharing scheme at year end would be:
Debit Credit
Profit share drawings (Equity) xxx
Bonuses payable (L) xxx
Suggested journal providing for the profit share
The terms of the abovementioned profit-sharing scheme, in which all the other executives will
participate, requires that in order to receive the bonus, they must remain in the employ of the
company for a further year after the end of the financial year in which the profit share is allocated
to the employee. It seems to me that the obligation to pay these profit-sharing bonuses should be
recognised and measured based on the probable number of employees who will receive them.
f) All the employees are members of a defined contribution fund to which the company will
contribute. The plan is unfunded. My understanding is that Ask Limited will be required to fund
any short-fall there may be in the fund.
Chapter 19 227
g) I was chatting to the lady in the Human Resources department and it seems that our company
has committed itself to providing one of the employees with a benefit that I know would be
classified as an ‘other long-term employee benefit’. However, I have never accounted for one of
these before. Apparently accounting for these is a nightmare – as complex as accounting for
defined benefit plans! Am I right?
h) If Ask Limited decides to terminate the services of any employee due to worsening economic
conditions, the terminated employee will receive a retrenchment package, paid as a lump sum
payment within 3 months of year-end.
However, I cannot figure out whether such a lump sum payout would be accounted for as a post-
employment benefit, since it would be paid to him after his employment, or as a short-term
employment benefit on the basis that a short-term employee benefit is defined as an employee
benefit ‘expected to be settled wholly before twelve months after the end of the annual reporting
period in which the employees render the related service’. Which one is it?
Yours sincerely,
V Bewildered
Required:
Write an email to Mr Bewildered, stating whether his understanding of how to account for the different
types of compensation is true or false, and a brief explanation as to why.
Question 19.4
Pharmaco Limited is a listed company that creates and patents ground-breaking new drugs. In order
to encourage the rapid innovation, which is key in the pharmaceuticals industry, Pharmaco provides
its researchers with a number of benefits above industry norm.
The following tables relates to employees for the year ended 30 June 20X6:
Employee Category Gross salary per year Number of employees Number of female
(including female employees
employees)
Directors C455 000 10 8
Researchers C234 000 72 26
Lab assistants C143 000 33 Note 21
Note: Of the 33 laboratory assistants, 7 assistants are expected to resign with effect from 1 July 20X6
(3 of whom are female). No other employees are expected to resign.
Employee Category Maximum leave Maximum leave allowed Leave taken in current
allowed per year (days) to carry forward (days) year earned in current
year (days)
Directors 22 17 4
Researchers 24 15 13
Lab assistants 18 13 12
Leave pay
x The company policy is that all leave is accumulating for 1 year but is non-vesting and the leave
that may be carried forward is subject to maximum limits.
x Past experience suggests that only 50% of the directors will use the past leave due to them, while
researchers and laboratory assistants still employed in the 20X7 financial year will use 90%.
Maternity leave
In order to encourage the job satisfaction and productivity of female employees, female employees
are allowed 90 days of fully paid maternity leave per annum. This leave is non-accumulating and is
unable to be paid out in cash if not taken.
228 Chapter 19
Assume a 365-day year and a 5-day working week.
Required:
Prepare all the journals that would need to be processed by Pharmaco Limited in order to account for
the information above for the year ended 30 June 20X6.
Question 19.5
Thomas Tank Limited offers luxury train tours across the country. Thomas Tank Limited employs 10
train drivers, 5 managers and 3 directors.
These luxury tours range between 5 and 14 days and thus, in order to be able to attract train drivers,
Thomas Tank Limited offers the train drivers an average salary of C307 500 per annum and 60 days
leave per year.
By contrast, managers and directors only receive 25 days and 15 days of leave per year respectively.
The salaries earned by managers and directors, however, provide that they are adequately
compensated in comparison to drivers who receive more leave days. Managers earn an average
salary of C530 000 per annum and directors an average salary of C1 250 000 per annum.
The employment contracts of all employees of Thomas Tank Limited provide that leave may be
carried forward for one period and is non-vesting. All employees are required to work 5 days per
week with 365 days in the current year.
On 31 December 20X0, the following information was available:
x Average unused days per employee at 31 December 20X0:
- Drivers: 8 days
- Managers: 6 days
- Directors: 4 days
x Average number of days per employee expected to be taken in 20X1 (i.e. the next financial year)
from the ‘unused’ days per employee at 31 December 20X0:
- Drivers: 4 days
- Managers: 2 days
- Directors: 1 day
x Number of employees expected to leave in 20X1 (i.e. the next financial year)
- Drivers: 2
- Managers: 1
- Directors: 0
You may assume that the employees who are expected to resign, will resign very early in 20X1 and
will thus not take any leave in 20X1. Therefore, the average number of days leave that will be taken
in 20X1 (referred to above) has been calculated based on only those employees who are expected to
remain employed in 20X1.
Required:
a) Determine the leave-pay liability that would need to be recognised for each category of employee.
b) Journalise the entries that would be necessary to account for paid vacation leave for the year
ended 31 December 20X3.
Question 19.6
Head Book Limited is a company involved in retailing. One of its sales representatives is called
Sheryl Sandberg.
Chapter 19 229
The following are the details of Sheryl’s annual salary package for the year ended 28 February 20X8:
C
Gross Salary 240 000
UIF contributions (contributions by employee) (6 000)
Pension Fund contributions (contributions by employee) (25 000)
Employee’s tax (43 000)
Workers Union Subscription (contributions by employee) (1 000)
Medical Aid contributions (contributions by employee) (9 000)
Salary owing to employee 156 000
x As a sales representative, Sheryl’s employment contract entitles her to a bonus of 12% of the
gross profit of all sales contracts she secured during each year. During her 5-year employment,
she has secured sales contracts of C6 500 000 (cost: C5 400 000) while the value of sales
contracts that she secured during the current year ended 28 February 20X8 is C2 200 000 (cost:
C1 900 000).
x The business matches Sheryl’s medical aid contributions on a 1:1 basis and paid C15 000 to the
pension fund for Sheryl’s benefit.
x All deductions from gross salary are paid over to the relevant body the day after the salary is incurred.
x Sheryl is entitled to the normal 15 days annual leave, which accumulates for one year only, after
which it is forfeited. Unused leave is not paid out upon resignation/ retirement/ retrenchment.
x Sheryl tells you that for the last 3 years she has been working on so many deadlines that she has
been unable to utilise all her annual leave. She gave you the following summary of her unused
leave at 28 February 20X8:
Unused leave during the year ended 28 February 20X6: 5 days
x She explained that she planned to use all the outstanding leave due to her in April 20X8.
x As expected, Sheryl took leave in April 20X8, using up the maximum amount of past leave that
was due and allowed to her.
x Sheryl also fell pregnant during the year ended 28 February 20X8. As a result, she took 60 days
maternity leave due to her in terms of the employment policies of the company.
x Her monthly salary for the year ended 28 February 20X9 remained unchanged from her salary for
the year ended 28 February 20X8.
x Her tax was assessed to be C43 000 for year ended 28 February 20X8 (the tax authorities posted
her tax assessment to the company’s address and this was duly received on 30 April 20X8).
Employee’s tax was the only tax paid by Sheryl.
x The appropriate discount rate is 12%.
x Assume 365 days a year and a 5 day working week.
Required
a) Identify the four categories of employee benefits per IAS 19 Employee benefits, explain in your
own words the meaning of each and then, by a process of elimination, identify which category/ies
of employee benefits best describe the employee benefits evident in the information presented.
b) Prepare the journal entries to account for Sheryl Sandberg’s employment in the records of the
Head Book Limited for the year ended 28 February 20X8.
Note: Process the salary journal for the year as one entry and not 12 separate monthly entries.
Do the same for the cash payment to the employee and relevant authorities.
c) Prepare the journals for the utilisation of leave as well as any salary expense (but not employer
contributions) for April 20X8. Round all amounts to the nearest currency unit.
230 Chapter 19
Question 19.7
Tiff Limited has a 31 December year end. Employees work a 5-day week and are entitled to 20 paid
working days of vacation per annum. There are 365 days in the current year ended 20X6.
Employee statistics are as follows:

x Number of employees 50 000
x Average annual salary: 20X5 C100 000
x Unused leave 31/12/20X5 10 days
x Leave taken in the year ended 31/12/20X6: 14 days
S1&S2: on average, 9 earned in 20X6, 5 earned in 20X5
S3: all earned in 20X6
x Leave expected to be taken during the year ended 31/12/20X7: 15 days
S1&S2: on average, 12 days earned in 20X7, 3 days earned in 20X6
S3: all days earned in 20X7
x No employees left or joined the company in the past 2 years.
x Salaries increased by 20% from 1/1/20X6.
x Past estimates show that management is able to correctly forecast the number of vacation days
that will be used in the following financial year.
Required:
Determine the amount of the leave pay liability at 31 December 20X6, and provide the related journal
for the year ended 31 December 20X6, assuming that:
a) Scenario 1: leave accumulates and vests indefinitely.
b) Scenario 2: leave accumulates for one year after it accrues but is non-vesting.
c) Scenario 3: leave does not accumulate and is non-vesting.
Question 19.8
Futon Limited is a company involved in the retailing of sleeper couches. Futon Limited’s staff
complement comprised of 40 sales representatives during 20X3.
x Each year the sales representatives are given a gross profit target to meet. If the sales
representatives surpass the target, 20% of the amount above the target is distributed to them as a
bonus. The only conditions are that the sales representatives must remain employed for the entire
year in which the profit was attained and remain with Futon Limited until the end of the financial
year after the year in which the profit was attained.
x The target for the year ended 31 December 20X3 was a gross profit of C1 000 000. The sales
representatives achieved a gross profit double this target.
x Employment statistics reflect that:
- all employees are required to work for Futon for at least 2 years; and
- an average of 10% of staff members leave annually and are replaced by new staff members.
Required:
a) Calculate the liability that needs to be recognised at 31 December 20X3.
b) Journalise the recognition of the liability.
c) Provide the journals entries at 31 December 20X4 to account for the payment if 5 sales staff
members actually left during 20X4, all of whom had worked for Futon Limited for at least 2 years
as at 31 December 20X3 (the 20X3 liability was considered appropriate).
Chapter 19 231
Question 19.9
Arno Limited is a small company involved in the construction industry. Although Arno Limited has not
yet developed a detailed formal plan to restructure the business, an internal management decision
was taken in early December 20X4 to begin the process of downsizing its operations.
x As a result of this decision, Arno offered retrenchment packages on 15 December 20X4 to three
of its employees (A, B and C). The offer of these retrenchment packages is legally binding on the
entity for 6 months from the date of offer, after which the offer expires.
x Shortly before the end of December, a fourth employee (D) approached management and
requested a retrenchment package.
x At Arno Limited’s financial year ended 31 December 20X4:
only one of the three employees (A) had accepted the retrenchment package, while
the remaining two employees (B and C) were still considering their options, and
the entity had agreed to retrench the fourth employee (D).
Required:
Explain whether termination benefits should be recognised for the retrenchment packages.
Question 19.10
Red Roofs Limited is a roof repair company in KZN. The company has a policy of paying employees
certain standard packages on retirement date and of paying a slightly smaller package on resignation
date. Packages are also payable in the event of retrenchment. The current financial year ends on
31 December 20X6.
The ongoing drought, expected to continue into 20X7, means that roof leaks are less likely to be
identified and home-owners are less likely to repair their roofs. The company has been struggling and,
as a result, the company made a decision to retrench 3 employees. The company has outstanding
projects which will be completed 2 months after the current year-end and the expertise of the current
employees will be necessary to complete these projects. Should an employee elect to leave on
31 December 20X6, they will receive a retrenchment package of C300 000. Should the employee
elect to leave on 28 February 20X7, they will receive a retrenchment package of C350 000.
During 20X6, one employee resigned. The package paid to the employee who resigned was
C100 000. Of the 3 retrenched employees: 1 agreed to leave on 31 December 20X6 and 2 agreed to
leave on 28 February 20X7.
Required:
a) Explain whether the following packages qualify for recognition as termination benefits:
i) Packages payable on retirement date; and
ii) Packages payable on resignation date.
b) Briefly explain what type of employee benefit the four retrenchment packages represent and
briefly explain, with calculations, the measurement thereof at 31 December 20X6.
Question 19.11
Tigger Limited is a company that is involved in the tourism industry. Tigger Limited specialises in overnight
game drives. The directors of Tigger Limited believe that the most important asset in any company is the
employees of the company. As such they offer a number of benefits to their employees.
232 Chapter 19
Vacation leave:
x All staff members are entitled to 20 days of paid leave annually.
x This leave can accumulate indefinitely, but it is forfeited when an employee leaves the company.
The leave may never be converted to cash.
x In total, there are a total of 320 leave days outstanding at 31 December 20X6, which were earned
in the current year.
x However, 10 staff members will be leaving on 2 January 20X7. Their leave details are as follows:
- On 31 December 20X5: a total of 20 days of leave was due to them.
- On 31 December 20X6: a total of 40 days of leave due to them.
Bonuses:
x Every year Tigger Limited pays out 10% of their profit to its employees. The profit is shared
amongst the number of employees employed at year-end.
x The only condition is the employee had to be employed at Tigger Limited for the entire year. If an
employee is not employed for the entire year, he forfeits his share of the profit. The forfeited profit
is not distributed amongst the other employees.
x Employees are very loyal to the company with employees spending a minimum of 5 years with
the company.
x On 26 July 20X6, Tigger Limited hired 5 new employees. No employees left during the current year.
x The profit for the year ended 31 December 20X6 was C5 000 000.
General:
x At year end Tigger Limited had a total staff complement of 80 employees
x The average annual salary is C250 000.
x There are 250 working days in a year.
Required:
Calculate the amount that will be charged to staff costs (employee benefit expense) in the statement
of comprehensive income.
Chapter 19 233
GAAP: Graded Questions Foreign currency transactions
Chapter 20
Foreign currency transactions
Question Key issues

20.2 JKB Breweries Differences between functional currency and presentation currency
20.3 Aramis Import (FOB):
- Property, plant and equipment
- Settlement: before year-end
20.4 Spyware Import (DAT):
- Inventory
- Settlement: after year-end
20.5 Ghost Export (CIF):
- Inventory
- Receipt of settlement in instalments: before and after year end
20.6 Champagne Foreign loan liability:
- Accrual of interest
- Settlement: partial repayment of capital and payment of interest
20.7 Buffet Foreign loan asset:
- Accrual of interest
- Settlement: partial receipt of loan capital
20.8 Candy Mountain Non-monetary items:
- Item held in foreign currency
- Impairment
Please note: Further questions on this topic can be found in chapter B: Integrated questions 1 - 28
Chapter B is one of the two chapters that include ‘Integrated Questions’ (questions that combine
different IFRSs).
234 Chapter 20
Question 20.1
Part A:
a) Define the term ‘functional currency’.

b) Define the term ‘foreign currency’.
c) Define the term ‘presentation currency’.
d) Define the term ‘transaction date’.
e) Define the term ‘foreign currency transaction’.
f) Define the term ‘exchange rate’.
g) Define the term ‘spot exchange rate’.
h) Define the term ‘closing rate’.
i) Define the term ‘exchange difference’.
Required:
Provide each of the definitions above.
Part B:
j) Fill in the missing word/s:

Assume the following information:
x We bought an asset from a foreign supplier.
x The invoiced price was denominated in the foreign currency.
x The purchase date was 5 March X1.
x We paid the foreign supplier in full on 10 June 20X1.
x Our financial year end is 30 April.
The imported asset will be translated into local currency __________ (once/ twice/
thrice) and the related liability will be translated into local currency __________ (once/
twice/ thrice).
k) Explain whether the date of recognition of imported goods, purchased on a ‘carriage,
insurance and freight’ basis (CIF), will differ from the date of recognition thereof had this
purchase been made on a ‘free on board’ basis (FOB).
l) Define, and give an example of the term ‘monetary item’.
m) An entity receives a foreign denominated loan from a foreign bank. Briefly explain the
accounting treatment of the following aspects of the loan:
x loan instalments paid,
x interest payable on the loan, and
x the loan liability balance.
n) Indicate whether the following statement is true or false and give a brief explanation:
‘An entity does not freely choose its functional currency; however, it may choose any
currency in which to present its financial statements.’
o) Briefly explain the impact of a fluctuating exchange rate on the subsequent measurement
of the following:
x an imported non-monetary item, and
x a foreign currency denominated non-monetary item.
Required:
Chapter 20 235
Question 20.2
JKB Breweries (“JKB”) is a company that manufactures and supplies beers to South Africa.
The brewery is situated in Newlands, South Africa, since Newlands provides excellent access
to water, water being one of the most important ingredients in beer. The barley used in the
production of beer is also produced by local farmers.
In recent years JKB experienced excellent growth, and during the 20X6 financial year the
board of directors decided to list JKB on the London Stock Exchange.
The regulators of the London Stock Exchange require financial statements to be presented in
Pounds (£). Currently, JKB presents their financial statements in Rands (South African Rands).
The current financial director has not had any experience with foreign currency translations
and is not at all familiar with the requirements of IAS 21 The effects of changes in foreign
exchange rates. He is unsure how to go about presenting the financial statements in order to
comply with the regulators. He has also requested your help in understanding the terms used
in IAS 21 such as ‘functional currency’ and ‘presentation currency’.
Required:
Draft a letter to the director in which you explain:
x the meaning of the terms ‘functional currency’ and ‘presentation currency’, as well as
x how to go about presenting the financial statements such that they comply with the
regulations of the London Stock Exchange.
Question 20.3
Aramis Limited, a South African company that manufactures perfumes, bought 16 new
fragrance-testing machines for use in its laboratory in Johannesburg. The machines were
imported from Estelle Lord Limited, a company based in France that produces equipment for
companies in the perfume industry.
Details relating to the purchase of these machines are as follows:

x The machines were ordered on 25 April 20X9.
x The machines were shipped on 15 June 20X9.
x The machines arrived in South Africa on 1 September 20X9.
x The total invoice price was €30 000, invoiced on a free on board basis (FOB).
x Aramis Limited paid the French supplier on 30 September 20X9.
The machines needed to be installed before they could be put into operation:
x Installation was completed by Inandout Limited on 25 September 20X9.
x Inandout Limited furnished the company with an invoice for R60 000.
x The machines were available for use on 1 October 20X9 but due to labour unrest, these
were only brought into use on 31 October 20X9.
The machines have a residual value of R50 000 and a useful life of 8 years.
Aramis Limited's functional and presentation currency is the Rand (R).

Spot Rate
Date SA Rand (R): Euro (€)
25 April 20X9 13,50:1
15 June 20X9 13,75:1
01 September 20X9 13,80:1
31 October 20X9 14,40:1
236 Chapter 20
Required:
Show all journals in the books of Aramis Limited for the year ended 31 December 20X9.
Ignore tax.
Question 20.4
Spyware Limited is a South African company involved in private investigation and the supply
of related products. Spyware Limited imported a large batch of advanced monitoring devices
from an American company for a total invoice price of USD 100 000.
The advanced monitoring devices were ordered from the American company on
25 March 20X5, were shipped on 15 July 20X5 and arrived and were unloaded in South
Africa on 25 July 20X5. The devices were shipped on a delivery at terminal basis (DAT).
The advanced monitoring devices are to be sold via one of its retail outlets. On
31 December 20X5, 80% of the advanced monitoring devices had been sold (at a mark-up of 20%
on cost). Spyware Limited paid the American company on 2 February 20X6. Spyware Limited has
a 31 December year end.
Spot Rate
Date SA Rand: US Dollars
25 March 20X5 7,00: 1
15 July 20X5 7,20: 1
25 July 20X5 7,60: 1
31 December 20X5 7,10: 1
2 February 20X6 6,90: 1
Required:
Show all related journal entries in the books of Spyware Limited for its years ended
31 December 20X5 and 20X6.
Ignore tax.
Question 20.5
Ghost Limited is an American company that sells sheets. Ghost Limited sold a batch of
sheets to a British company for GBP 50 000.
The order from the British company was received on 25 March 20X5, the sheets were loaded
on 15 July 20X5 and were unloaded in Great Britain on 25 July 20X5. The sheets were
loaded on a 'customs, insurance and freight' basis (CIF).
The sheets (which Ghost Limited had in stock at the time of the order) cost the American
company USD 20 000.
Ghost Limited's functional and presentation currency is the dollar ($). Related exchange rates
are as follows:
Spot Rate
Date US Dollars: GB Pounds
25 March 20X5 2,00: 1
15 July 20X5 2,20: 1
25 July 20X5 2,50: 1
31 October 20X5 2,65: 1
31 December 20X5 2,40: 1
31 January 20X6 2,90: 1
Chapter 20 237
The British company paid Ghost Limited as follows:

z GBP 25 000 on 31 October 20X5
z GBP 25 000 on 31 January 20X6
Required:
Show all related journal entries in the books of Ghost Limited for its years ended
Ignore tax.
Question 20.6
Champagne Limited is a bottling company operating in Spain. Champagne Limited's

functional currency is the Euro (€).
On 10 December 20X6, the directors were extremely excited about news of a wine-growing
industry in various regions in Thailand. After many fact-finding missions to Thailand and
numerous meetings with stakeholders in the industry, Champagne Limited approached
various banks in Thailand for a loan to fund the construction of a bottling plant that could
service this new wine-growing industry. The currency in Thailand is the Thai Baht (THB).
Thai Bank offered the lowest rates out of all the banks approached, agreeing to charge an
interest rate of 8%, albeit on a lower loan amount than Champagne had originally hoped for.
The following details relate to the loan agreement signed by Champagne:

x The loan principal of THB48 000 000 was received by Champagne on 1 March 20X7, and
is repayable over 50 years
x Interest is calculated at 8% on the outstanding loan balance
x Instalments on the loan are payable annually in arrears, on 28 February. The repayments
are calculated to include THB 960 000 in part-repayment of principal plus the interest
accrued on the preceding 12 months.
The following exchange rates may be needed:

Exchange Rate
Date Euros 1: Baht
01 March 20X7 1: 40,0
31 December 20X7 1: 30,0
28 February 20X8 1: 37,5
31 December 20X8 1: 39,0
Average for 1 March 20X7 to 31 December 20X7 1: 35,0
Average for 1 January 20X8 to 28 February 20X8 1: 30
Average for 1 March 20X8 to 31 December 20X8 1: 36,0
Required:
Prepare the necessary journals entries in Champagne Limited's general journal for its year
Ignore tax.
Question 20.7
On 1 January 20X8, Buffet Limited (a South African company) granted a loan of C$20 000 to
Nimrod Limited, a company operating in Canada. This loan is repayable over 8 years, with
annual payments in arrears of C$3 000 each (which includes both capital and interest).
Interest is calculated at an effective rate of 4,24% p.a. and is compounded annually.
238 Chapter 20
The following spot and average exchange rates were obtained from a financial institution:
Date or period R1: C$

1 January 20X8 0,20
30 June 20X8 0,17
31 December 20X8 0,22
30 June 20X9 0,24
Average 1/1/20X8 to 30/06/20X8 0,19
Average 1/7/20X8 to 31/12/20X8 0,21
Average 1/1/20X9 to 30/06/20X9 0,22
Required:
Prepare journal entries to record the above information in the books of Buffet Limited for the
years ended 30 June 20X8 and 30 June 20X9.
Ignore tax.
Question 20.8
Charlie is a director of Candy Mountain Limited, incorporated in a country called Localland,

where the currency is LC.
x The company purchased a machine, called the Candy Mountain machine, many years
ago from a foreign country called Foreignland, where the currency is FC. This machine:
was purchased for FC70 000.
is based permanently in Foreignland.
x Although the machine is situated in Foreignland, the operations of the business are managed by
Charlie from Localland. Charlie uses the Localland currency, LC, when determining the prices at
which all Candy Mountain products are sold and when paying the staff employed by Candy
Mountain in Foreignland.
x According to the 31 December 20X5 trial balance of the foreign Candy Mountain
operation, the accumulated depreciation on this machine is FC20 000.
x At 31 December 20X5, one of the Candy Mountain employees noticed that the Candy
Mountain machine was water-damaged after a tropical storm, indicating a possible
impairment.
x Experts were rushed in to determine the extent of the storm damage. The following year-
end values were determined:
fair value less costs of disposal: FC48 000; and
value in use: FC52 000.
x The exchange rate on the date that Charlie originally purchased the Candy Mountain
machine was LC13 for each FC1. At 31 December 20X5, the current financial year-end,
the exchange rate was LC11 for each FC1.
Required:
Calculate the amount by which the Candy Mountain machine needs to be impaired, if at all.
Ignore tax.
Chapter 20 239
GAAP: Graded Questions Financial instruments – general principles
Chapter 21
Financial instruments – general principles
Question Key issues
21.1 Short questions Core questions – financial assets, financial liabilities and other aspects
21.2 Jabulani Classification and measurement of various financial assets –

discussion
21.3 Spirit Financial assets: classification and measurement

Amortised cost (AC)
FV through OCI
21.4 Biscuit/Milk Compulsory redeemable debentures, as:

Part A: Financial liabilities (perspective of issuer)
Part B: Financial assets (perspective investor)
21.5 Vuyokazi Financial assets (various): classification and measurement
21.6 Flighty Financial assets (various): classification and measurement, including

expected credit losses
21.7 Hunter Financial assets (government gilts): at amortised cost

Part A: Ignoring expected credit losses
Part B: With expected credit losses
21.8 Opkai Financial assets – journals

Part A: Reclassification
Part B: Impairment – expected credit losses
21.9 Opera Financial assets (compulsory redeemable preference shares):

at amortised cost
at FV through PL
Discussion, Journals and Disclosure
21.10 Games Financial assets – at amortised cost, FV through profit or loss and FV
through other comprehensive income -journals
Day-one gain or loss
21.11 Football/Boot/ Measurement of expected credit losses – discussion and journals

Coach Part A: 12-month credit losses
Part B: Significant increase in credit risk
Part C: Credit-impaired financial asset
21.12 Mpofana Recognition of expected credit losses – discussion and journals
21.13 Rose Financial asset with significant increase in credit risk – journals
Continued on the next page ...
240 Chapter 21
Question continued ... Key issues
21.14 Sulky Financial asset: expected credit losses (significant increase in

credit risk, becomes credit-impaired and change in lifetime
expected credit losses)
21.15 Sunny Financial asset with significant increase in credit risk and partial
recovery journals
21.16 Barrie Financial liabilities: classification:

at amortised cost
at FV through PL
21.17 Algae Financial liabilities convertible instruments – discussion and journal

entries
21.18 Pickle Compound financial instruments:

convertible or redeemable preference shares (optional)
convertible preference shares (compulsory)
21.19 Advantage Financial liabilities: classified at FVPL
21.20 Beverage Financial liabilities at amortised cost – journals

Compound financial instruments – discussion
Financial liabilities at FVPL – journals
21.21 Tree Capital Interest rate swap – journals
21.22 Rooney Reclassification of financial assets

Part A - from amortised cost to FVPL - journals
Part B - from amortised cost to FVOCI – journals
Expected credit losses
21.23 Panyaza Reclassification of financial assets – journals

- From FV through PL to amortised cost
- From FV through PL to FV through OCI
Expected credit losses
21.24 Blues Financial risks and mitigation of risks – discussion
Chapter 21 241
Question 21.1
Part A: Financial assets: basic
a) Prepaid expenses are financial assets.

b) Investments in convertible debentures will be classified as subsequently measured at
amortised cost, if the business model of the entity is to hold convertible debentures until
maturity, and the cash flows of the debentures are solely payments of the principal and
interest on the principal.
c) Financial assets are always initially measured at the acquisition price.
d) Investments in equity instruments and investments in debt instruments that are classified
as ‘fair value through other comprehensive income’ are accounted for in exactly the same
way as each other.
e) An entity has several ‘lease receivables’, all of which have been accounted for in terms of
IFRS 16 Leases. Since the entity has accounted for these in terms of IFRS 16 Leases, it
means that IFRS 9 Financial instruments will have no impact on them.
Required:
Indicate whether the above statements are true or false. If you believe the statement to be
false, provide a brief explanation to support your answer.
Part B: Financial liabilities: basic
a) The requirement to settle an obligation by the issue of a fixed number of an entity’s own
equity instruments results in the recognition of a financial liability.
b) Transaction costs are expensed in the case of financial liabilities classified as
subsequently measured at fair value through profit or loss.
c) Foreign exchange gains and losses on financial liabilities are always recognised in profit
or loss.
Required:
Part C: Financial assets: reclassification

a) A change in intention is sufficient to result in the reclassification of a financial asset.
b) An entity is able to reclassify its investments in ordinary shares from FVOCI-equity to
FVPL two years after the acquisition date.
c) The reclassification of a financial asset is accounted for from the date the entity changes
its business model for managing the financial asset.
Required:
Part D: Financial assets: impairment.

d) When applying the impairment requirements of IFRS 9, the first step is to identify whether
a financial asset may be impaired. If there are indications of impairment, we must process
an impairment loss.
242 Chapter 21
e) Expected credit losses are recognised for all financial assets irrespective of how they are
classified.
f) When an considers whether to impair a financial asset, an entity only evaluates events
that have occurred during the current financial year.
g) Trade receivables are always impaired using the simplified approach.
Required:
Question 21.2
Jabulani Limited is an investment entity with a diversified portfolio of investments. The

company’s financial director has provided you with the following list of its investments
acquired during the year and the costs of acquiring each:
x unlisted shares: C2 640 000, plus a further C33 000 in transaction costs
x listed shares: C2 137 520, including transaction fees of C25 520
x government bonds: C1 160 500, after transaction fees of C16 500
x convertible debentures: C4 928 000, plus it incurred further transaction fees of C194 920
x subsidiary company: C16 830 000 excluding the further transaction fees of C1 786 400
x corporate bonds: C6 877 200 plus transaction fees of C200 860.
The listed shares are traded actively, the government bonds are held to maturity and the
corporate bonds are held for trading purposes.
Required:
Discuss, in detail, the classification and initial measurement of the investments Jabulani made
in the scenario above.
Ignore expected credit losses.
Question 21.3
Spirit Limited is a manufacturer of electrical appliances. Due to a slow-down in the economy,

Spirit does not have viable business opportunities to invest in. Excess cash is invested in two
different portfolios consisting of government bonds and equity instruments respectively.
Portfolio 1: Government bonds

This portfolio is held to earn contractual cash flows where the contractual cash flows comprise
a return of the principal amount and interest on the principal.
Purchase price on acquisition date (1 January 20X3) 780 000
Transaction costs (1 January 20X3) 60 000
Maturity date 31/12/20X7
Coupon payment (payable in arrears on 31 December annually) 45 000
Redemption amount 900 000
All related cash flows took place on due date.
Portfolio 2: Equity Instruments

The second portfolio consists of investments in equity instruments and is held to collect
dividend income. The investments do not result in control or significant influence.
Chapter 21 243
x Management would prefer to disclose the movements in fair value in other comprehensive
income since these investments are not indicative of the performance of the entity.
x At the beginning of the financial year, 1 January 20X7 the investments had a collective
fair value of C 1 200 000 and by 31 December 20X7 it had risen to C 1 320 000.
x Dividends declared and received during the current financial year amounted to C144 000.
x No investments were sold in the current year.
x There is no evidence of an accounting mismatch arising due to either portfolio.
Required:
a) Discuss fully how management should classify and measure each of the two investment
portfolios in terms of IFRS 9 Financial instruments.
b) Provide the journals to account for both portfolios for the year ended 31 December 20X7.
Question 21.4
Part A:
On 2 January 20X4, Biscuit Limited issued 20 000 debentures, the details of which are as follows:
Face value C1 000
Discount on face value C200
Years in issue 4
Premium on compulsory redemption 10%
Coupon rate (per annum, in arrears) 15%
Effective interest rate 25.23262%
These debentures were classified at amortised cost.

Biscuit has a 31 December financial year-end.
Required
Prepare journals for Biscuit to record the financial instrument over its four-year life.
Part B:
Assuming the same information from Part A above.
Milk Limited, an unrelated third party, acquired 80% of the debentures issued by Biscuit on
2 January 20X4 for the discounted price. Transaction costs of C32 000 were incurred and
paid by Milk. As Milk’s intention is to collect contractual cash flows, the debentures have been
classified at amortised cost.
On acquisition, the lifetime expected credit losses on the debentures were C17 000 and the
12-month expected credit losses were C5 000 on 2 January 20X4.
Milk did not consider the investment to be credit-impaired on acquisition date. The total
expected credit losses at each subsequent reporting date were as follows:
Date Lifetime expected credit losses 12-month expected credit losses
31 December 20X4 C19 000 C6 000
31 December 20X5 C16 000 C4 000
31 December 20X6 C18 000 C5 500
In all years, Milk assessed that the credit risk was low, and did not significantly increase.
244 Chapter 21
Required
Prepare the journal entries to account for the debentures in the financial statements of Milk
Limited over their four-year life
Ignore tax
Question 21.5
Vuyokazi Limited is an investment house. The following is a list of some of their investments:
Ordinary shares:
x The entity holds a portfolio of listed and unlisted ordinary shares.
x Listed shares are actively traded by Vuyokazi’s Treasury department to benefit from fair
value gains (i.e. held for speculative purposes). The current portfolio was acquired at a
fair value of C1 248 000 and transaction costs of C15 080 were incurred on acquisition.
x Unlisted shares are held in private companies, which the board of directors have
invested in to benefit from dividends and long-term capital appreciation on the shares.
The current portfolio was acquired at a fair value of C1 560 000 and transaction costs of
C19 500 were incurred on acquisition.
x Additionally, there is an investment of C9 945 000 (fair value on acquisition) held in a subsidiary
company on which transaction costs of C1 055 600 were incurred on acquisition.
Preference shares:
The entity holds convertible preference shares acquired for a purchase price of C2 912 000
and on which transaction costs of C115 180 were incurred.
Government bonds:
The entity holds 10-year government bonds acquired at a fair value of C676 000 and on
which transactions costs of C9 750 were incurred. These bonds are to be held to maturity.
Corporate bonds:
The entity holds corporate bonds which were acquired for C4 064 000. Transaction costs of
C118 960 were incurred on acquisition. These bonds are held to collect contractual cash
flows, and to sell the asset.
Required:
Prepare a memorandum to the board of directors of Vuyokazi Limited outlining the
classification and initial measurement of the various investments.
Question 21.6
Flighty Limited entered into the following transactions during the year ended 30 June 20X9:
Transaction Fair value

Investments date on transaction
date
Purchase of ordinary shares in Tiny Limited Note 1 01/01/20X9 C240 000

Fair value of ordinary shares at year-end 30/06/20X9 C270 000
Issue of 10% redeemable preference shares at face value. Non- 31/12/20X8 C1 200 000
discretionary dividends are payable annually in arrears. Note 2
Chapter 21 245
Transaction Fair value

Investment continued… date on transaction
date
Purchase of debentures redeemable in 5 years (acquired at a 01/09/20X8 C205 800

discount of 2% off the face value of C210 000). Note 3
Purchase of 100 crude oil futures: Margin deposit paid. 01/05/20X9 C88 000
Oil will be purchased at an index level of 2 250 on
31 August 20X9. Note 4
Purchase of 22 SAFEX call options: Margin deposit paid. Note 5 01/02/20X9 C33 000
Note 1: Ordinary shares acquired

x Shares in Tiny Limited are held as a long-term investment. Transaction costs of C2 400 were
incurred on acquisition.
x The company has elected not to present fair value changes through other comprehensive income.
Note 2: Preference shares issued

x The preference shares are redeemable at the option of Flighty Limited. However, if the
share price falls lower than C22, the preference shares become redeemable immediately.
x Flighty’s share price has never fallen below C26.
Note 3: Debentures acquired

x The debentures are held to collect contractual cash flows.
x Debentures will be redeemed at a premium of 4%.
x Coupon rate of 11% p.a. is payable bi-annually in arrears on 28 February and 31 August.
x The effective interest rate is 12,1502% p.a.
x The 12-month expected credit loss on purchase date was C500. On 30 June 20X9, the
12-month expected credit loss had increased to C650.
Note 4: Crude oil futures

x Gains or losses are directly transferred to the company’s bank account on a daily basis.
x The index level increased to 2 430 by 30 June 20X9.
x Futures are traded in multiples of 10.
Note 5: SAFEX call options

x These call options allow the company to purchase the index at 19 800 points on
30 June 20X9.
x The option was exercised on maturity.
x The index level was 20 020 on exercise date.
Required:
Prepare all necessary journal entries to record the above transactions in the books of Flighty
Limited for the financial year ended 30 June 20X9.
Ignore tax.
Question 21.7
Part A
On 1 January 20X9, Hunter Limited purchased government gilts for C270 000.
x The face value is C300 000 and the coupon interest is 8% p.a., payable bi-annually.
246 Chapter 21
x The gilts are redeemable at face value in 3 years.

x The effective interest rate is 6,0359% bi-annually or 12,0718% per annum.
x The company had the intention to hold the gilts to collect contractual cash flows and the
return constituted capital and interest, but due to unexpected cash flow requirements, gilts
with a face value of C180 000 were sold for C170 000 on 1 July 20X9. A market-related
interest rate on the date of sale was 10,6% per annum.
x All related cash flows took place on due date.
Required:
Prepare journal entries to record the government gilts in the accounting records for the year
Ignore expected credit losses
Ignore tax
Part B
Use the same information as above, but now consider the following:
x The government gilts were not credit-impaired on purchase.
x On purchase, the 12-month expected credit losses were C22 000. This was unchanged at
year-end, before considering the sale of 60% of the gilts.
x Credit risk of the government gilts has not increased significantly since initial recognition.
Required:
Prepare journal entries to record the government gilts in the accounting records for the year
Ignore tax.
Question 21.8
Part A
Okapi Limited decided to invest in 1 000 listed bonds issued by Wagon Limited. The bonds
cost Okapi C540 each (deemed value C540) on 1 January 20X1. These bonds will be
redeemed on 31 December 20X3 at their deemed value. The bonds pay interest at 11% on
face value, these interest payments are receivable on 31 December each year. All related
cash flows took place on due date.
Okapi traded these bonds frequently for short-term gains. The bonds were initially designated
at fair value through profit and loss.
The relevant fair values were (the quoted market values approximate the fair values):
Date Fair value per bond (C)
31 December 20X1 520

During a meeting in September 20X1, management redesigned their business model on all
listed bonds held. This was done to better match the maturity of invested bonds and issued
debentures. Management thus decided to hold these bonds to maturity in order to earn the
contractual cash flows, comprising both the return of the principal and interest. This change
in business model resulted in the bonds being reclassified to amortised cost.
Chapter 21 247
Required:
Provide all journal entries in Okapi’s accounts to appropriately account for the bonds and the
subsequent reclassification in accordance with IFRS 9 Financial Instruments.
Ignore taxation.
Part B
Assume the same information in Part A, except that it was always management’s intention to
hold the bonds until maturity and collect the contractual cash flows. Okapi estimates the
following with regards to the expected credit losses:
Date of estimation Probability of default Probability of default Percentage of gross

over over carrying amount lost
12 months lifetime
1 January 20X1 0.5% 0.75% 20%
31 December 20X1 0.6% 0.78% 20%
31 December 20X2 0.65% 0.82% 20%
At each reporting date, the management of Okapi assessed the credit risk to be low, with no
significant increases in the credit risk.
Management’s intentions regarding the investment in the bonds did not change for the entire
investment period.
Required:
Provide the journal entries in Okapi’s accounts to appropriately account for the bonds in
accordance with IFRS 9 Financial instruments.
Ignore taxation
Question 21.9
On 1 January 20X4, Opera Limited purchased the entire issue of 440 000 redeemable
preference shares, issued by Piano Limited.
x The shares offer fixed non-discretionary preference dividends at 10% p.a. on the issue
price of C22 each.
x Dividends are payable annually on 31 December. Due to administrative issues, Opera
only received the dividend on 5 January each year, apart from the final dividend, which
was paid with the capital amount on 31 December 20X8.
x Redemption at C26.40 per share (i.e. at a premium of C4,40 per share) is compulsory
and is scheduled for 31 December 20X8.
x The effective interest rate is 13,081314%
x The ex-dividend market values of the preference shares were as follows:
Date Market price (ex-div)

C
31 December 20X4 26.40
248 Chapter 21
Required:
a) Discuss the various classifications that Opera Limited could use when accounting for its
financial asset (i.e. its investment in Piano Limited’s preference shares) and the effect on
the measurement thereof.
b) Prepare all related journal entries in Opera Limited’s general journal for the years ended
31 December 20X4, 20X5, 20X6 and 20X7, assuming that Opera Limited considers its
investment to be:
i) designated as fair value through profit or loss;
ii) amortised cost.
c) Prepare Opera Limited's statement of comprehensive income for the year ended
31 December 20X7 in accordance with International Financial Reporting Standards
assuming that Opera Limited:
x earned other profit in each year (i.e. before considering any income related to the
preference shares) of C440 000; and
x designated the investment at fair value through profit or loss.
Ignore the effect of expected credit losses.
Ignore tax.
Question 21.10
Games Limited purchased the following instruments on 2 January 20X7:
Black Jack Limited Poker (Pty) Limited Roulette Limited

Type of instrument 10% Bonds Ordinary shares Ordinary shares
Purchase price C40 per bond C37.50 Note 1 C75
Quantity 15 000 bonds 6 000 ordinary shares 20 000 ordinary shares
Fair value (02/01/20X7) C46 per bond C33 per share (1) C77.50 per share
Fair value (31/12/20X7) C50.50 per bond C40 per share C84 per share
Brokerage fees (settled) - C1 per share C1 750
Interest/ dividends received - Note 2 - Note 3 C1 per share Note 4
Classification Fair value through P/L Fair value through P/L Fair value through OCI
Level on fair value hierarchy Level 1 (listed bonds) Level 3 (unlisted shares) Level 1 (listed shares)
Note 1. The investment in Poker Limited’s ordinary shares was made at C37,50 per share despite
a lower fair value of C33 per share. This is because the fair value of C33, determined by a
consultancy, did not reflect the synergy that this investment was expected to generate.
The fair value is determined using a discounted cash flow analysis.
Note 2. Interest on the bonds was received on due date, 31 December.
Note 3. Poker did not declare any dividends.
Note 4. Roulette declared dividends of C1 per share on 20 December 20X7 and these were
received on 30 December 20X7.
Required:
Provide all the necessary journal entries to account for the above instruments for the year
Question 21.11
Football Limited is a financier with a 31 December financial year-end. All transaction fees that
were incurred on each new approved loan were settled immediately.
Chapter 21 249
Part A:
Football Limited provided a loan of C6 000 000 to Stadium Limited on 2 January 20X1. The
repayment terms stipulated that annual arrear interest payments of 12% will be charged until
the repayment date of 31 December 20X5. Transactions fees of C57 200 were incurred to
settle the deal.
On 2 January 20X1, the 12-month and lifetime expected credit losses were 3.6% and 20%,
respectively, calculated on the original loan amount provided. The assessment of credit risk at
each reporting date thereafter suggested that no adjustment to the loss allowance was
required. Stadium Limited has never defaulted on its loans.
Stadium made all contractual payments to Football on due date.
Required:
a) Discuss how Football Limited should measure the expected credit losses for this loan for
the financial period ended 31 December 20X1.
b) Prepare the journal entries that would be processed by Football Limited for the years
ended 31 December 20X1, 20X2 and 20X3.
Part B:
Football Limited issued a loan to Boots Limited of C1 440 000 on 2 January 20X1.
x Redemption date (of the principal) was set at 31 December 20X5.
x The loan contract required interest payments of 15% annually in arrears.
x Transaction fees to conclude the contract were C10 400.
On 2 January 20X1, the 12-month and lifetime expected credit losses were 3,5% and 15% of
the gross carrying amount of the loan provided respectively. There was no objective evidence
that Boots Limited was credit-impaired on date of origination of the loan.
There was no change in the credit risk at 31 December 20X1 and 31 December 20X2 (i.e. the
12-month expected credit loss and lifetime expected credit loss were still assessed at 3,5%
and 12%, respectively).
During the financial period ended 31 December 20X3, Boots Limited started experiencing
economic hardships and, as a result, it notified Football Limited that it would not be able to
repay the loan in full on 31 December 20X5.
x The terms of the loan were re-negotiated and Boots Limited agreed to repay the loan on
31 December 20X7 (i.e. 2 years later than originally expected).
x The interest rate was amended to 11% per annum.
x These renegotiated terms were concluded in 20X3 and became effective from 1 January 20X4.
x The directors of Football Limited concluded that this amendment to the loan terms
indicated a significant increase in credit risk, but that the loan was not yet considered to
be credit-impaired.
Despite Boots cash flow problems, all cash flows per the original contract were received on
due date in 20X1, 20X1 and 20X3.
Required:
a) Discuss how Football Limited should measure the expected credit losses relating to the
loan made to Boots Limited for the financial period ended 31 December 20X1.
ended 31 December 20X1, 20X2 and 20X3
250 Chapter 21
Part C:
Football Limited granted a loan of C2 000 000, on 2 January 20X1.

x This loan was granted to a high-risk client, Coach Limited (i.e. this client was considered
to be credit-impaired on inception of the loan contract).
x The loan was set to be repaid on 31 December 20X5.
x The interest rate was set at a high 22% per annum due to the high-risk involved in the
transaction.
x Transaction fees of C18 400 were incurred to conclude the arrangement.
On 2 January 20X1, the lifetime credit shortfall was expected to be a single default of
C900 000 on 31 December 20X5. The assessment of Coach’s credit risk on initial recognition
of the loan remained unchanged at each subsequent reporting date.
All contractual cash flows were received on due date (31 December).
Required:
a) Discuss how Football Limited should measure the expected credit losses relating to the
loan to Coach Limited for the financial period ended 31 December 20X1.
ended 31 December 20X1, 20X2 and 20X3.
Question 21.12
Mpofana Limited invested in four financial assets on 1 January 20X1, details of which are
presented in the table below. The accountant, Alan, is unsure of how to account for these
investments in terms of IFRS 9 and has thus collated all the information he has at his disposal.
Alan is aware that IFRS 9 also requires the recognition of expected credit losses on acquisition but
is not sure whether this applies to all investments or only some. As a result, he has calculated the
expected credit losses as at 31 December 20X1 for each of the assets, with the exception of
ordinary shares, which he was not sure how to deal with at all (see below).
Purchase 12-month expected Lifetime expected

Investment type costs credit losses credit losses
Investment in unlisted non-redeemable C520 000 C3 196 C8 900
preference shares
Investment in redeemable preference shares C350 000 C11 120 C23 250
Investment in government bonds C2 240 000 C68 000 C196 000
All purchase costs were considered to reflect fair values at the date of acquisition. A
transaction cost of a further 1% was incurred on each of the purchase prices reflected in the
table above. All the transaction costs were paid in cash.
x There is no accounting mismatch arising from the investments and none of the
investments experienced a significant increase in credit risk since initial recognition.
x The non-redeemable preference shares pay dividends at 10% per annum (based on
the purchase price), considered to be a market-related return. The company has no
intention to trade these shares. The estimated 12-month expected credit losses on date of
initial recognition was C3 000. All dividends were received on due date (31 December).
x The redeemable preference shares pay non-discretionary dividends at 15% per annum
(based on the purchase price), considered to be a market-related return. The company
intends to hold these shares until maturity when the principal sum will be returned. The
estimated 12-month expected credit losses on date of initial recognition was C10 000. All
dividends were received on due date (31 December).
Chapter 21 251
x The government bonds earn interest at 10% per annum (based on the purchase price),
considered to be a mark-related return and are held purely with the intention of trading.
The estimated 12-month expected credit losses on date of initial recognition was
C60 000. Interest earned on these bonds is received on 31 December.
x The investment in ordinary shares is held for capital appreciation.
The fair values of each of the investments at year-end, 31 December 20X1, have been
measured as follows:
C
Investment in unlisted non-redeemable preference shares 560 000
Investment in redeemable preference shares 360 000
Investment in government bonds 2 300 000
Investment in ordinary shares 2 500 000
Required:
Briefly explain how each of the investments must be measured in the financial statements of
Mpofana Limited and show the journal entries where possible.
Question 21.13
Rose Limited purchased 100 000 debentures that were issued by Daisy Limited on
1 January 20X5.
x The debentures were purchased at C5 each.
x The debentures offer a 10% fixed rate of interest payable annually on 31 December.
x The debentures will be redeemed at a premium of C1 each on 31 December 20X9.
x The effective interest rate is 13.0813%
x The debentures were not considered to be credit-impaired at acquisition.
x The debentures were held to collect contractual cash flows.
x No accounting mismatch arose due to the debentures.
During the year ended 31 December 20X7, Daisy Limited found itself in severe financial
difficulties and decided to put itself under voluntary curatorship.
x As a result, it notified Rose Limited that in order to prevent liquidation, the interest due for
the year ended 31 December 20X7 would be paid in full but thereafter, only a percentage
of the remaining interest and principal would be paid.
x As a result of this notification, Rose Limited determined that there has been a significant
increase in the credit risk of the bonds and the financial asset is now credit-impaired.
x The accountant prepared the following credit loss measurements:
12-month Lifetime
Date expected credit losses expected credit losses
01 January 20X5 C3 900 C37 000
31 December 20X5 C3 900 C37 000
31 December 20X6 C13 800 C51 500
31 December 20X7 C39 000 C178 000
All contractual cash flows were received on due date (31 December).
Required:
Prepare all related journals in Rose Limited’s general journal for the years ended
31 December 20X5, 20X6 and 20X7, assuming the debentures were held at amortised cost.
252 Chapter 21
Question 21.14
Sulky Limited bought a listed bond, issued by Crusader Limited, for C694 640 on
1 January 20X6. The bond is redeemable at C720 000 (being its nominal value of C640 000
plus a premium of C80 000) on 31 December 20X9. Interest is receivable based on a coupon
rate of 10% of the nominal value per annum, receivable annually on 31 December each year.
The effective interest rate on this bond was calculated at inception to be 10% per annum.
Crusader Limited was put under voluntary curatorship on 31 December 20X7. Although the
current year’s coupon interest was received, the future interest cash flows (contractual cash
flows) were no longer considered probable. A guarantee was obtained that C698 219 would
be returned on 31 December 20X9. The investment was considered credit-impaired on this
date (31 December 20X7).
At 31 December 20X8, Crusader’s financial position deteriorated further and expected to be

able to pay the nominal value of C640 000, and interest of C16 000 on 31 December 20X9.
The bond part of any portfolio is managed by Mr Timid, who was in charge of long-term
investment outlooks, and who managed the bonds to collect contractual cash flows. The
return on the bond compensated the holder for credit risk and the time value of money.
An analysis of the expected credit losses on the Crusader bonds were as follows –
12-month Lifetime
Date expected credit losses expected credit losses
01 January 20X6 C16 875 C50 000
31 December 20X6 C21 800 C71 500
31 December 20X7 C38 500 C129 075
31 December 20X8 C28 575 C180 363
All contractual cash flows were received on due date (31 December) to 31 December 20X7,
inclusive. No cash flows were received during 20X8.
Required:
Journalise the related entries in the books of Sulky Limited for each of the years ended 31
December 20X6, 20X7 and 20X8.
Question 21.15
Sunny Limited bought listed bonds, issued by Moon Limited on 1 January 20X5, for
C1 519 530. The details of the Moon Limited bonds:
x Nominal value: C1 400 000
x Redemption date: 31 December 20X8
x Redemption amount: C1 575 000 (including a C175 000 premium).
x Interest rate (coupon rate): of 10% per annum in arrears.
x Effective interest rate: 10%.
The bonds are held within a portfolio that is managed with the objective of collecting both
contractual cash flows and cash flows from selling the assets. At initial purchase, coupon
payments are expected to be received on 31 December every year.
Below is a summary of the assessment of Moon Limited’s financial health and ability to settle
bond payments:
Financial year Financial health Expected Coupon payments Expected Redemption
31 December 20X6 Weak C0 (i.e. for the remainder of the term) C1 575 000
31 December 20X7 Recovering C35 000 (in 20X8) C1 575 000
Chapter 21 253
The investment was considered to be credit-impaired on both 31 December 20X6 and also on
31 December 20X7.
All contractual cash flows were received on due date (31 December) to 31 December 20X6,
inclusive. No cash flows were received during 20X7.
An analysis of the fair values and expected credit losses for these listed bonds is presented below:
Fair value 12-month Lifetime
expected credit expected credit
Date losses losses
01 January 20X5 C1 519 530 C26 250 C134 400
31 December 20X5 C1 580 000 C23 600 C123 000
31 December 20X6 C1 200 000 C96 000 C242 980
31 December 20X7 C1 280 000 C57 150 C31 818
Required:
Provide journal entries to account for the bonds in Moon Limited in the years ended
Question 21.16
Barrie Limited is a company incorporated in Neverland. Over the years, Barrie Limited has
issued a variety of debt instruments in order to fund its expansion into Neverland:
x Barrie issued 100 000 10% debentures on 1 October 20X1 to Maine Limited. These have
a face value of C1 and were issued at a discount of 5%.
The debentures are redeemable at a premium of 7% on 30 September 20X5. The
debentures have an effective interest rate of 13,12608% p.a.
The debentures are not held for trading and were not designated at fair value through
profit or loss. Interest is payable bi-annually on 31 March and 30 September each year.
x Barrie issued 80 000 unsecured 12% debentures of C2 each, on 1 January 20X3, to Wendy.
These debentures were issued at a price of C2. These debentures will be redeemed at
C2 per debenture on 31 December 20Y2 (10 years from date of issue). The debentures
have been issued at an effective interest rate of 11.48029%.
The debentures were not designated at fair value through profit or loss on initial
recognition and were measured at amortised cost instead.
x Barrie issued 1 million debentures to Darling Limited on 2 January 20X5. These
debentures have a deemed value of C5 each for purposes of calculating the interest
payment (at a coupon rate of 10%) but were issued at C4 each. The debentures will be
redeemed, on 31 December 20X9, at C6.23 each. The effective interest rate is
19.992737%.
These debentures were designated at fair value through profit or loss on initial recognition
to avoid an accounting mismatch.
Due to all the extra debt, Barrie Limited’s credit rating deteriorated from AAA+ at
1 January 20X5, to A- on 31 December 20X5.
The market interest rates relevant to debentures that are similar to the debentures issued to
Darling Limited, are summarised below:
01/01/X5 31/12/X5
AAA+ 20% 15%
A- 23% 18%
254 Chapter 21
Barrie Limited has a 31 December financial year-end.
All contractual cash flows occurred on due date.
Required:
a) Prepare all the journal entries that would be processed during the period 1 October 20X1
to 31 December 20X2 to account for the debentures issued to Maime Limited.
b) Provide all the journal entries that would be processed during the year ended
31 December 20X5 that relate to the debentures issued to Darling Limited.
c) Provide Barrie Limited’s statement of comprehensive income and statement of financial
position for its financial year ended 31 December 20X5. Comparatives are required.
Question 21.17
Algae Limited is a company that is involved in the retail of sporting goods. Due to the massive
increase in demand for the merchandise sold by Algae Limited, it was necessary to build a
shopping mall that specialised in the sale of sporting goods.
To raise the required capital, Algae Limited issued 600 000 debentures on 1 January 20X1 at
a price of C12 per debenture. The debentures offer a coupon rate of 15% on the face value of
C10. The coupon interest payments have always been made on due date.
The debentures are compulsorily convertible into ordinary shares on a ‘1 for 1’ basis on
31 December 20X4.
The debentures were not designated at fair value through profit and or loss on initial recognition.
An appropriate discount rate for debentures of this nature is 16%.
Required:
Journalise the entries required to account for the above information for the years ended
31 December 20X1 to 20X4.
Question 21.18
Pickle Limited has two types of preferences shares in issue: A-class and B-class.
The details of the A-class preference shares are as follows

x Pickle issued 1 200 000 8% A-class cumulative preference shares on 1 January 20X1, at
an issue price of C11.
x The dividends are non-discretionary.
x In order to minimise the potential liquidity problems at maturity, Pickle Limited allowed
holders the option to either convert the preference shares into ordinary shares or redeem
them at C11 each on 31 December 20X4.
x On 31 December 20X4, 75% of the shareholders decided to convert their A-class
preference shares into ordinary shares and 25% of the shareholders opted for the cash
back instead.
x The market interest rate for these preference shares is 12%.
x The A-class preference shares were not designated at fair value through profit and loss
on initial recognition.
Chapter 21 255
The details of the B-class preference shares are as follows:

x 400 000 12% compulsory convertible preference shares were issued on 1 January 20X2.
x The dividends thereon are non-discretionary.
x The shares were issued at C2 each.
x The shares are convertible on 31 December 20X6 into ordinary shares.
x The market interest rate for similar shares is 15%.
x These preference shares were issued in order to raise long-term capital to finance a
variety of projects and were not designated at fair value through profit or loss.
All contractual cash flows for both A-class and B-class preference shares occurred on due
date, 31 December.
Required:
Journalise the above transactions in the accounting records of Pickle Limited for the years
ended 31 December 20X1 to 20X4.
Question 21.19
Part A:
Your client, Advantage Limited, has provided you with the following information, and has
requested that you provide a memorandum discussing, in detail, how the following share
issue and related dividends should be recognised in terms of IFRS 9 Financial instruments.
x On 1 January 20X3, Advantage issued 250 000 redeemable preference shares at C2 each.
x The shares are compulsorily redeemable at C2,20 per share on 31 December 20X6.
x The shares offer dividends at a coupon rate of 10%.
x The market interest rate is 12% for similar preference shares.
x The preference shares are traded on the Johannesburg Securities Exchange.
x On 31 December 20X3, the fair value of the redeemable preference share was C2.03 per share.
x No movement in the fair value is attributable to changes in the credit rating of Advantage.
x The preference shares were designated at fair value through profit or loss on initial recognition.
x For regulatory reasons, the coupon payments are only made on 3 January each year
Required:
Draft the memorandum responding to Advantage Limited’s request.
Ignore tax
Part B:
Required:
Using the information from Part A above, draft the journals to account for the redeemable
preference shares for the year ended 31 December 20X3, and the coupon payment on
3 January 20X4.
Ignore tax
Question 21.20
In order to fund their expansion into new markets, Beverage Limited issued the following
shares:
x 75 000 ordinary shares, at their market price of C1 per share; and
x 200 000 10% cumulative, redeemable preference shares, at C3,50 each.
256 Chapter 21
The preference shares must be redeemed on 31 December 20X7 at a premium of C0,50 per share.
The effective rate of interest paid is calculated to be 12,94787715%. The dividends on these
preference shares are non-discretionary. They are paid on 31 December of each year.
There are a total of 200 000 authorised preference shares (unchanged since incorporation).
Half of the authorised preference shares have been issued.
Beverage Limited has a 31 December year-end.
Required:
a) Prepare all journal entries relating to the preference shares from the date of issue to the date of
redemption, assuming that the preference shares are designated at amortised cost.
b) Briefly explain how you would recognise the issue of the preference shares if the
preference shares were redeemable at the option of the shareholder and the preference
dividends remain non-discretionary.
c) Journalise the redeemable preference shares if the preference shares were designated at fair
value through profit or loss and the fair values, immediately after payment of the dividends, are:
x 31 December 20X4 = C3,80 per share
x 31 December 20X7 = C4 per share
The changes in fair values were not due to changes in the liability’s ‘credit-risk’.
Question 21.21
Tree Capital Limited provides funding to small and medium sized enterprises. Tree Capital
offers funding at a variable rate linked to the Johannesburg Interbank Average Rate (JIBAR).
JIBAR is the rate at which South African banks buy and sell money. This creates a natural
hedge as Tree Capital’s borrowing rate is linked to its lending rate.
The entity’s lending policy requires that, in periods where interest rates are expected to
decrease, the entity will enter into interest rate swaps so as to fix the interest income
receivable on loan assets.
x Tree Capital provided a loan of C1 300 000 to Farmland Limited on 30 November 20X7,
at a lending rate of 1-month JIBAR plus 1%.
Interest is payable monthly in arrears.
The principal of C1 300 000 is payable in 3 years.
After consultations with a leading economist in December 20X7, it is expected that 1-
month JIBAR will decrease in the financial year ended 31 December 20X8 and 20X9
x Tree Capital entered into a two-year interest rate swap with TUV Bank, effective on
1 January 20X8, to receive a fixed interest rate of 6.5% and pay variable interest rate of
1-month JIBAR plus 1%.
The swap is settled on an annual basis.
The entity has not elected to apply the hedging provisions of IFRS 9.
The 1-month JIBAR (presented as an annualised rate) during 20X8 was as follows:
Date 1-month JIBAR (%)

November 20X7 6.5
December 20X7 6.0
1 January 20X8 to 30 June 20X8 5.5
1 July 20X8 to 31 December 20X8 5.0
Chapter 21 257
Note: JIBAR is quoted as a nominal annualised rate, thus to convert the rates quoted above
to a monthly rate, you will simply divide by 12.
Required:
Prepare all related journal entries in Tree Capital’s general journal for the years ended
31 December 20X7 and 31 December 20X8.
Question 21.22
On 1 January 20X7, Rooney Limited purchased government bonds for C1 750 000, being the
asset’s fair value. The bonds are redeemable after 3 years. No transaction costs were incurred.
The face value of these bonds is C1 837 500 on which a coupon interest of 8% p.a. is
payable annually in arrears. Coupon payments are made on 31 December of each year. The
bonds are redeemable at face value.
The effective interest rate is 9,911862% p.a. The company’s intention was to hold the
government bonds to collect contractual cash flows, being the return of capital (at face value)
and interest. No transaction costs were incurred. No accounting mismatch was expected.
At initial recognition, the company estimated the 12-month expected credit losses at C28 000.
The expected credit losses remained unchanged at 31 December 20X7 but had grown to
C91 875 on 31 December 20X8 and reduced to nil by 31 December 20X9 when the remaining
contractual cash flows were received in full.
On 30 September 20X8, the company changed its business model relating to the bonds, on
which date the revised estimate of the 12-month expected credit losses was C70 000 and the
fair value was C2 025 000.
The fair value of the bonds was C2 116 000 on 31 December 20X8.
Required:
Prepare all related journal entries in Rooney Limited’s general journal for the years ended
31 December 20X7, 20X8 and 20X9, assuming the government bonds were:
a) reclassified to fair value through profit or loss.
b) reclassified to fair value through other comprehensive income.
Ignore tax.
Question 21.23
Panyaza Limited acquired 250 000 10% listed preference shares on 1 January 20X4 at C2,40 each.
x The preference shares will be redeemed at C3 per share on the 31 December 20X8 and
dividends thereon are non-discretionary. These dividends are always paid on 31 December.
x Panyaza Limited classified the preference shares as financial assets at fair value through
profit and loss.
x On 30 June 20X6, the company decided to change its business model relating to the
preference share investment. The new business model became effective on
31 August 20X6. The effect of the change resulted in the reclassification of the asset
(please see the required for the details of the reclassification).
258 Chapter 21
x The fair value of the preference shares (after taking the dividend into account, if
necessary) was:
C2,60 on 1 January 20X6
C2,85 on 30 June 20X6
C3,10 on 31 August 20X6.
C2,92 on 1 January 20X7.
x Credit risk has not increased significantly since initial recognition and the asset was not
credit impaired at any point.
x The 12-month expected losses were estimated as follows:
Date 12-month expected credit
loss
C
1 January 20X4 2 200
31 December 20X5 3 000
30 June 20X6 3 500
1 January 20X7 2 750
31 December 20X7 2 700
Required:
Prepare all related journal entries in Panyaza Limited’s general journal for the years ended
31 December 20X6 and 20X7 under the following scenarios:
a) The preference shares were reclassified from fair value through profit or loss to amortised cost.
b) The preference shares were reclassified from fair value through profit or loss to fair value
through other comprehensive income.
Ignore tax.
Question 21.24
Blues Limited, a South African company (currency: C), manufactures specialised musical
instruments. Since Blues Limited was incorporated in the current year it was unable to raise a
loan from a large bank and was forced to finance the purchase of factory machinery through:
z The issue of debentures to the value of C500 000 (at a 10% fixed rate); and
z A loan of C1 000 000 (at a variable rate of prime plus 15%) from Shark Limited, a small
lending house.
Both the factory machinery and the raw materials used in the manufacture of the musical
instruments are supplied by Country Limited, an American company.
The musical instruments manufactured are sold in both Durban (South Africa) and London
(Great Britain), although the majority of the customers are Londoners.
Blues Limited offers all its customers 60 days’ credit.
An extract of Blues Limited’s Trial Balance as at 31 December 20X5 is as follows:
Debit Credit
Foreign creditor: Country Limited (US Dollars: 125 000) 900 000
Foreign debtors: various (GB Pounds: 30 000) 300 000
Inventory 600 000
Debentures 500 000
Loan: Shark Limited 1 000 000
Sales: local 50 000
Sales: foreign 700 000
Chapter 21 259
Required:
a) List the financial risks listed in IFRS 7 to which an entity can be exposed.
b) Discuss the various financial risks to which Blues is currently exposed. Your answer
should include the definition of each risk discussed.
c) Discuss how Blues may limit their exposure to these risks.
260 Chapter 21
GAAP: Graded Questions Financial instruments - hedge accounting
Chapter 22
Financial Instruments – Hedge Accounting
Question Key issues
22.1 Various Core concepts

22.2 Growthpoint Import (FOB): inventory: Repayment after year-end
A: With no FEC
B: With an FEC: where the hedge of a transaction = FVH
22.3 Tubbie Import (DAT): Non-financial asset (Inventory):
- hedge of a highly probable forecast transaction (CFH) and
- hedge of a recognised asset (FVH)
Includes disclosure
22.4 Shaggy Import (DDP): Non-financial asset (PPE): Hedge of a highly probable forecast
transaction (CFH) and recognised asset (FVH) and:
Part A: hedge of the firm commitment is a CFH
Part B: hedge of the firm commitment is a FVH
22.5 Katerina Import (FOB): Non-financial asset (PPE):
- hedge of a highly probable forecast transaction (CFH), and
- hedge of a recognised asset (FVH).
Includes disclosure
22.6 Pendragon Export (DAT): Financial asset (Debtor): Includes a firm commitment
- hedge of a firm commitment (CFH), and
- hedge of a recognised asset/liability (FVH).
Part A: Hedge accounting is not discontinued
Part B: Hedge accounting is discontinued
22.7 Koala Import (DDP): Non-financial asset (PPE): Includes a firm commitment
- hedge of a highly probable forecast transaction (CFH),
- hedge of a firm commitment (CFH), and
- hedge of a recognised asset or liability (FVH).
Part A: Cash flow hedge does not contain an ineffective portion
Part B: Cash flow hedge does contain an ineffective portion
Includes disclosure
22.8 Tiger Import (DAT): Non-financial asset (PPE): Includes a firm commitment
- hedge of a firm commitment (FVH),
FEC matures after settlement date.
22.9 Bert Import: Non-financial asset (Inventory):
Expiry and renewal of FEC (roll-forward).
- Part A: Hedge accounting is not discontinued
- Part B: Hedge accounting is discontinued
22.10 Light Import (FOB): Non-financial asset (Inventory): Includes a firm commitment
- hedge of a highly probable forecast transaction (CFH), and
Parts (a) and (b): journals and disclosure
- hedge of a firm commitment (CFH),
Part (c): journals only
- hedge of a firm commitment (FVH)
Chapter 22 261
Question 22.1
a) List three types of hedges referred to in IFRS 9 Financial instruments.
b) Fill in the missing word/s:

A fair value hedge is defined as a hedge of the exposure to changes in __________ of
__________asset or liability (or component thereof); or of an unrecognised __________
(or component thereof) that is attributable to a __________ and that could affect
__________.
c) Fill in the missing word/s:

A cash flow hedge is defined as a hedge of the exposure to variability in __________ of a
__________asset or liability (or component thereof) or of a __________ (or component
thereof) that is attributable to a __________; and that could affect __________.
d) Fill in the missing word/s:

A firm commitment is defined as a __________agreement for the exchange of a specified
__________of resources at a specified __________on a specified __________.
e) Fill in the missing word/s:

A forecast transaction is defined as an __________but __________future transaction.
f) Indicate whether the following statement is true or false and give a brief explanation:
A highly probable forecast transaction will be recognised in our accounting records if it is
hedged by a forward exchange contract (FEC).
g) Indicate whether the following statement is true or false and give a brief explanation:
A forward exchange contract (FEC) that is entered into in order to hedge a firm commitment
must always be treated as a fair value hedge.
h) Indicate whether the following statement is true or false and give a brief explanation:
A gain or loss on a cash flow hedge never affects profit or loss.
i) Indicate whether the following statement is true or false and give a brief explanation:
When accounting for a hedge as a cash flow hedge, we have the choice of processing a
basis adjustment or reclassification adjustment.
j) Indicate whether the following statement is true or false and give a brief explanation:
When accounting for an FEC that has been entered into in order to hedge against the risks
associated with a firm commitment, the FEC is called the hedging instrument and the firm
commitment is called the hedged item.
k) Indicate whether the following statement is true or false and give a brief explanation:
The main difference between accounting for a fair value hedge and a cash flow hedge is:
x the gain or loss on a fair value hedge is first recognised in other comprehensive income
before eventually affecting profit or loss (through a basis adjustment or reclassification
adjustment); whereas
x the gain or loss on a cash flow hedge is recognised directly in profit or loss.
Required:
Provide brief answers to each of the above questions. Note that where you are asked to fill in
the missing word/s, a single space does not always mean that there is only one missing word.
262 Chapter 22
Question 22.2
Part A:
Growthpoint Limited is based in Japan and has a functional currency of yen (¥). It acquired a
helicopter from a Russian company, which operated in roubles (RUB). The helicopter was
invoiced at RUB360 000. Growthpoint ordered the helicopter on 1 July 20X4. The helicopter
was then shipped on 1 October 20X4 and arrived on 24 November 20X4. The shipping terms
were 'customs, insurance and freight' (CIF). Growthpoint paid the Russian company in full on
1 March 20X5. The date on which the helicopter became available for use was 30 November
20X4. It has a useful life of 10 years and a nil residual value.
The relevant exchange rates are presented on the next page:

Date Spot ¥ : RUB
01 July 20X4 1,70: 1
01 October 20X4 1,75: 1
24 November 20X4 1,78: 1
30 November 20X4 1,80: 1
31 December 20X4 1,85: 1
01 March 20X5 1,90: 1
Assume all requirements for hedge accounting were met throughout the hedging relationship
and that any ineffective portion in the cash flow hedge was considered to be immaterial.
Required:
Using Growthpoint Limited's general journal, show all journals that would have been processed
for both its years ended 31 December 20X4 and 20X5.
Ignore VAT, tax and the effects of discounting.
Part B:
Use the same information as that provided in Part A together with the following:
On 1 October 20X4, in order to hedge against the related foreign currency risks, Growthpoint
signed a forward exchange contract for the exchange of RUB360 000. The contract will expire
on 1 March 20X5. The hedge will be accounted for as a fair value hedge.
The relevant exchange rates are as follows:

Date Spot ¥ : RUB FEC expiring on 1 March 20X5
01 July 20X4 1,70: 1 2,00: 1
01 October 20X4 1,75: 1 1,80: 1
24 November 20X4 1,78: 1 1,75: 1
30 November 20X4 1,80: 1 1,60: 1
31 December 20X4 1,85: 1 2,10: 1
01 March 20X5 1,90: 1 N/A
Required:
Using Growthpoint Limited's general journal, show all journals that would have been processed
for both its years ended 31 December 20X4 and 20X5.
Chapter 22 263
Question 22.3
Tubbie Limited planned to purchase inventory from a foreign supplier for $270 000. This
transaction was considered to be highly probable and thus Tubbie Limited entered into a
forward exchange contract to hedge against the foreign currency risks. The FEC was signed
on 30 November 20X5 and will expire on 1 April 20X6.
The chronological sequence of events that followed is listed on the next page:
x Inventory was ordered on 8 December 20X5 (this is not a firm commitment).
x The inventory was loaded on board the ship on 15 December 20X5.
x This inventory was shipped on a 'delivery at terminal' basis (DAT).
x The inventory arrived and was unloaded in the Port Elizabeth Harbour (South Africa) on
1 February 20X6.
x Tubbie Limited paid the foreign creditor in full on 1 April 20X6.
This entire batch of imported inventory has since been sold:

x 70% of the inventory was sold on 1 July 20X6 for R3 200 000; and
x 30% of the inventory was sold on 5 August 20X6 for R1 600 000
The hedge of the recognised asset or liability must be accounted for as a fair value hedge.
Tubbie Limited's functional currency is the Rand (R). Exchange rates were as follows:
Spot FEC expiring on 1 April 20X6
Date SA Rand: Dollar SA Rand: Dollar
30 November 20X5 14,02: 1 14,06: 1
08 December 20X5 14,16: 1 14,26: 1
15 December 20X5 14,11: 1 14,24: 1
31 December 20X5 14,09: 1 14,22: 1
01 February 20X6 14,19: 1 14,24: 1
01 April 20X6 14,26: 1 N/A
Required:
a) Using Tubbie Limited’s general journal, prepare all related journals for the years ended
b) Disclose the above information in the following extracts of Tubbie Limited’s financial
statements for the year ended 31 December 20X6 only:
x Statement of comprehensive income;
x Statement of changes in equity;
x Notes to the financial statements: just the note for the 'cash flow hedge reserve'.
Question 22.4
Shaggy Limited is a retailer of various common household goods, operating in South Africa.
South Africa’s currency is the Rand (R), which is also Shaggy’s functional currency.
Business was expanding rapidly and, as a result, Shaggy Limited needed new and more
sophisticated computer equipment in order to enhance the running of its accounting system.
264 Chapter 22
The financial director began negotiating a contract with a German company, Fred Limited, for
the development of specialised computer equipment:
x Negotiations began on 1 September 20X5, from which point onwards the forecast import
became considered ‘highly probable’.
x Agreement on the terms of the contract was only reached on 30 September 20X5:
x The computer equipment would be developed by Fred Limited;
x The installation of this equipment would be performed by South African technicians;
x The purchase price of this new equipment (uninstalled) would be €300 000; and
x This agreement is considered a firm commitment.
x The computer equipment was shipped on a 'delivery duty paid' basis (DDP):
x it was loaded on board on 1 February 20X6;
x it arrived at the local harbour on 27 March 20X6; and
x the relevant customs clearance certificates were obtained on 31 March 20X6; and
x it was transported to Shaggy Limited’s head office on 2 April 20X6.
Soon after this highly unique and complex computer equipment had arrived at the office, it
became obvious that the local technicians did not have the necessary skills to install it.
Arrangements were immediately made with Fred Limited to have a team of their own
technicians sent to South Africa.
The technicians flew over the very next day and had completed the installation by 30 April 20X6.
Shaggy was invoiced on 30 April 20X6 for the installation of €80 000 and was required to pay the
local accommodation costs for the technicians of R70 000 (both bills were paid on 31 May 20X6).
This equipment is expected to have a useful life of 5 years and a nil residual value. Depreciation
using the straight-line method is considered to be appropriate.
With concerns over the generally significant fluctuations in the ‘Rand: Euro’ exchange rate,
Shaggy Limited entered into a forward exchange contract for €300 000 to hedge this foreign
exchange risk as soon as the terms of the contract were agreed upon (i.e. 30 September 20X5).
This forward exchange contract expires on 30 June 20X6.
Shaggy Limited settled the original €300 000 payable to Fred Limited on 30 June 20X6.

Spot rate FEC (expiring on 30 June 20X6)
Date
€:R €:R
1 September 20X5 1 : 8,00 1 : 8,10
30 September 20X5 1 : 7,50 1 : 7,45
1 February 20X6 1 : 7,19 1 : 7,21
28 February 20X6 1 : 7,20 1 : 7,22
27 March 20X6 1 : 7,38 1 : 7,40
31 March 20X6 1 : 7,40 1 : 7,43
2 April 20X6 1 : 8,24 1 : 8,32
30 April 20X6 1 : 8,10 1 : 8,13
31 May 20X6 1 : 7,90 1 : 7,95
30 June 20X6 1 : 7,60 N/A
Required:
Prepare the related journal entries in the books of Shaggy Limited for the years ended
28 February 20X6 and 20X7 assuming that:
a) the hedge of the firm commitment is accounted for as a cash flow hedge and the hedge of
the recognised asset or liability is accounted for as a fair value hedge.
Chapter 22 265
b) the hedge of the firm commitment is accounted for as a fair value hedge and the hedge of
the recognised asset or liability is accounted for as a fair value hedge.
Question 22.5
Katerina Limited (Katerina) is a South African company with a functional currency of the Rand
(R) and a financial year-end of 28 February. In order to update their production line, Katerina
ordered a manufacturing machine from a foreign supplier.
The machine was ordered on 3 February 20X5 (not a firm commitment). On 10 February 20X5
the machine was shipped free on board. The machine arrived at Katerina’s factory on
1 March 20X5 and it was immediately available for use.
The machinery cost $2 200 000. Katerina settled the foreign debtor on 31 March 20X5. In order
to hedge against adverse effects of changes in the exchange rate, Katerina entered into a 2-
month forward exchange contract for the full amount of $2 200 000 on 3 February 20X5. The
hedge is a hedge of a highly probable forecast transaction (cash flow hedge).
The machine is depreciated at 10% per annum (straight line), with a residual value of R0.
The following exchange rates are relevant:

Spot rates Forward rates *
Date
R: $ 1 R: $ 1
03 February 20X5 R10,00 R10,25
10 February 20X5 R10,80 R11,00
28 February 20X5 R12,00 R12,10
31 March 20X5 R13,80 N/A
* exchange rates for contracts expiring on 31 March 20X5
and that any ineffective portion in the cash flow hedge was considered immaterial.
Required:
a) Provide the journal entries to account for the import of the machine for the year ended
28 February 20X5.
b) Provide an extract of the statement of comprehensive income and the statement of financial
position for the year ended 28 February 20X5, to the extent possible.
Question 22.6
Part A
Pendragon Limited, a South African manufacturer of self-driving vehicles, secured a contract

on 13 September 20X4 to sell the first self-driving vehicle to Merlin Limited, an Italian company.
This is considered to be a firm commitment to purchase as the contract is non-cancellable. The
selling price was set at €330 000.
The self-driving vehicle, which cost Pendragon R2 475 000 to manufacture, was shipped on a
delivery at terminal basis (DAT) on 5 January 20X5. The self-driving vehicle arrived in Italy on
5 February 20X5 and there were no offloading delays.
266 Chapter 22
To hedge against movements in the cash flows of the firm commitment transaction and to hedge
against movements in the fair value of the recognised asset or liability, Pendragon entered into
the following transaction:
x Instrument: forward exchange contract
x Commencement date: 30 September 20X4
x Amount: €330 000
x Expiration (settlement date) date:1 March 20X5
x Forward rate: R14,80 : €1
The relevant exchange rates:

Date Spot rates Forward rates on an FEC*
R/€1 R/€1
13 September 20X4 14,70 14,65
30 September 20X4 15,00 14,80
31 December 20X4 16,10 15,90
05 January 20X5 16,51 16,30
05 February 20X5 16,70 16,50
01 March 20X5 15,50 N/A
* expiring on 1 March 20X5
Required:
Prepare all relevant journal entries to record the transaction in Pendragon Limited’s books for
the years ended 31 December 20X4 and 20X5.
Part B
For the purposes of this part, consider the following alternate relevant exchange rates:
Date Spot rates Forward rates on an FEC*
R/€1 R/€1
15 January 20X5 16.60 16.40
* expiring on 1 March 20X5
Required:
a) Briefly explain how the journals would change if, on 5 January 20X5, Pendragon decided it
would prefer not to continue hedge accounting.
b) Briefly explain how the journals would change if, on 15 January 20X5, the qualifying criteria
ceased to be met, but the forecast transaction was still expected.
c) Provide the journal entries necessary to account for part (b), assuming hedge accounting
was discontinued on 15 January 20X5.
Question 22.7
Part A:
Koala Limited, is an Australian company (functional currency: Australian Dollars: A$). Koala intends
to import a piece of equipment (forecast transaction). At the same time as this proposed importation
became highly probable, Koala entered into a forward exchange contract (FEC) to hedge against the
possible adverse effects of changes in the exchange rates.
Chapter 22 267
A 6-month FEC was entered into on 1 December 20X5 (expiring on 31 May 20X6) in
anticipation of the highly probable future transaction to import equipment that costs R675 000
from a South African Company called Cato Limited. Koala Limited signed the contract of
purchase (Koala entered into a firm commitment) on 1 February 20X6. Koala Limited settled
their account with Cato Limited on 31 May 20X6.
The equipment was shipped on a DDP (Delivery Duty Paid) basis and was released by customs
on 15 February 20X6. The equipment was immediately available for use and was depreciated
from this date on the straight-line basis over its useful life of 10 years to its residual value of nil.
Date Spot Forward rates on FECs*

A$: Rand A$: Rand
1 December 20X5 10.10: 1 10.12: 1
31 December 20X5 10.19: 1 10.21: 1
1 February 20X6 10.00: 1 10.05: 1
15 February 20X6 9.99: 1 10.01: 1
31 May 20X6 9.96: 1 N/A
* expiring on 31 May 20X6
Koala accounted for the hedge of the firm commitment as a cash flow hedge while the hedge
of the recognised asset or liability was accounted for as a fair value hedge.
Required:
a) Prepare the journal entries to account for the import of the equipment in the books of
Koala Limited for the years ending 31 December 20X5, 20X6 and 20X7.
b) Disclose the above in the statement of comprehensive income of Koala Limited for the
year ended 31 December 20X7 together with the other comprehensive income note.
Add an additional comparative for the 20X5 financial year.
Part B:
Assume the information from part A applies, with the exception that the exchange rates on
31 December 20X5 differed and that any ineffective portion in the cash flow hedge was
considered to be material:
Date Spot Forward rates on FECs*
A$: Rand A$: Rand
31 December 20X5 10.16: 1 10.21: 1
Required:
a) Explain the effect of the different spot rate on the journal/s for 31 December 20X5.
b) Provide the revised journal entry/ies on 31 December 20X5.
Question 22.8
Tiger Limited intended purchasing plant from Eagle Limited, a company in America. The plant
would be used in the manufacture of inventory. Tiger uses the Rand as its functional and
presentation currency.
268 Chapter 22
The following events took place, listed in chronological order:

x 28 February 20X8: Tiger Limited entered into a 12-month forward contract, at which point
the intended import was considered to be a highly probable forecast transaction.
x 1 July 20X8: The plant to the value of $320 000 was ordered (a firm commitment).
x 22 July 20X8: The plant was shipped (on a delivery at terminal basis).
x 1 September 20X8: The plant arrived at the Durban harbour.
x 2 September 20X8: The plant was available for use.
x 30 November 20X8: The plant was put into operation.
x 31 January 20X9: The foreign creditor was paid in full.
The plant is depreciated on the straight-line basis at 10% per annum to a nil residual value.
The forward exchange contract was entered into in order to hedge against movements in the
cash flows of the highly probable forecast transaction and to hedge against movements in the
fair value of the firm commitment and the recognised asset or liability.
Details of exchange rates are as follows ($1=R?):
12 months 8 months 6 months 2 months 1 month

Date Spot
forward forward forward forward forward
28 February 20X8 12,5 12,9 12,8 12,7 12,6 12,50
1 July 20X8 13,0 13,4 13,3 13,2 13,1 13,00
22 July 20X8 12,9 13,3 13,2 13,1 13,0 12,80
1 September 20X8 12,6 13,0 12,9 12,8 12,7 12,60
31 December 20X8 13,5 13,9 13,8 13,7 13,6 13,40
31 January 20X9 13,4 13,8 13,7 13,6 13,5 13,45
28 February 20X9 13,6 14,0 13,9 13,8 13,7 13,30
Required:
a) Calculate the amount at which the machine would be measured on transaction date.
b) Journalise all aspects of the acquisition and subsequent measurement of the plant for the
years ending 31 December 20X8 and 20X9.
Question 22.9
Part A
Bert Limited imports certain consumables for the use in constructing buildings in their ordinary
business activities. In order to complete a particular contract, Bert, on 31 March 20X6, placed an order
with a foreign supplier for consumables to the value of $10 000.
Bert is able, at any time, to cancel the contract with the foreign supplier (not a firm commitment). None
of the consumables were used by year-end.
To hedge out the foreign exchange risk, Bert Limited immediately took out a 3-month forward cover
contract (FCC). The account with the foreign supplier is only to be settled on 31 August 20X6. Due to
the initial unavailability of 5-month FCC, Bert had to replace the 3-month FCC with another 2-month
forward cover contract on 30 June 20X6 (i.e. when the initial FCC expired). Bert ‘locked-in’ at
R13,43: $1 on the initial FCC and at R13,62:$1 on the replacement FCC.
The consumables were delivered to Bert Limited on 31 May 20X6 (the date on which the
transaction is to be recognised) and the foreign creditor was settled on due date.
Chapter 22 269
The relevant rates are as follows:

Spot rate (R:$1) Forward rate (R:$1)
31 March 20X6 13,40 13,43 Note 1
31 May 20X6 13,45 13,48 Note 1
30 June 20X6 13,60 13,62 Note 2
31 August 20X6 13,70 N/A
1. Expiring on 30 June 20X6
2. Expiring on 31 August 20X6
Required:
Prepare all of Bert Limited’s journal entries to account for the purchase and subsequent
settlement for the year ended 31 December 20X6.
Part B
Assume all the information in Part A is relevant, except, when the replacement FCC is entered
into, the hedging requirements are no longer met (hedge accounting cannot be applied).
Required:
Prepare all of Bert Limited’s journal entries to account for the purchase and subsequent
settlement for the year ended 31 December 20X6.
Question 22.10
Light Limited operates in South Africa as a retailer of audio-visual equipment. Its presentation
and functional currency is the Rand (R).
Lighting technology has taken a massive leap, with the introduction of smart LEDs (light emitting
diodes). Light Limited sought to bring smart LEDs to the South African market and thus planned
to purchase smart LEDs from Genius Limited, a company whose functional currency is the
Botswana Pula (BWP). The quantity that would be purchased will be invoiced at BWP 4 200 000.
In in anticipation of the highly probable smart LED purchase transaction and in order to hedge
against the exposure to currency fluctuations, Light entered into a forward exchange contract
(FEC). The FEC covered the full expected invoice amount of BWP 4 200 000 and was entered
into on 5 December 20X5. The FEC will expire on 30 June 20X6.
Light placed the order for the smart LEDS with Genius on 31 January 20X6 (a firm commitment).
x The LEDs were loaded free on board on 31 March 20X6.
x The LEDs arrived on 30 April 20X6.
x Light paid Genius on 30 June 20X6.
x On 31 December 20X6, its financial year end, only 40% of the LEDs remained unsold
(LEDs are sold at a mark-up of 30% on cost).
The relevant exchange rates:
Exchange rates on: Spot Forward rates on FEC*

Date Rand: BWP Rand: BWP
05 December 20X5 1,01: 1 1,21: 1
31 December 20X5 1,91: 1 1,12: 1
31 January 20X6 1,00: 1 1,50: 1
31 March 20X6 0,99: 1 1,10: 1
30 April 20X6 2,00: 1 2,50: 1
30 June 20X6 0,69: 1 N/A
* expiring on 30 June 20X6
270 Chapter 22
The hedge of the firm commitment must be accounted for as a cash flow hedge and the hedge
of the recognised asset or liability must be accounted for as a fair value hedge.
Required:
a) Provide all the journals that would have been processed by Light Limited during the years
b) Provide Light Limited’s statement of comprehensive income, the statement of changes in
equity (only the cash flow hedge column), the profit before tax note and the other
comprehensive income note for the year ended 31 December 20X6.
c) Provide all the journals that would have been processed by Light Limited during the years
ended 31 December 20X5 and 31 December 20X6, assuming that the hedge of the firm
commitment was accounted for as a fair value hedge.
Chapter 22 271
GAAP: Graded Questions Share capital: Equity instruments and financial liabilities
Chapter 23
Share Capital: Equity instruments
and financial liabilities
Question Key issues

23.1 - Core questions
23.2 Board Start-up of business involving preliminary costs; share issue costs;
receipt of funds from interested applicants; issue of shares and refund of
non-allocated funds
23.3 Jungle S46: requirements for a distribution and s4: Solvency and liquidity
requirements
23.4 Coolworths Share buy-back
- buy back shares at market price that equals the average issue price
- buy back shares at market price that exceeds the average issue price
- buy back shares at market price that is less than the average issue
price
23.5 Icy Ordinary shares: share issues: rights issue and then a capitalisation
issue
23.6 Perseverance Application of Conceptual Framework definitions
Redemption of preference shares: - redemption is compulsory;
redemption at a premium
23.7 Get Well Ordinary shares:
- share issues: issue for value and then a capitalisation issue
Redemption of preference shares:
- redemption at the option of the entity
23.8 Lion Ordinary shares and preference shares (non-redeemable)
- share issue: normal issue and a capitalisation issue
- share issue costs
23.9 Emnet Redemption of preference shares:
- redemption is compulsory; redemption at a premium
- financing through issue of ordinary shares and balance from issue of
debentures
23.10 DPD Redemption of preference shares:
- redemption at the option of the shareholders; redemption at a premium
- financing through issue of debentures and the rest through an issue of
ordinary shares
Tax calculation involving dividends and premium on a preference share
liability
23.11 Klaus Redemption of preference shares:
- redemption at the option of the company - redemption at a premium
- financing through issue of debentures and the rest through an issue of
ordinary shares
272 Chapter 23
Question 23.1
a) Define an equity instrument.

b) Name two classes of shares that a company may issue and briefly explain the difference
between them.
c) Describe how to recognise an issue of ordinary shares and the related dividend
declarations.
d) An issue of ordinary shares is always recognised in the same way as an issue of preference
shares. True or false? Briefly justify your answer.
e) The holder of a cumulative preference share is entitled to a distribution every year. True or
False? Briefly justify your answer.
f) IFRSs prohibit the existence of par value shares. True or false? Briefly justify your answer.
g) Identify four different ways in which a company could increase its number of issued shares.
h) Explain in what way a share consolidation and a share buy-back are similar and explain
what each involves.
i) The Companies Act No. 71 of 2008 refers to a solvency and liquidity test: briefly outline
what this test involves.
j) Briefly compare the accounting treatment of share issue costs with the accounting treatment
of preliminary costs.
Required:
Question 23.2
Board Limited is a newly incorporated company with 100 000 authorised ordinary shares with
no par value.
x Legal costs (start-up / preliminary costs) of C10 000 were paid on 2 March 20X4.
x The company has 4 directors, each of whom bought, for cash, 2 000 ordinary shares at
the initial issue price of C10 per share. This issue took place on 4 March 20X4 and
resulted in share issues costs of C1 000.
x On 1 April 20X4, the directors published a prospectus with an invitation to the public to
apply for shares in the company. This invitation offered 50 000 ordinary shares at
C12 per share and expired on 31 May 20X4. Applications for 75 000 ordinary shares had
been received by 31 May 20X4. The full value per share application was received into a
trust fund which was then transferred to the company on 3 June 20X4.
x After due consideration, the board of directors decided to limit the allotment to the original
offer of 50 000 shares and refunded the surplus cash received. The allotment and refund
took place on 5 June 20X4. Share issue costs totalling C6 000 were paid on the same
date.
x The profit for the year ended 28 February 20X5 has been correctly calculated as
C100 000.
Required:
a) Prepare the journal entries relating to the share transactions for the year ended
28 February 20X5.
b) Prepare the statement of changes in equity of Board Limited for the year ended
28 February.
Chapter 23 273
Question 23.3
Mr Bear is contemplating how much to distribute as a dividend to the ordinary shareholders of

Jungle Limited for the year ended 31 December 20X4 and has approached you for advice.
The trial balance of the company at that date is as follows:
JUNGLE LIMITED
TRIAL BALANCE AT 31 DECEMBER 20X4
Debit Credit
Property, plant and equipment 600 000
Inventory 150 000
Bank 50 000
Retained loss: 1 January 20X4 800 000
Profit for the period: 20X4 200 000
Loan 900 000
1 700 000 1 700 000
The property, plant and equipment is measured under the cost model. The fair value has been
measured at C1 800 000 in terms of IFRS 13 Fair value measurement. All other assets and
liabilities are fairly valued.
Required:
Explain, with reasons, whether Jungle Limited may declare an ordinary dividend and what Mr
Bear must do to ensure that the company is not contravening the Companies Act No. 71 of 2008.
Question 23.4
Coolworths Limited has 4 200 authorised unissued ordinary no par value shares and 1 800
issued ordinary no par value shares (issued over a number of years at varying issue prices). The
total balance on the share capital account for this class of shares is C3 600.
Coolworths directors are considering buying back 600 ordinary shares on 30 June 20X4.
Scenario 1: where the market price is C2 per share;

Required:
For each the three scenarios above,
a) Journalise the share buy-back; and
b) Prepare the statement of changes in equity and the ordinary share capital note for the year
Question 23.5
Icy Limited had 300 000 ordinary shares in issue on 1 January 20X5. During the year ended
31 December 20X5 the following share transactions took place:
274 Chapter 23
x A rights issue on 1 April 20X5:

- 50 000 ordinary shares were offered to existing shareholders;
- The issue price per share was C5 when the market price per share was C8;
- All 50 000 shares offered were taken up on this day.
x A capitalisation issue on 1 December 20X5:
- Three ordinary shares were issued for every ten shares in issue,
- The current market price per share was C7.
x Share issue costs of C30 000 were incurred and paid during 20X5.
Required:
Journalise the above transactions for the year ended 31 December 20X5.
Question 23.6
You are a new member of the financial reporting team at Perseverance Limited, charged with
the responsibility of ensuring that the equity and liabilities section of the statement of financial
position is fairly presented.

x 100 000 ordinary shares were issued on 1 January 20X1 at C1 each.
x 300 000 redeemable preference shares with a coupon rate of 10% were issued on
1 January 20X3 at C1 each. These shares are compulsorily redeemable on
31 December 20X5 at a premium of C0,10 per share. The effective interest rate is
12,937%.
x The preference dividends are declared and paid on 31 December each year and are non-
discretionary.
x The directors are satisfied that the company’s assets, fairly valued, exceed its liabilities
and that the company will be able to pay its debts as they become due.
x All amounts are considered to be material.
Required:
a) Using the Conceptual Framework definitions of the elements of the financial statements,
discuss whether the issue of the preference shares on 1 January 20X3 should be
recognised as equity or as a liability.
b) Using the Conceptual Framework definitions of the elements of the financial statements,
discuss whether the redemption of the preference shares on 31 December 20X5 should
be recognised as an expense.
c) Provide the journal entries to account for the preference shares for the years ending
Ignore tax.
Question 23.7
Get Well Hospital Limited is a specialised private hospital in the Pretoria area. The
company’s financial year ends on 31 December 20X4.
At 31 December 20X3, an extract its statement of financial position and notes relating to
equity is as follows:
Chapter 23 275
GET WELL HOSPITAL LIMITED

AT 31 DECEMBER 20X3
Note 20X3
Share capital and reserves C
Preference share capital 5 360 000
GET WELL HOSPITAL LIMITED

EXTRACT FROM THE NOTES TO THE FINANCIAL STATEMENTS
20X3
4. Ordinary share capital
Authorised Quantity
Ordinary shares of no par value 600 000
Issued
Number of shares in issue at the beginning of the year 450 000
Number of shares issued during the year 0
Number of shares in issue at the end of the year 450 000
5. Redeemable preference shares

Authorised
12% redeemable preference shares of no par value 240 000
Issued Quantity
Number of shares in issue at the beginning of the year 240 000

Shares redeemed during the year (0)
Number of shares in issue at the end of the year 240 000
The preference shares are redeemable on 30 June 20X4 at a premium of 5%, at the option of Get Well
Hospital Limited.
The following information relates to shares of the company:

x The preference shares are redeemable at the option of the company. On 30 June 20X4,
Get Well Hospital Limited decided to exercise that option. The redemption was partially
financed by a rights issue of 1 ordinary share for every 5 ordinary shares held, made on
30 June 20X4 at their market value of C4 each. All shares offered in terms of the rights
issue were taken up.
x On 30 September 20X4 a capitalisation issue of 1 share for every 3 shares held was made
out of the retained earnings at the market price of C1,50 per share.
x A preference dividend of C19 200 was paid on 30 June 20X4.
Total comprehensive income for the year ended 31 December 20X4 is C192 000. There are no
components of other comprehensive income.
Required:
a) Prepare all journal entries to account for the information relating to the year ended
31 December 20X4 presented above.
b) Prepare the statement of changes in equity of Get Well Hospital Limited for the year
Standards.
276 Chapter 23
Question 23.8
Lion Limited manufactures spare parts for use in the automotive industry. The following
information relates to its equity for the years ended 31 March 20X3 and 20X2:
x Equity balances extracted from the statement of financial position at 31 March 20X1:
- Ordinary share capital C1 800 000
- 12% Non-cumulative preference share capital C800 000
- Revaluation surplus C300 000
- Retained earnings C10 000 000
x Profit for the current year ended 31 March 20X3 amounts to C1 500 000 (20X2:
C900 000).
x The only item of other comprehensive income that arose during the 20X3 financial year
end was a revaluation surplus of C110 000, net of tax. There was no other movement in
the revaluation surplus over the two years ended 31 March 20X3.
x Information regarding the ordinary share capital:
- The authorised shares capital has remained unchanged since incorporation at
5 000 000 shares.
- The ordinary share capital in issue at 1 April 20X1 consisted of 2 000 000 shares of
no par value.
- On 1 July 20X1, 400 000 additional ordinary shares were issued at C1,80 per share.
The share issue costs for this issue were C20 000. These costs are non-deductible
for tax purposes.
- On 31 December 20X2, the directors authorised a capitalisation issue of one share for
every four shares held at the current market price of C1.
- An ordinary dividend of C0,05 per share was declared on 28 February 20X3. No
dividend was declared in the 20X2 financial year.
x Information regarding the preference share capital:
- The preference share capital in issue at 1 April 20X1 consisted of 200 000 non-
redeemable 12% preference shares of no par value. All the authorised preference
shares have been issued.
- The discretionary preference dividends were paid on 10 October in both years.
Required:
a) Prepare all journal entries relating to the years ended 31 March 20X2 and 20X3.
b) Prepare Lion Limited’s statement of changes in equity for the year ended 31 March 20X3
c) Prepare the share capital note for inclusion in Lion Limited’s notes to the financial
statements for the year ended 31 March 20X3 in accordance with International Financial
Question 23.9
Emnet Limited was incorporated on 1 January 20X0 with an authorised share capital of 310 000
no par value ordinary shares and 50 000 10% redeemable preference shares of no par value
(subject to compulsory redemption on 31 December 20X5 at a premium of C0,20 / share).
x On 2 January 20X0 all the preference shares were issued at C2 each and 300 000 ordinary
shares were issued for C300 000.
Chapter 23 277
x Emnet Limited’s financial year end is 31 December. Preference dividends are paid
annually on 31 December.
x On 31 December 20X5 the directors resolved the following with regard to the redemption of
the preference shares:
- The preference shares are to be redeemed at a premium of C0,20 per share as
authorised by the memorandum of incorporation.
- The redemption of the preference shares (together with the preference dividends due
for 20X5) will be partially financed by the issue of the remaining authorised ordinary
shares for an amount of C24 000 (the required number of shares were subscribed for
and allotted). The balance of the funds needed to finance the redemption will be
obtained from the issue of 10% debentures of C10 each. The balance of C20 000 in
the bank account is not to be used to finance the redemption.
x The directors are satisfied that the company’s assets, fairly valued exceed its liabilities
Required:
Prepare the journal entries (including cash transactions) to record the transactions in the
accounting records of Emnet Limited for the year ended 31 December 20X5.
Question 23.10
The following is an extract from the trial balance and notes to the financial statements of DPD
Limited at 31 December 20X6, before considering any of the information from the shareholders’
meeting on 31 December 20X6:
DPD LIMITED
EXTRACT FROM THE TRIAL BALANCE
AT 31 DECEMBER 20X6
Debit Credit
Ordinary share capital (1 000 000 shares) 1 000 000
12% redeemable, cumulative preference shares (187 500 shares) 393 750
Bank overdraft 75 000
Sales 740 000
Operating expenses 200 000
Interest income 5 000
DPD LIMITED
EXTRACT FROM THE NOTES TO THE FINANCIAL STATEMENTS
20X6
4. Ordinary share capital
Authorised Quantity
Ordinary shares of no par value 2 500 000
5. Redeemable preference shares
Authorised Quantity
12% redeemable preference shares of no par value 250 000
The preference shares were issued on 1 January 20X2 at C2, and are redeemable at the option of the
shareholders on 31 December 20X6 at a premium of C0,10. The dividends on these preference shares
are non-discretionary.
278 Chapter 23
Extract from minutes of shareholders’ meeting on 31 December 20X6:

x All the shareholders elected to have their preference shares redeemed on this date at C2,10
per share. The redemption is to be financed as follows:
- 250 debentures of C250 each.
- As many ordinary shares at an issue price of C1,25 each as are necessary to have
sufficient cash for the redemption.
- The directors are satisfied that the company’s assets, fairly valued, exceed its liabilities
- The dividends on the preference shares are to be paid by extending the existing bank
overdraft.
- Share issue costs amount to C22 500. These costs are non-deductible and are paid by
extending the bank overdraft.
x There are no other movements in the accounting records other than those evident from
the information provided above.
x The tax rate is 29%. The dividends on the preference shares and the accrual of the
premium are not tax deductible.
Required:
a) Prepare the statement of changes in equity for the year ending 31 December 20X6.
b) Prepare the equity and liabilities section of the statement of financial position at
31 December 20X6.
c) Prepare the accounting policies and notes relevant to the ordinary share capital and
preference shares.
Comparative figures are only required for the statement of financial position.
You will need a financial calculator to answer this question
Question 23.11
Klaus Limited has an authorised share capital of 300 000 ordinary shares of no par value and
100 000 redeemable preference shares of no par value. Its issued share capital consists of
200 000 ordinary shares issued for a total of C215 000 and 100 000 16% redeemable
preference shares issued at C1. In terms of the Memorandum of Incorporation of the
company, the preference shares are redeemable at a premium of 3% of the issue price at the
option of the company any time after 1 April 20X3.
The preference shares were redeemed at a premium of 3% of the issue price on 30 June
20X5. All dividends due had been paid on 29 June 20X5. The dividends on preference
shares were discretionary.
In order to finance the redemption, on 30 June 20X5 the company issued 30 000
C1 debentures at a discount of 2% and the minimum number of ordinary shares required at
C1,25.
The directors are satisfied that the company’s assets, fairly valued, exceed its liabilities and
that the company will be able to pay its debts as they become due.
Retained earnings at 30 June 20X4 amounted to 60 000. The profit for the year ending
30 June 20X5 has been correctly calculated as C80 000.
Chapter 23 279
Required:
Show the relevant extracts from the statement of financial position, statement of changes in
equity and notes thereto at 30 June 20X5 in terms of International Financial Reporting
Standards.
280 Chapter 23
GAAP: Graded Questions Earnings per share
Chapter 24
Earnings per share
Question Key issues
Section A: Basic and Headline Earnings per share

24.2 Castiel Restatement of comparative earnings per share
Items included in basic earnings
Usefulness of earnings per share relative to profit and diluted earnings per
share
24.3 Glitch Earnings per share: basic
Share movements: issue at market price
Preference shares: non-redeemable, non-cumulative, non-participating
Dividends per share
24.4 Louisianna Earnings per share: basic (Class A and Class B ordinary shares)
Share movements: share split
Dividends per share
24.5 Lauren Earnings per share: basic

Share movements: share split
Dividends per share
24.6 Roger Part A: Basic earnings per share;
Part B: Basic earnings per share and headline earnings per share
Share movements: rights issue
24.7 Matthew Earnings per share: basic
Share movements: rights issue
Preference shares: non-redeemable: non-cumulative: participating and non-
participating
Dividends per share
24.8 Marge Part A: Basic earnings per share;
Preference shares: non-redeemable, non-cumulative: participating
24.9 Thomas Part A: Basic earnings per share;
Share movements: fair value issue, rights issue, capitalisation issue
24.10 Anne Part A: Basic earnings per share;
Share movements: issues over 3 years; issue at market price, rights issue,
share split
Preference shares: non-redeemable: non-cumulative: non-participating
24.11 Aussie Part A: Basic earnings per share;
Share movements: capitalisation issue
Preference shares: non-redeemable: non-cumulative and cumulative, non-
participating
Chapter 24 281
Question Key issues

Section B: Basic, Headline and Diluted Earnings per share
24.13 Supernatural Earnings per share: basic, diluted
Share movements: none
Potential shares: convertible debentures
24.14 Fraxel Part A: Basic and diluted earnings per share;
Part B: Basic and diluted and headline earnings per share
Share movements: Issue at market price
Potential shares: options
24.15 Chipchop Part A: Basic and diluted earnings per share;
Part B: Basic and diluted and headline earnings per share
Share movements: rights issue; issue at market price
Potential shares: options, convertible preference shares
24.16 Cousins Earnings per share: basic and diluted
Share movements: issue at market price, capitalisation issue, share buy-
back
Potential shares: options, contingent shares, convertible preference
shares, convertible debentures
Preference shares:
- non-redeemable, non-cumulative and participating;
- redeemable/ convertible, cumulative and non-participating
24.17 Midday Earnings per share: involving continuing and discontinued operations:
Part A & B: Basic and diluted earnings per share;
Part C & D: Basic and diluted and headline earnings per share
Share movements: rights issue, issue at market price
Potential shares: options, convertible preference shares (redeemable)
282 Chapter 24
Section A: Basic and headline earnings per share
Question 24.1
a) Basic earnings per ordinary share may be presented on the face of the statement of
comprehensive income, in the statement of changes in equity or in the notes to the
financial statements.
Indicate whether this statement is true or false. If it is false, briefly explain why it is false.
b) Earnings per share does not have to be presented in the separate financial statements of
a company that does not have its ordinary shares or potential ordinary shares traded in a
public market (e.g. the Johannesburg Stock Exchange) and is not in the process of filing
the necessary documents for the purpose of issuing its ordinary shares in a public market.
c) A company had profit after tax of C800 000 and a fixed preference dividend of C100 000
(based on the relevant coupon rate) for the financial year ended 31 December 20X1.
There were 250 000 ordinary shares in issue and 200 000 preference shares in issue
throughout this year. The preference shares are non-participating.
Calculate the basic earnings per ordinary share.
d) During the financial year ended 31 December 20X1, a company had profit after tax was
C1 100 000 and a fixed preference dividend of C200 000 (based on the relevant coupon
rate). It had 250 000 ordinary shares and 200 000 preference shares in issue throughout
this year. The preference shares participate to the extent of ⅛ of the ordinary shares.
Calculate the basic earnings per ordinary share.
e) If a company has ordinary shares and participating preference shares, it must present
basic earnings per ordinary share and basic earnings per participating preference share.
f) A company had 132 000 ordinary shares in issue on 1 January 20X2. On 1 April 20X2, it
issued 50 000 ordinary shares at market price and then on 1 September 20X2, it issued
another 48 000 ordinary shares at market price. The basic earnings for the financial year
ended 31 December 20X2 was correctly calculated to be C330 000.
Calculate the basic earnings per share.
g) A company had 350 000 ordinary shares in issue on 1 January 20X2.
x On 1 April 20X2, it issued 50 000 ordinary at market price.
x On 1 June 20X2, it issued 2 shares for every 5 shares held in terms of a rights issue.
x On 1 September 20X2, it performed a share split in which 5 shares became 7 shares.
Calculate the number of shares issued in terms of the rights issue and in terms of the
share split and calculate the total number of shares in issue at 31 December 20X2.
h) A company had 132 000 ordinary shares in issue throughout the year ended
31 December 20X1. On 1 April 20X2, it issued 50 000 ordinary in terms of a capitalisation
issue. The basic earnings were correctly calculated as follows:
x for the financial year ended 31 December 20X2: C330 000 and
x for the financial year ended 31 December 20X1: C250 000.
Calculate the basic earnings per share for the years ended 31 December 20X1 and 20X2.
i) A company had 700 000 ordinary shares in issue on 1 January 20X2.
On 1 April 20X2, it issued 100 000 ordinary, at C2 per share, in terms of a rights issue.
The fair value per share was C2.80 immediately before the issue of these shares.
The basic earnings for the financial year ended 31 December 20X2: C300 000.
Calculate the basic earnings per share for the year ended 31 December 20X2.
Chapter 24 283
Question 24.2
You have recently been appointed the accountant of Castiel Limited. The company wishes to
acquire Princess Limited and has requested your help in the acquisition. Your task was to
perform a ratio analysis of Princess Limited using its annual financial statements for the year
ended 31 December 20X9, including calculating its earnings and dividends per share.
Having reviewed your analysis, the financial director seeks the following information from you:
x A detailed explanation of all the circumstances under which comparative figures for
earnings per share should be restated and why this would be necessary.
x An explanation of why Princess Limited’s profit on sale of investments was included in the
earnings figure used to calculate earnings per share.
x An explanation as to why earnings per share is a better performance indicator than
dividends per share and profit for the year.
Required:
Write an email to the financial director to address each of his queries.
Question 24.3
You are provided with the following extract from the trial balance of Glitch Limited at 31
December 20X1 (with comparatives for 20X0) and some additional information:
GLITCH LIMITED
EXTRACT FROM TRIAL BALANCE
AT 31 DECEMBER
20X1 20X0
C C
Dr / (Cr) Dr / (Cr)
Retained income at beginning of year (94 500) (60 000)
Profit for the year (50 000) (40 000)
Preference dividends declared 2 500 2 500
Ordinary dividend declared 5 000 3 000
x The balances in the share capital accounts at 1 January 20X0 were as follows:
- Ordinary shares: C200 000 (all the ordinary shares were issued at C0,20 per share).
- Non-cumulative, non-redeemable 10% preference shares: C50 000 (all the preference
shares were issued at C1 per share).
x An issue of 500 000 ordinary shares took place on 31 March 20X1 at an issue price of
C0,20 per share.
x There was no other movement in the equity accounts other than the movements evident
from the information provided above.
Required:
Prepare extracts from the statement of comprehensive income and the statement of changes
in equity, as well as the earnings per share note and dividends per share note for inclusion in
the notes to the financial statements of Glitch Limited for the year ended 31 December 20X1,
284 Chapter 24
Question 24.4
LOUISIANNA LIMITED
20X1 20X0
C C
Income tax expense (55 000) (35 500)
Profit for the year 100 000 190 000
Other comprehensive income for the year - -
Total comprehensive income for the year 100 000 190 000
x Issued share capital at 1/1/20X1:
- 50 000 Class A ordinary shares issued for C50 000
- 50 000 Class B ordinary shares, issued for C100 000, which participate to the extent
of 1/9 of the dividend paid to Class A ordinary shareholders
x There was a share split on 1/7/20X1 of 3 Class A ordinary shares for every 1 held.
x Class A ordinary dividend paid on 31/12/20X1 is C20 000 (X0: C10 000).
x There are no components of other comprehensive income in either 20X1 or 20X0.
Required:
Prepare extracts from the statement of comprehensive income and statement of changes in
equity of Louisianna Limited, as well as the earnings per share note and dividends per share
note for inclusion in the notes to the financial statements of Louisianna Limited for the year
ended 31 December 20X1, in accordance with International Financial Reporting Standards.
Question 24.5
You are provided with the following extract from the trial balance of Lauren Limited at
31 December 20X1 (with comparatives for 20X0) and some additional information:
LAUREN LIMITED
EXTRACT FROM TRIAL BALANCE
AT 31 DECEMBER
20X1 20X0
C C
Dr / (Cr) Dr / (Cr)
Retained income at beginning of year (1 252 000) (480 000)
Profit for the year (500 000) (800 000)
Preference dividends declared 6 000 6 000
Ordinary dividend declared 20 000 22 000
x The balances in equity at 1 January 20X0 comprised:
- 100 000 ordinary shares issued at C2 each.
- 20 000 15% non-cumulative non-redeemable preference shares issued at C2 each.
x There was a share split on 1/7/20X1 in which every 1 ordinary share became 2 shares.
Chapter 24 285
Required:
the notes to the financial statements of Lauren Limited for the year ended 31 December
20X1, in accordance with International Financial Reporting Standards.
Question 24.6
ROGER LIMITED
DRAFT RESULTS OF OPERATIONS
20X8 20X7
C C
Profit for the period 350 000 430 000
Ordinary dividend declared (40 000) (30 000)
Preference dividend declared (32 000) (32 000)
Retained earnings for the year 278 000 368 000
Retained earnings - beginning of the year 568 000 200 000
Retained earnings – year end 846 000 568 000
x The company's share capital at year end was as follows:
- C500 000 ordinary shares issued at C0,50 each.
- 200 000 8% non-cumulative non-redeemable preference shares issued at C2 each.
x On 30 September 20X8, the company announced a rights issue of 1 ordinary share for
every 3 shares held at a price of C2,20. The market price at this date was C2,50. All the
shareholders took up the offer on this date.
x The income tax rate for both years was 40%.
Part A:
Use the information provided above.
Required:
the notes to the financial statements of Roger Limited for the year ended 31 December 20X8
Round off all earnings per share calculations to the nearest two decimal places.
Part B:
Use the information provided above together with the following additional information:
x Roger Limited held a piece of land which the directors decided to sell off over two years.
One third of the land was sold during 20X7, resulting in a profit of C37 500 (the taxable
capital gain amounted to C7 500). Land is not depreciated.
x The remaining land was sold in 20X8, and due to a sudden drop in property prices
Roger Limited incurred a loss of C50 000. This loss is a capital loss that may be
286 Chapter 24
deducted from future capital gains in order to reduce future tax. At the end of 20X8,
however, the company did not expect any future capital profits and therefore no deferred tax
was provided on the capital loss of C50 000.
x The C37 500 profit and C50 000 loss have been included in the profit before tax in the
year the respective sale took place.
Required:
the notes to the financial statements of Roger Limited for the year ended 31 December 20X8
in accordance with International Financial Reporting Standards and in accordance with
Circular 4/2018 (i.e. your notes must include headline earnings per share).
Round off all earnings per share calculations to the nearest two decimal places.
Question 24.7
MATTHEW LIMITED
EXTRACTS FROM PRE-ADJUSTMENT TRIAL BALANCE
AT 31 DECEMBER 20X1
20X1 20X0
Debit/(Credit) Debit/(Credit)
Profit after tax (320 000) (290 000)
Fixed non-cumulative non-redeemable preference 4 500 4 500
dividend paid – 31/12
Fixed non-cumulative non-redeemable participating 4 000 4 000
preference dividend paid – 31/12
Ordinary dividend paid – 31/12 10 000 0
The following information was extracted from the statement of financial position and related
notes:
x Issued share capital consists of:

C
- Ordinary shares, issued at 0,70 per share: 1/1/20X1 700 000
- 5% non-cumulative, non-redeemable, non-participating preference shares, 90 000
issued at C1 each: 1/1/20X1
- 20% non-cumulative, non-redeemable, participating preference shares, issued 20 000
at C0,50 each: 1/1/20X1 (these shares participate to the extent of 2/5 of the
ordinary dividend declared).
x There was a rights issue on 30/9/20X1, in terms of which, each ordinary shareholder was
granted the right to purchase one share for every four shares held at C0,70. All the
shares offered were taken up on that day. The market price on this day was C1,40 per
share.
Required:
a) Briefly explain the earnings per share and dividends per share disclosure requirements
relating to each of the three share types in issue and indicate where these line items
should/ may be presented.
b) Prepare, in accordance with International Financial Reporting Standards, the earnings per
share note and dividends per share note for the year ended 31 December 20X1.
Chapter 24 287
Question 24.8
The following information relates to Marge Limited for the year ended 31 December 20X1:
x Issued share capital consists of:
- 500 000 10% non-cumulative non-redeemable participating preference shares
(C1 each) with an additional right to participate in 1/10 of the dividend declared to
ordinary shareholders.
- 4 000 000 ordinary shares of C0,25 each.
x The issued share capital has remained unchanged since 1 January 20X0.
x Profit after tax:
- 20X1: C400 000
- 20X0: C450 000
x Ordinary dividend declared: 20X1: C120 000 and 20X0: C100 000
Part A:
Required:
in equity, as well as the earnings per share note for inclusion in the notes to the financial
statements of Marge Limited for the year ended 31 December 20X1 in accordance with
International Financial Reporting Standards. Dividends per share must be presented on the
face of the statement of changes in equity.
Part B:
x Included in profit for 20X1 is a loss of C150 000 incurred on the sale of land.
Required:
in equity, as well as the earnings per share note for inclusion in the notes to the financial
statements of Marge Limited for the year ended 31 December 20X1 in accordance with
International Financial Reporting Standards and in accordance with Circular 4/2018 (i.e. your
notes must include headline earnings per share).
Part C:
Required:
i) Calculate the basic earnings per participating preference share.
ii) Calculate the headline earnings per participating preference share.
288 Chapter 24
Question 24.9
Thomas Limited was incorporated on 1 January 20X2. An extract of its previous year’s
statement of financial position follows:

AT 31 DECEMBER 20X3
20X3 20X2
EQUITY C C
Ordinary share capital 300 000 110 000
Preference share capital 100 000 100 000
Information regarding its share capital:

x Authorised share capital:
- 400 000 ordinary shares of no par value; and
- 300 000 10% non-redeemable, non-cumulative preference shares of no par value.
x Preference share capital:
- 50 000 preference shares were issued on 1 January 20X2 at C2 each.
- Preference dividends are always declared and paid on 30 December of each year.
x Ordinary share capital:
- 100 000 ordinary shares were issued on 1 January 20X2 at C1,50.
- 170 000 ordinary shares were issued on 30 June 20X3 at C3 each.
- 10 000 ordinary shares were offered to existing shareholders at C6 each on
30 May 20X4, when the market price was C9 each. All 10 000 shares offered were
taken up on this day.
- On 30 November 20X4, there was a capitalisation issue of 2 ordinary shares for every
5 ordinary shares in issue at C1,20 per share.
Other information:
x Share issue costs during 20X4 amount to C15 000.
x The profit for 20X4 was C180 000
x There are no other share issues or reserves other than those mentioned above and no
movements in retained earnings other than the profit earned year on year.
Part A:
Required:
a) Disclose earnings per share in the statement of comprehensive income and notes to the
financial statements of Thomas Limited for the year ended 31 December 20X4 in
b) Calculate the basic earnings per share as it would have been disclosed in the financial
statements for the year ended 31 December 20X3.
c) Show all journal entries relating to the transactions mentioned above for the year ended
31 December 20X4.
Part B:
x The profit for 20X4 was C180 000, after taking into account a loss on sale of land of
C30 000. This loss is a capital loss that may be deducted from future capital gains in
order to reduce future tax. At the end of 20X4, the company did not expect any future
Chapter 24 289
capital profits and therefore no deferred tax was provided on the capital loss of C30 000.
The profit was C150 000 in 20X3 and C100 000 in 20X2.
Required:
a) Disclose earnings per share in the statement of comprehensive income and notes to the
financial statements of Thomas Limited for the year ended 31 December 20X4 in
accordance with International Financial Reporting Standards and in accordance with
Circular 4/2018 (i.e. your notes must include headline earnings per share).
b) Calculate the basic earnings per share as it would have been disclosed in the financial
statements for the year ended 31 December 20X3.
c) Show all journal entries relating to the transactions mentioned above for the year ended
31 December 20X4 .
Question 24.10
The following are the details of the share movements of Anne Limited:
x There were 10 000 shares in issue throughout 20X6;
x 10 000 shares were issued for value on 30 June 20X7;
x 10 000 shares were issued for value on 30 September 20X8;
x There was a rights issue on 30 June 20X9, offering 2 shares for every 3 shares held on
this date at a strike (issue price of C10 each when the market price was C15/ share. All
shares were taken up;
x Shares were split on 30 September 20X9 (splitting 2 shares into 3 shares).
x There were 100 000, 20%, non-redeemable, non-cumulative preference shares (i.e.
treated as equity) initially issued at C10 in issue throughout the three years. The
preference dividends were declared in each of the three years.
x Anne Limited made a profit for the year ended 31 December 20X9 of C700 000
(20X8: C900 000 and 20X7: C800 000).
x The income tax rate for both years was 40%.
Part A:
Required:
Calculate and disclose basic earnings per share in accordance with International Financial
Reporting Standards in Anne Limited’s financial statements for the years ended:
a) 31 December 20X9
b) 31 December 20X8
Part B:
x The following items were included in Anne Limited’s profit for the year
20X9 20X8 20X7
C C C
Profit on sale of land (included in profit before tax) 125 000 250 000 375 000
Tax on the profit on sale of land (included in tax expense) (25 000) (50 000) (75 000)
290 Chapter 24
Required:
Calculate and disclose basic earnings per share (in accordance with International Financial
Reporting Standards) together with the headline earnings per share (in accordance with
Circular 4/2018) in Anne Limited’s financial statements for the years ended:
a) 31 December 20X9
b) 31 December 20X8
Comparatives are not required for part (c).
Question 24.11
Aussie Limited was incorporated in 20X0 with an issued share capital of 150 000 9% cumulative
preference shares issued at C1 each and 150 000 12% non-cumulative preference shares
issued at C1 each and 300 000 ordinary shares issued at C1 each. The preference shares are
non-redeemable. The only changes to this structure were a new issue of 50 000 ordinary
shares at a value of C1,50 on 1 January 20X2 and a capitalisation issue of 1 share for every 5
held on 15 June 20X3.
The abridged statement of comprehensive income and statement of changes in equity of the
company for the years ended 30 September 20X2 and 20X3 are as follows:
AUSSIE LIMITED
FOR THE YEAR ENDED 30 SEPTEMBER
20X3 20X2
C C
Profit for the year 475 000 (10 000)
Total comprehensive income for the year 475 000 (10 000)
AUSSIE LIMITED
EXTRACT FROM STATEMENT OF CHANGES IN EQUITY
FOR THE YEAR ENDED 30 SEPTEMBER
Retained earnings
20X3 20X2
C C
Opening balance 940 000 950 000
Total comprehensive income 475 000 (10 000)
Capitalisation issue of ordinary shares (70 000) 0
Ordinary dividend 105 000 0
9% preference dividend 27 000 0
12% preference dividend 18 000 0
Closing balance 1 195 000 940 000
The income tax rate for both years was 29%.
Part A:
Required:
Disclose the earnings per share and dividends per share in relevant extracts from the financial
statements of Aussie Limited for the year ended 30 September 20X3 in accordance with
Chapter 24 291
Part B:
x The profit before tax in 20X2 includes a profit on disposal of land of C50 000 (the tax on the
capital gain is C7 250).
x The profit before tax in 20X3 includes a loss on sale of land of C70 000. This loss is a
capital loss that may be deducted from future capital gains in order to reduce future tax.
At the end of 20X3, the company did not expect any future capital profits and therefore no
deferred tax was provided on the capital loss of C70 000.
Required:
Disclose the earnings per share and dividends per share in relevant extracts extracts from the
financial statements of Aussie Limited for the year ended 30 September 20X3 in accordance
with International Financial Reporting Standards and in accordance with Circular 4/2018 (i.e.
your notes must include headline earnings per share).
Section B: Basic, headline and diluted earnings per share
Question 24.12
Your employer has approached you to advise him as to whether or not he is correct in his
understanding of IAS 33:
a) All entities must present diluted earnings per share on the face of the statement of
b) We must present the basic and diluted earnings per share from continuing operations
separately from the basic and diluted earnings per share from discontinued operations.
c) Only anti-dilutive potential ordinary shares are used in calculating diluted earnings per
share.
d) Potential ordinary shares are weighted for the period outstanding.
e) In the case of a debenture liability that may be settled in cash or by way of conversion into
an ordinary share, and where this choice of settlement is at the option of the entity,
settlement in ordinary shares is always assumed.
f) Options are the least dilutive of all the possible potential ordinary shares.
Required:
State whether the above statements are true or false. Briefly justify your answer.
Question 24.13
Supernatural Limited is a company owned by two brothers. The company hunts ghosts,
vampires and werewolves and the business has been surprisingly successful since
incorporation. The following information has been provided to you:
x Profit for the year ended 20X5: C30 000 000
x Other comprehensive income for the year ended 20X5: nil
x Ordinary dividends declared during the year ended 20X5: nil
x Supernatural Limited’s share capital and potential share capital at 31 December 20X5 is
as follows:
x There are 1 000 000 000 authorised ordinary shares of no par value, of which 20%
are in issue.
x There are 400 000 convertible debentures in issue.
292 Chapter 24
- These debentures may be converted into ordinary shares in a ratio of 200

ordinary shares for every 1 debenture held, (at the option of the debenture
holder), on 31 December 20X8. Any debentures not converted at this date will be
redeemed at its original issue price.
- Finance charges of C1 500 000 were incurred on these debentures during 20X5.
The finance charges are deductible for tax purposes.
x There were no movements in share capital during 20X5.
Required:
Disclose earnings per share in Supernatural Limited’s financial statements for the year ended
Ignore tax. Comparatives are not required.
Question 24.14
Fraxel Limited made a profit for the year ended 31 December 20X5 of C125 000 but incurred
a loss of C50 000 in 20X4.
Fraxel Limited has 1 000 000 authorised ordinary shares. The following information relates to
the shares issued over the years:
x 100 000 ordinary shares were in issue at 31 December 20X3, all of which were issued at
a price of C1,75 per share.
x 12 000 ordinary shares were issued on 30 November 20X4, all of which were issued at
C2,00 per share.
Fraxel Limited had provided its management structure with 25 000 options during 20X3.
Each option entitles the option-holder to 1 ordinary share at a strike price of C2,00 per share
(the average market price of an ordinary share for 20X5: C2,75). None of the options have
yet been exercised.
Part A:
Required:
Disclose earnings per share in accordance with International Financial Reporting Standards in
Fraxel Limited’s financial statements for the year ended 31 December 20X5.
Part B:
The bookkeeper is unsure what you will be needing in order to calculate earnings per share
(this being your task for the next 20 minutes), but has provided you with a list of absolutely all
the adjustments that relate to re-measurements over the two years, which he has analysed as
follows:
x The list of the re-measurement adjustments that were processed in 20X5:
- Profit on sale of tax-deductible plant: C25 000 (fully taxable).
- Amortisation of tax-deductible patent C5 000
x The list of the re-measurement adjustments that were processed in 20X4:
- Reversal of impairment on tax-deductible plant: C30 000
- Loss on investment in shares measured at fair value through profit or loss: C8 000
- Loss on investment property measured at fair value: C5 000 (tax deductible)
- Revaluation surplus (OCI) on buildings: C20 000
Chapter 24 293
Required:
Disclose both the earnings per share (in accordance with International Financial Reporting
Standards) together with the headline earnings per share (in accordance with Circular 4/2018)
in Fraxel Limited’s financial statements for the year ended 31 December 20X5.
Question 24.15
The following relates to Chipchop Limited for the year ended 31 December 20X5:
x Profit for the year C200 000 (20X4: C135 000).
x 1 January 20X4: 250 000 ordinary shares were issued at C5,00 each.
x 30 September 20X4: there was a rights issue on a basis of 1 ordinary share issued for
every 5 already held at a price of C6,00. The market value of the ordinary shares
immediately before the rights issue was C7,50 per share.
x 31 May 20X5: 50 000 ordinary shares were issued at price of C5 per share.
x There are 25 000 options in existence, each of which allows the holder to acquire four
shares at a strike price of C7,00 per share. The options have already vested but will only
expire in many years to come. The average market price per ordinary share for 20X4 and
20X5 was C8,00. These options were in existence throughout 20X4 and 20X5.
x Preference shares in issue are convertible (at the option of the preference shareholders)
into 50 000 ordinary shares on 31 December 20X7.
- If not converted, the preference shares will be redeemed on 31 December 20X7.
- Dividends of C1 000 are incurred annually on these preference shares (these have
been correctly accounted for as finance charges).
- The preference shares were in existence throughout 20X4 and 20X5.
x Income tax is levied at 30%.
Part A:
For this part of the question, consider all information above
Required:
Disclose earnings per share in the financial statements of Chipchop Limited for the year
ended 31 December 20X5 in accordance with International Financial Reporting Standards.
Part B:
For this part of the question, consider all of the relevant information, as well as the following:
x Profit for the year C200 000 (20X4: C135 000).This profit includes a profit on sale of plant
of (before tax) C30 000 (20X4: C0).
Required:
Disclose earnings per share in the financial statements of Chipchop Limited for the year
ended 31 December 20X5 in accordance with International Financial Reporting Standards
and in accordance with Circular 4/2018 (i.e. your notes must include headline earnings per
share).
294 Chapter 24
Question 24.16
The following information is available for Cousins Limited at 31 December 20X8:
20X8 20X7 20X6

C C C
Profit for the year 650 000 550 000 400 000
Issued ordinary shares ? ? 683 750

10 000 12% participating preference shares 200 000 200 000 200 000
75 000 7% convertible preference shares 225 000 225 000 0
Options N/A N/A N/A
40 000 10% convertible debentures 16 000 0 0
x The ordinary shares were all issued at C1 each.
x The 12% participating preference shares were all issued at C20 each.
- The participating preference shares are non-redeemable and non-cumulative, and
participate to the extent of C1 for every C11 paid to ordinary shareholders.
x The 7% convertible preference shares were all issued at C3 each.
- The convertible preference shares (recognised as a liability) are cumulative and
convertible at the option of the preference shareholder into ordinary shares at a rate
of three ordinary shares for every four convertible preference shares on
31 December 20X8.
- The preference dividend was declared in 20X8 together with the 20X7 preference
dividends (recognised as finance costs on the preference share liability).
- Finance costs deducted in arriving at profit after tax amount to C15 750.
x The 10% convertible debentures were all issued at C4 each.
- These debentures are convertible on 28 February 20X9 at the option of the debenture
holders into Cousins Limited ordinary shares at a rate of two ordinary shares for every
seven debentures.
- If not converted into ordinary shares they will be redeemed on 28 February 20X9.
x On 31 March 20X7, 50 000 ordinary shares were issued.
x On 1 May 20X7, 165 000 ordinary shares were issued in terms of a capitalisation of
reserves.
x The directors of Cousins Limited were offered 25 000 shares, contingently issuable upon
Brothers Limited generating total revenue of C50 million over five years.
Cousins Limited’s revenue for the year ended 31 December 20X8 was C30 million
(20X7: C30 million).
x On 1 January 20X8, options were issued offering the acquisition of 67 500 ordinary
shares in Cousins Limited after 1 January 20X9 at a strike price of C4 per share.
The average market price of the shares during 20X8 was C9 per share.
x On 30 September 20X8, Cousins Limited undertook a share buy-back of 200 000 ordinary
shares at C5 per share.
Required:
Disclose earnings per share in the financial statements of Cousins Limited for the year ended
Chapter 24 295
Question 24.17
The following relates to Midday Limited for the year ended 31 December 20X5:
x Profit for the year C500 000 (20X4: C337 500). This profit includes a profit from
discontinued operations on the sale of plant (before tax) of C75 000 (20X4: C0).
x On 1 January 20X4 there were 250 000 ordinary shares in issue, issued at a price of
C5,00. On the 30 September 20X4 there was a rights issue on a basis of 1 ordinary share
issued for every 5 already held at a price of C6,00. The market value of the ordinary
shares immediately before the rights issue was C7,50 per share. On 31 May 20X5 there
was an issue of 50 000 ordinary shares at market price (C5 per share).
x There are 25 000 options in existence, each of which allows the holder to acquire four
shares at a strike price of C10,00 per share. The options have already vested but will only
expire in many years to come. The average market price per ordinary share for 20X4 and
20X5 was C12,00. These options were in existence throughout 20X4 and 20X5.
x Current income tax is levied at 30%.
Part A:
For this part of the question, use the information provided in the main body of the question
together with the following additional information:
into 50 000 ordinary shares on 31 December 20X7.
- If not converted, the preference shares will be redeemed on 31 December 20X7.
- Dividends of C1 000 are incurred annually on these preference shares (these have
been correctly accounted for as finance charges).
- The preference shares were in existence throughout 20X4 and 20X5.
Required:
Disclose basic and diluted earnings per share in the financial statements of Midday Limited
Part B:
together with the following additional information:
into 500 ordinary shares on 31 December 20X7. If not converted, the preference shares
will be redeemed on 31 December 20X7. Dividends of C1 000 are incurred annually on
these preference shares (these have been correctly accounted for as finance charges).
The preference shares were in existence throughout 20X4 and 20X5.
Required:
Disclose basic and diluted earnings per share in the financial statements of Midday Limited
Part C:
together with the additional information provided in Part A.
296 Chapter 24
Required:
Disclose basic, diluted and headline earnings per share in the financial statements of
Midday Limited for the year ended 31 December 20X5.
Part D:
together with the additional information provided in Part B.
Required:
Disclose basic, diluted and headline earnings per share in the financial statements of
Midday Limited for the year ended 31 December 20X5.
Chapter 24 297
GAAP: Graded Questions Fair value measurement
Chapter 25
Fair value measurement
Question Key issues
25.3 Oliver King Measurement of fair value in terms of the principal or most advantageous
markets
25.4 Shangri-La General understanding of the measurement of fair value in terms of the
principal or most advantageous markets
25.5 Ynos General understanding of the highest and best use principle and identifying
principal market
25.6 Chokwa General understanding of definitions and fundamental concepts, with

specific reference to principle and most advantageous markets
25.7 Snow White Fair value measurement: non-financial assets
25.8 Helen Fair value measurement: financial assets (including fair value hierarchy)
25.9 Hansel Fair value measurement: financial liabilities and an entity’s own equity
instruments
25.10 Lindani Fair value hierarchy: assessment of the levels – financial assets and
disclosure
298 Chapter 25
Question 25.1
a) Define the term ‘fair value’ and briefly explain whether it is an entity-specific or a market-
specific measurement.
b) List the standards to which IFRS 13 Fair value measurement does not apply at all.
c) Briefly explain the difference between the term principal market and the term most advantageous
market.
d) What is the definition of ‘highest and best use’ and when do we need to consider highest
and best use?
e) List the three valuation techniques referred to in IFRS 13 Fair value measurement.
f) The inputs used when applying a valuation technique are categorised into three different
types. Briefly outline the different input types and identify how we would categorise a
quoted price of an identical asset in an inactive market.
Required:
Question 25.2
a) The fair value of an asset or liability must take into consideration the specific
characteristics of that asset or liability.
b) Fair value is measured in terms of the most advantageous market unless a most
advantageous market does not exist, in which case we must measure the fair value in
terms of the principal market instead.
c) Transport costs are considered to be a transaction cost and since fair value is measured
after taking into account all transaction costs, the transport costs that would be incurred to
sell an asset must also be taken into account when measuring fair value.
d) The measurement and disclosure requirements of IFRS 13 Fair value measurement apply to
fair values used when applying, for example, IFRS 16 Leases or IAS 36 Impairment of assets.
e) The most advantageous market is the market that would maximise the amount that would
be paid to buy an asset, after also taking into consideration certain specific costs.
f) Transaction costs are always deducted from the market price when measuring fair value
in terms of the principal market.
g) Transaction costs are always deducted from the market price when determining which
market is the most advantageous market.
h) Transport costs are never deducted from the market price when measuring fair value.
i) The highest and best use of a non-financial asset takes into account the use of the asset
that is financially possible, physically feasible and legally permissible.
j) The use of a risk premium in the fair value measurement of an asset or liability qualifies
as a level 2 input.
k) A valuation technique that uses a quoted price of an identical asset in an inactive market
is categorised as a level 2 input.
Required:
Indicate whether the above statements are ‘true’ or ‘false’.
Question 25.3
Chapter 25 299
After being shipwrecked on an island for five years, Oliver King returned home to Moon Town.
Oliver’s father immediately hired him to fill the vacant position of financial director in the family
business – King Consolidated.
Oliver King has forgotten all the accounting lessons he learned at university, and thus has a poor
understanding of IFRS 13 Fair value measurement. Oliver has sent you, an IFRS consultant at Help
Consultants, the following email in which he has requested assistance with certain aspects of
IFRS 13 Fair value measurement.
To: Genius@helpconsult.co.za
From: Oliver.King@kingconsolidated.com
Subject: Query regarding IFRS 13
Date: 01/01/20X1
Dear IFRS consultant
Recently I was asked to determine what the fair value of an asset should be. As I was away
for five years, my knowledge of IFRS 13 is poor and I need your help. I have set out the
information below:
The asset could be sold in either Durban or Johannesburg:

x If the asset is sold in Durban, the selling price will be C10 800, the transport costs will be
C1 200 and the transaction costs would be C1 200.
x If the asset is sold in Johannesburg, the selling price will be C10 000, the transport costs
will be C800 and the transaction costs would be C400.
Please could you explain how the fair value should be measured assuming that:
a) Durban is the principal market;
b) Johannesburg is the principal market;
c) There is no principal market.
Your help would be greatly appreciated
Kind regards
Oliver King
Required:
Write a letter responding to each of Oliver King’s queries regarding IFRS 13 Fair value measurement.
Question 25.4
Shangri-La Limited has developed what it believes to be a special compass which will ensure
that its user will never get lost, particularly in mountainous terrain. It does this by using a
special type of magnetic technology to calibrate the position of the compass. It sells these
compasses in two markets.
Presently Shangri-La can sell the compasses in the Kyrat market (for avid explorers) and the
Cape Explorer market (for local customers). The returns generated in each of these markets
is illustrated below:
Market Return
Cape Explorer C105
Kyrat C168
300 Chapter 25
Shangri-La mainly trades in the Kyrat market, since this is the market that generates the highest
return, though higher transaction volumes occur in the Cape Explorer market due to wealthy retail
customers requiring specialised Christmas gifts for overly ambitious trail runners.
Required:
Identify the fair value and explain the reason for your answer.
Question 25.5
The present financial year is 20X3, ending on 31 December.
Ynos Limited manufactures and sells mobile devices on a wholesale basis to mobile retailers.
Presently, its best-selling device is the YS21, which functions as a tablet. This was one of the
first tablets to be introduced to the market and consequently it possesses exceptional brand
power, even today. As demand for the YS21 increased, Ynos purchased a new
manufacturing machine (in January 20X1) to enable it to meet the demand.
During 20X2 and 20X3, however, increased competition from a number of South American
manufacturers has gradually eroded the YS21’s market share, and so Ynos has embarked on
a diversification programme. This will take the form of a reduction in production of the YS21
and the introduction of Serendipity, an advanced camera-smartphone that will compete in the
both the camera and smartphone markets.
Due to the planned reduced production levels of YS21 tablets, management decided to sell
the original machine and keep the newer machine (purchased in January 20X1). The original
machine is currently not operating at optimal capacity, producing only 990 YS21 tablets per
month. Since the date management decided to sell the original machine, it met all criteria to
be classified as a non-current asset held for sale per IFRS 5 Non-current assets held for sale
and discontinued operations.
The fair value of the machine must be measured at the date on which it met the criteria to be
classified as ‘held for sale’. This date is 31 December 20X3. The accountant decided to use
the income approach to measure the fair value of this machine. She estimated the fair value
at C99 000, based on the current monthly production levels of 990 YS21s, but also estimated
that the fair value would be C118 800 if monthly production levels of 1 485 YS21s could be
achieved (1 485 units per month reflects the full utilisable capacity of the machine).
Required:
Briefly explain whether the accountant’s fair value measurement of C99 000 is correct or not.
Question 25.6
Chokwa Safari Lodge recently entered into an agreement for a concession from the Kruger National
Park. This concession would allow Chokwa to build a luxury lodge and operate a private game
reserve for a 50-year period on a 12 000 hectare area of land to the west of the Timbavati River.
Chokwa has correctly accounted for the concession per IAS 38 – Intangible Assets. It initially
measured it at its cost of C70 million. As part of the concession, Chokwa agreed to purchase
a private jet to transport its most frequent clients – internationally recognisable and influential
people from government, business and entertainment.
The jet (Bateluer 1200) was purchased for C160 000 and Chokwa elected to revalue it to fair value
at the end of each year. The jet is sold in three different aircraft markets; Northern Africa, East Asia
and Western Europe. In order to sell the jet, Chokwa would incur transportation costs to fly the jet to
the relevant market. A transaction fee is also normally charged in each of the three markets. The
market transaction fee is illustrated in the table overleaf. Due to Chokwa’s relationship with many
influential business people, they can negotiate a 5% premium to the selling price.
Chapter 25 301
Jet: Bateluer 1200 Northern Africa East Asia Western Europe

Selling price per jet C192 000 C160 000 C320 000
Average sales transactions per annum 100 100 80
Market entry fee C32 000 C32 000 C32 000
Transportation costs (for Chokwa) C32 000 C16 000 C16 000
Transaction fee (based on selling price) 10% 10% 10%
Due to heightened competition from East Asian aircraft manufacturers, sales of the Bateluer
1200 began decreasing in the East Asia market.
x During the current year, China issued a formal request to all countries in East Asia to stop
purchasing the Bateluer 1200 jet and purchase jets manufactured by Chinese aircraft
producers instead.
x Because of this, the East Asia market for the Bateluer 1200 has collapsed (the effect
thereof is reflected in the selling price in East Asia, quoted in the above table), leading to
speculation that the price for the jet could increase by around 50% based on their
currently depressed selling prices.
Required:
Discuss what Chokwa’s measurement of the fair value of the Bateluer 1200 should be. Your
answer should include a detailed analysis of all three markets, indicating the principal market
and the most advantageous market as well as the final measurement of the fair value of the jet.
Question 25.7
After settling down with Prince Charming, Snow White became somewhat bored with ‘happily
ever after’ and decided to sell off some of her possessions to fund a trip to Bali. Being a
princess, Snow White had countless items of jewellery but very little knowledge in what her
jewellery collection is worth. She decided that it would be best if she first determined the fair
value of her jewellery before she went ahead and sold her collection.
Upon examining her jewellery collection, Snow White identified a particular set of jewellery
(i.e. various items of jewellery that are intended to be worn together) that she wished to sell
first. This set includes the following items of jewellery:
x one pair of earrings,
x one necklace and
x one brooch.
This set was received as a gift when the market value, per item, was as follows:
Market Value
Pair of earrings C30 000
Necklace C75 000
Brooch C50 000
The kingdom of Happily Ever After has a vibrant market for jewellery which Snow White has
established is, in fact, the principal market for jewellery sales. Two primary buyers exist within
this principal market, namely the Seven Dwarves (their jewellery buying has increased
drastically since they began dating other dwarves) and the Queen.
The Queen primarily uses the jewellery that she buys to create malicious devices to ruin the
‘happily ever after’ dreams of others. This process is rather costly as it requires the Queen to
melt the jewellery and extract the raw components (gold and jewels), which are then sold to
Rumpelstiltskin, at a standard price of C120 000 per item (e.g. C120 000 for a pair of earrings
and C120 000 for a necklace etc), who uses them to concoct wicked tricks.
302 Chapter 25
The Queen, having fallen out of grace with the kingdom after Prince Charming took control, is
financially dependent on her sale of raw components to Rumpelstiltskin to survive. If the
Queen bought the jewellery, she would typically pay the following per item:
Price
Necklace C90 000
Brooch C65 000
The queen would incur conversion costs as follows:
Conversion costs
Necklace C10 000
Brooch C70 000
As the Queen has no desire to ever wear the princess’s jewellery, if she were to transact with
the princess, she would buy the pieces on an individual basis.
The Seven Dwarves, on the other hand, adore spoiling their newfound loves and avidly hunt
beautiful collections of jewellery to give as gifts. The Seven Dwarves believe that jewellery
should be purchased as a set wherever possible but are not averse to the idea of buying the
pieces individually. As the Seven Dwarves all buy simultaneously, they often negotiate bulk
discounts on their purchases, the prices for the jewellery are seen below:
Value as a set Price as part of a set Price as part of a set,

after bulk discount
Pair of earrings C50 000 C45 000
Necklace C80 000 C75 000
Brooch C75 000 C70 000
Price for a set C205 000 C190 000
Value in isolation (i.e. sold as Price in isolation Price in isolation,

individual items rather than as a set) after bulk discount
Pair of earrings C55 000 C50 000
Necklace C75 000 C70 000
Brooch C80 000 C75 000
Required:
Discuss, in detail, the fair value measurement of this particular set of jewellery.
Question 25.8
Aliena Limited functions as an asset management company, employing a variety of trading

techniques to unlock value for its clients. Presently they are busy with the preparation of their
financial statements for the current financial period. You are employed by the entity as a
technical expert on IFRS, and as such you are actively involved in preparing the financial
statements. At the moment, there is one particular issue that is causing difficulties for
management and you have been asked to provide an opinion on the matter.
The company had purchased 1 000 000 shares in Rook Limited on the advice of a
consultancy, Future Analysts. Rook Limited is a company listed on the local securities
exchange. The shares were purchased because they had, historically, been trading very well,
and the analysts at Future Analysts had convinced management, at the time of the purchase,
that the share would continue to do well into the future.
Chapter 25 303
At the current reporting date, the securities exchange showed that Rook Limited was trading a
bid price of C360 and an ask price of C300, with a bid-ask spread of C60.
However, in the process of gathering information, you requested an opinion from an expert at
Reiters Inc. on the absorption capability of the market were Aliena Limited to sell its entire
holding. The expert responded by saying that he concluded that full absorption at current
securities prices would not be possible. Accordingly, the bid price was C330, the ask price
C270, and the bid-ask spread C60.
Required:
Explain, with reference to IFRS 13 Fair value measurement, how the fair value of this
investment in shares should be measured and identify whether the inputs into this calculation
would be considered level 1, level 2 or level 3 inputs.
Question 25.9
Hansel Limited is an unlisted company. The following two parts are unrelated.
Part A
Two years ago, it took out a loan from Gretel Bank with a face value of C1 700 000. None of
the capital on the loan has thus far been repaid. The loan presently has a discount of 5% due
to a highly competitive loan market following a decrease in interest rates by the Reserve Bank
earlier this year.
Part B
To finance a new bakery, Hansel elected to issue preference shares. These shares were separately
listed when they were sold 18 months ago, however due to a decline in the liquidity of these shares
they were recently de-listed. Two months ago, prior to de-listing, they were trading at C17 000 per
share. When they were delisted, their value had dropped to C13 600 per share.
Based on independent research, Witch Analysts Inc. have indicated that holders of these
preference shares have value of around C7 650 per share.
Required:
Discuss how Hansel Limited should measure the fair value of its loan liability and equity
preference shares.
Question 25.10
Lindani is a CA(SA) and forms part of the valuations team which forms part of the advisory,
rather than the assurance function, at Pinnacle Inc. Presently he is performing some work for
a client, JV Investments Limited, in helping them arrive at appropriate fair value
measurements per IFRS 13 Fair value measurement.
You are a first-year audit trainee and since you were in the office without any allocated work,
you were assigned to help Lindani with his valuations work. He sees that you have some
promise, so he has asked you to look at a number of different instruments and to assess how
best to go about valuing these. Further, he has asked that you consider the disclosure
requirements that JV Investments would need to comply with.
Details of the various instruments are presented in the table overleaf:
304 Chapter 25
Instrument type Description

Corporate bonds JV holds corporate bonds which are not actively traded in the South
African bond market. Bond yield-curves, volatility indicators and daily
price fluctuations are readily available.
Debentures A dual-instrument, issued by JV, with both an equity and liability
component, classified by JV as being held at fair value through other
comprehensive income. These debentures are actively traded on the JSE.
Ordinary shares Shares held in AP Limited, a company listed on the JSE. AP Limited
forms part of the Top40 index on the JSE.
Ordinary shares Shares held in a private company, Sentec. While financial information,
including their weighted average cost of capital is readily available, there
is no active market for their shares.
Ordinary shares Shares held in a dual-listed company SchlenterHoff Limited. The shares
are traded in Frankfurt, London and Johannesburg at differing prices
based on currency fluctuations.
Required:
Prepare a report for Lindani to explain what level within the fair value hierarchy each valuation
would be included, and briefly list the disclosure considerations of each.
Chapter 25 305
GAAP: Graded Questions Accounting policies, changes in accounting estimates and errors
Chapter 26
Accounting policies,
changes in accounting estimates and errors
Question Key issues
26.2 - IAS 8: Change in estimate with

IAS 16: Property, plant and equipment (depreciation change: diminishing balance to
straight-line depreciation);
IAS 8: Classification as either change in accounting policy/estimate with
IAS 2: Inventories (cost formula change: weighted average to first-in, first-out)
26.3 Mc Dreamy IAS 16: Property, plant and equipment
IAS 8: Change in estimate: residual value decreases: reallocation method
Part A: Residual value decreased
Part B: Residual value increased
Part C: Residual value increased above carrying amount
26.4 Scarlet IAS 16: Property, plant and equipment
IAS 8: Change in estimate: useful life
Part A: Reallocation method
Part B: Cumulative catch up method
26.5 Meek IAS 16: Property, plant and equipment
IAS 8: Change in estimate: useful life
Part A: Reallocation method
Part B: Cumulative catch-up method
26.6 Pinnacle IAS 16: Property, plant and equipment
IAS 8: Change in estimate: method: reallocation method
26.7 Fields IAS 2: Inventory
IAS 12: Income taxation
IAS 8: Correction of error: inventory sold included in closing inventory
26.8 Honest IAS 12: Tax assessments were correct
IAS 8: Correction of error: depreciable asset expensed
26.9 Apple IAS 12: Tax assessments were incorrect and to be re-opened
IAS 8: Correction of error: depreciable asset expensed
26.10 Winter IAS 38: Intangible assets
IAS 8: Correction of error: incorrect useful life
26.11 Hot IAS 2: Inventory measurement:
IAS 12: Tax assessments were incorrect and to be re-opened
IAS 8: Correction of error versus Change in accounting policy
Part A: Correction of error
Part B: Change in policy
26.12 Poseidon IAS 16: Property, plant and equipment
IAS 12: Tax assessments were correct
IAS 8: Correction of error: expense capitalised as a depreciable asset
IAS 8: Change in estimate: useful life and residual value: reallocation method
26.13 Cinnamon IAS 16: Property, plant and equipment
IAS 12: Tax assessments were incorrect but will be corrected in current year
IAS 8: Change in estimate: useful life: RAM
IAS 8: Correction of error (CY): expense capitalised as a depreciable asset
IAS 8: Correction of error (CY): PAYE recognised as revenue
306 Chapter 26
Question 26.1
a) Accounting policies are defined as the principles and rules, as set out in the International
Financial Reporting Standards, that an entity applies in preparing and presenting its
financial statements.
b) Any change to an accounting estimate must be accounted for prospectively whereas any
change in accounting policy must be accounted for retrospectively.
c) When accounting for a change in accounting policy retrospectively, we process
adjustments relating to all current and prior periods affected, including prior periods that
will not be presented as comparatives.
d) When accounting for a change in accounting policy where retrospective application of the
new policy is technically required but is impracticable to achieve, the change in
accounting policy is accounted for prospectively instead.
e) Entities are entitled to change any accounting policy, on condition that the change is
either required by an IFRS or is a voluntary change that results in information that is
relevant and more reliable.
f) IAS 8 defines the term ‘accounting policies’ but does not define the term ‘accounting
estimates’.
g) A change in a measurement basis is accounted for as a change in estimate.
h) If an error is found, it must be corrected, with the correcting adjustments processed
retrospectively.
i) An omission or misstatement is considered to be material if it, individually, could affect the
economic decisions made by the users of the financial statements.
j) The correction of a material prior year error will affect the measurement of deferred tax.
Required:
State, giving reasons, if the above statements are true or false.
Question 26.2
“A change in the measurement basis applied is a change in an accounting policy and is not a
change in an accounting estimate. When it is difficult to distinguish a change in an accounting
policy from a change in an accounting estimate, the change is treated as a change in an
accounting estimate.” IAS 8.35
Required:
a) Explain the accounting treatment for a change from the reducing balance method of
depreciation to the straight-line method of depreciation.
b) Explain the accounting treatment for a change from the weighted average (WA) method to
a first-in, first-out (FIFO) method for valuing the cost of inventory.
Question 26.3
Part A:
Mc Dreamy Limited owns a surgical table and other miscellaneous surgery instruments.
Details thereof are as follows:
Cost C50 000
Purchase date 01/01/20X3
Chapter 26 307
Variables of depreciation:
- Depreciation method Straight-line
- Estimated useful life (estimated on date of purchase) 10 years
- Residual value (estimated on date of purchase) C5 000
During 20X9, the estimated residual value decreased to C3 000. Mc Dreamy Limited uses the
reallocation method to record changes in accounting estimates.
Required:
a) Disclose the ‘change in estimate’ note and the separately disclosable item: depreciation,
for the year ended 31 December 20X9;
b) Provide the necessary journal entries assuming that depreciation had not yet been
processed in the financial records for 20X9;
c) Provide the necessary journal entries assuming that depreciation based on the old
estimate had already been processed in the financial records for 20X9.
Part B:
Use the information provided in Part A except that the residual value increased to C7 500.
Required:
Part C:
Use the information from Part A except that the residual value increased to C25 000.
Required:
Ignore tax.
Question 26.4
Part A:
Ms Scarlet is a very successful business woman who owns her own photo printing company,
Scarlet Limited. Ms Scarlet saw a great business opportunity in the printing sector, printing
classic pictures onto different materials, such as board, canvas and fabric.
308 Chapter 26
The company owns very costly printing equipment, which was purchased on 1 April 20X1 at a
cost of C1 020 000. The equipment originally had an estimated useful life of 6 years and was
depreciated to a nil residual value on the straight-line basis.
On 1 April 20X3, the total useful life of the equipment was re-estimated to be 10 years. Selfies
Limited uses the re-allocation method to account for changes in accounting estimates.
The tax authorities levy tax on taxable profits at 30% and use a 6-year period for purposes of
calculating the wear and tear allowance.
Required:
a) Show the depreciation journals necessary from the information provided, assuming:
i) Depreciation had not yet been processed for the year ended 31 March 20X4.
ii) Depreciation based on the old estimate had already been processed for the year
b) Show the related deferred tax journal for the year ended 31 March 20X4 assuming that
both depreciation and the tax for the year had already been processed.
c) Show how the above-mentioned information would be disclosed in the notes to the
financial statements of Scarlet Limited for the year ended 31 March 20X4.
Include both the ‘statement of compliance’ and the ‘accounting policy note for property,
plant and equipment’.
Part B:
Use the same information as that provided in Part A except that the company uses the
cumulative catch-up method to account for changes in estimate.
Required:
Repeat parts (a) – (c) shown under Part A above.
Question 26.5
Part A:
Meek Limited operates a courier service, delivering parcels and important documents in big
cities around the country. The company owns a fleet of motorbikes, accounted for as
property, plant and equipment.
x The fleet of motorbikes was purchased on 1 January 20X6 at a cost of C2 000 000, on
which date the total useful life was estimated to be 20 years. The residual value was
estimated to be nil and depreciation is provided on the straight-line basis.
x During the year ended 31 December 20X9, the total estimated useful life of the
motorbikes was re-estimated to be 13 years calculated as from 1 January 20X9. The
estimated residual value remained unchanged.
x The company uses the re-allocation method to account for changes in estimates.
x Meek Limited does not own any other items of property, plant and equipment.
The depreciation expense for the year has been processed based on the old estimate.
Chapter 26 309
You are given the following statement of comprehensive income (shown overleaf) for the year
ended 31 December 20X9, drafted before making any adjustments that may be necessary for
the effects of the change in estimate.
MEEK LIMITED
DRAFT STATEMENT OF COMPREHENSIVE INCOME
20X9 20X8
C C
Profit before taxation 500 000 650 000
Other comprehensive income 0 0
Total comprehensive income 320 000 350 000
The corporate tax rate is 30%.
Required:
a) Prepare the journal entries to account for the change in estimate in the accounting
records of Meek Limited for the year ended 31 December 20X9.
b) Prepare the notes to the financial statements of Meek Limited for the year ended
Accounting policies are required.
c) Prepare the statement of comprehensive income of Meek Limited for the year ended
d) Disclose property, plant and equipment in the statement of financial position of
Meek Limited as at 31 December 20X9 in accordance with International Financial
Part B:
Use the same information as that provided in Part A except that the company uses the
cumulative catch-up method to account for changes in estimate.
Required:
Repeat parts (a) – (d) shown under Part A above.
Question 26.6
Pinnacle Limited owns equipment that had been purchased for C200 000 on 1 January 20X1.
This equipment has been depreciated at 20% per annum on the reducing balance method but,
during 20X4, management made the decision to change the method of depreciation to the
straight-line method instead. In this regard, management estimated the equipment’s remaining
useful life to be 3 years (calculated from 1 January 20X4) and that its residual value is C6 400.
Pinnacle Limited uses the re-allocation method to account for changes in accounting estimates.
The following statements were drafted for inclusion in Pinnacle’s financial statements for the
year ended 31 December 20X4, but before taking into account the decision to change the
method of depreciating equipment (i.e. journal entries processed had been based on the old
method of estimating depreciation).
310 Chapter 26
PINNACLE LIMITED
STATEMENT OF COMPREHENSIVE INCOME (DRAFT)
20X4 20X3
C C
Revenue 320 000 260 000
Profit before depreciation 152 080 120 000
Depreciation – equipment (20 480) (25 600)
Income tax expense: (52 640) (37 760)
- Current 44 832 32 000
- Deferred 7 808 5 760

PINNACLE LIMITED
STATEMENT OF CHANGES IN EQUITY (DRAFT)
Share capital Retained earnings Total
C C C
Balance: 1 January 20X3 100 000 (16 000) 84 000
Dividends (4 000) (4 000)
Balance: 31 December 20X3 100 000 36 640 136 640
Dividends (6 000) (6 000)
Balance: 31 December 20X4 100 000 109 600 209 600
x The tax rate is 40% (this has remained constant since 20X1).
x The tax authority allows the deduction of the cost of equipment over 4 years: 40% in the
first year and 20% in each of the 3 years thereafter.
Required:
a) Prepare the journal entries that would be necessary to account for the change in
estimate in the financial year ended 31 December 20X4.
b) Prepare the following for inclusion in Pinnacle Limited’s financial statements for the year
ended 31 December 20X4, in compliance with International Financial Reporting Standards:
x statement of comprehensive income,
x statement of changes in equity, and
x the following related notes:
statement of compliance
property, plant and equipment accounting policy
profit before tax
income taxation expense
change in accounting estimate.
Question 26.7
The accountant of Field Limited discovered an error while he was busy preparing the financial
statements for the year ended 31 December 20X2: he discovered that inventory that had been sold
during 20X1, but which had not yet been collected by the customer, had been included in the
stock count at 31 December 20X1.
Chapter 26 311
As a result, the cost of this inventory had been included in the closing inventory at
31 December 20X1. The cost of this inventory is C2 750 and is considered to be material. Field
Limited uses the periodic system to account for inventory.
The following are the draft statements, before correcting the error, that were being prepared for
inclusion in Field Limited’s published annual financial report for the year ended 31 December 20X2:
FIELD LIMITED
STATEMENT OF CHANGES IN EQUITY (EXTRACT)
Share Retained Total
capital earnings equity
C C C
Balance – 1 January 20X1 12 500 10 000 22 500
Total comprehensive income – 20X1 7 000 7 000
Balance – 31 December 20X1 12 500 17 000 29 500
Balance – 1 January 20X2 12 500 10 000 22 500
Balance – 31 December 20X2 12 500 16 125 28 625
FIELD LIMITED
STATEMENT OF COMPREHENSIVE INCOME (EXTRACT)
20X2 20X1
C C
Revenue 52 000 36 750
Cost of sales (34 000) (22 250)
Gross profit 18 000 14 500
Operating costs (9 250) (4 500)
x The corporate income tax rate has remained constant at 30%.
x All income is taxable, and all expenses are tax deductible.
Required:
Prepare the following for inclusion in Field Limited’s annual financial report for the year ended
31 December 20X2 and in accordance with International Financial Reporting Standards:
x Statement of changes in equity.
Notes to the financial statements are not required.
Question 26.8
Honest Limited is an engineering company. It purchased its only item of equipment on

2 January 20X1 at a cost of C100 000.
During the 20X2 financial year it was discovered that:

x The purchase of this equipment had been recorded as a repair expense.
x Depreciation on the equipment should have been provided at 10% per annum to a nil
residual value on the straight-line basis.
The profit before depreciation and repair expenses for the 20X1 financial year was C2 000 000.
312 Chapter 26
The tax authorities allow a wear and tear allowance of 10% per annum on the cost of the
equipment, also on the straight-line basis. The correct information had been submitted to the
tax authorities for tax assessment purposes.
The corporate tax rate is 30% (unchanged for many years).
Required:
a) Prepare the correcting journal entries that are processed in the 20X2 year.
b) Prepare the correcting journal entries that would have been processed if the error was
discovered at the end of the 20X1 year.
c) Explain how your answer would have changed had the error made in 20X1 and
discovered in 20X2 affected the information submitted for tax assessment purposes (i.e.
the information submitted to the tax authorities was also incorrect) and that the tax
authorities would thus re-open all prior incorrect assessments and re-assess the company
Question 26.9
Apple Limited is a small company involved in tree-felling. During an annual review by a local
firm of auditors, it was discovered that a vehicle used to remove tree trunks from properties
did not appear in the financial records. Upon investigation, it was found that this vehicle,
which had been purchased on 2 January 20X3 for C500 000 had been expensed as a rental
expense. To make matters worse, this expense had been claimed (and allowed) as a tax
deduction when submitting the 20X3 tax assessment. The tax authorities will be reopening
this assessment and recalculating the tax owed for the 20X3 tax year of assessment.
The vehicle has a useful life of ten years with no residual value and a suitable method of
depreciation is the straight-line method.
No entries relating to this vehicle have yet been made in the current year’s accounting records.
Profit before tax was reported at C350 000 in 20X4 and at C250 000 in 20X3.

x The corporate tax rate is 30% and this has remained unchanged for the past 10 years.
x The cost of vehicles is allowed as a deduction over 4 years, apportioned for part of a year.
x There were no temporary differences or items of exempt income or non-deductible
expenses other than those that may be evident from the information provided.
The draft trial balances of Apple Limited at 31 December 20X5 and 20X6 are shown below:
20X6 20X5
Dr/ (Cr) Dr/ (Cr)
Share capital (2 700 000) (2 700 000)
Retained earnings/ loss (at beginning of year) (121 000) 159 000
Current tax payable (145 000) (116 000)
Profit before tax (500 000) (400 000)
Taxation expense 150 000 120 000
Vehicles (carrying amount) 3 000 000 3 250 000
Bank 66 000 (433 000)
0 0
Chapter 26 313
Required:
a) Calculate the deferred tax effects using the balance sheet approach.
b) Show the calculation of current income tax in 20X6 and the cumulative effect on the years
20X3, 4 and 5 prior to discovering the error and show the recalculation of the current
income tax for these periods after discovering the error.
c) Prepare all journal entries to be processed in 20X6 to correct this error.
d) Prepare Apple Limited’s statement of comprehensive income, its retained earnings
column for inclusion in the statement of changes of equity and its statement of financial
position for the year ended 31 December 20X6.
e) Prepare the correction of error note to the financial statements at 31 December 20X6.
Question 26.10
Winter Limited is a pharmaceutical company specialising in the research and development of

more efficient and effective pain medication. Winter bought a patent from another
pharmaceutical company, which is to be used in conjunction with other resources in an effort
to create the best pain medication in the industry.
The following information relates to the patent:
Patent:
Date of purchase 1 January 20X5
Cost C480 000
Expected finite useful life 20 years
Legal life 15 years (non-renewable)
Residual value nil
Tax Allowances Deduct the cost over a period of 10 years on a straight-line basis
The cost was recognised as an intangible asset and was amortised over its expected finite useful life
of 20 years. However, during 20X8, the accountant remembered that Winter had purchased the
legal rights for a non-renewable period of only 15 years and thus that the amortisation period used
had been incorrect. The effect of this error is considered to be material.
The following is an extract of the draft statement of changes in equity for the year ended
31 December 20X8, before making any necessary corrections.
WINTER LIMITED
STATEMENT OF CHANGES IN EQUITY
Retained
earnings
C
Balance: 1 January 20X7 640 000
Total comprehensive income: 20X7 216 000
Balance: 31 December 20X7 856 000
Balance: 31 December 20X8 1 152 000
Other information:
x The corporate tax rate has remained 30% since inception of the company.
314 Chapter 26
Required:
a) Show the correcting journal entries for the year ended 31 December 20X8.
b) Disclose the following in the financial statements of Winter Limited for the year ended
31 December 20X8 in accordance with International Financial Reporting Standards:
x Correction of error note;
x Statement of changes in equity
x Statement of financial position.
Question 26.11
Part A:
Hot Limited has recently discovered that inventory has been incorrectly valued using the weighted
average method (WA) instead of the first-in-first-out method (FIFO) for the past four years.
x The error is considered to be material.
x The tax authorities will be re-opening the tax assessments for all year/s affected.
x Income tax is levied at 30%.
The effect of this error is as follows:
Year-end inventory balances 20X7 20X6 20X5 20X4

C C C C
WA method (did use) 15 000 14 000 12 000 10 000
FIFO method (should have used) 18 000 15 000 14 000 11 000
The draft financial statements before correcting this error are shown below.
HOT LIMITED
20X7 20X6
C C
Revenue 1 200 000 900 000
Cost of sales (420 000) (350 000)
Gross profit 780 000 550 000
Other costs (220 000) (200 000)
HOT LIMITED
DRAFT STATEMENT OF CHANGES IN EQUITY
Retained
earnings
C
Balance: 1/1/20X6 67 500
Balance: 31/12/20X6 281 000
Balance: 31/12/20X7 605 800
Chapter 26 315
Required:
Prepare the statement of comprehensive income, statement of changes in equity, statement of
financial position, statement of compliance, accounting policy note for inventory and the
correction of error note for inclusion in Hot Limited’s financial statements for the year ended
31 December 20X7, in terms of International Financial Reporting Standards.
Part B
Use the information provided in part A, except that, instead of there being an error, the
accounting policy was changed from recording inventory movements using the weighted
average formula to using the first-in, first-out formula instead.
Required:
Prepare the statement of comprehensive income, statement of changes in equity, statement of
financial position, statement of compliance, accounting policy note for inventory and the change
in accounting policy note for inclusion in Hot Limited’s financial statements for the year ended
31 December 20X7, in terms of International Financial Reporting Standards.
Question 26.12
Poseidon Limited is a company operating in the entertainment industry. The following draft
extracts of the statement of comprehensive income and statement of financial position have
been presented to you (see overleaf) together with additional information that has not yet
been taken into account in the preparation thereof.
POSEIDON LIMITED
DRAFT EXTRACTS FROM STATEMENT OF COMPREHENSIVE INCOME
20X3 20X2
C C
POSEIDON LIMITED
DRAFT EXTRACTS FROM STATEMENT OF FINANCIAL POSITION
AT 31 DECEMBER 20X3
20X3 20X2 20X1
C C C
Property, plant and equipment 1 217 000 1 391 500 1 566 000
- Machinery carrying amount 152 000 176 500 201 000
- Equipment carrying amount 1 065 000 1 215 000 1 365 000
Retained earnings ? ? 1 000 000
Deferred tax liability 140 000 150 000 170 000
Additional information regarding machinery and equipment:

x Machinery:
- During 20X3, the company changed the estimated residual value of its machinery
from C5 000 to C10 000 and changed the total expected useful life of machinery from
10 years to 15 years.
- The machinery had all been purchased on 1 January 20X0 at a cost of C250 000.
- Depreciation is provided on the straight-line method.
316 Chapter 26
x Equipment:
- During 20X3, it was discovered that the cost of an item of inventory sold on
1 July 20X1 (cost: C300 000), had been incorrectly debited to equipment.
- The taxable profit and tax base were correctly calculated in all years affected.
- The cost of equipment was otherwise C1 200 000, all having been purchased on
1 January 20X0.
- The company depreciates equipment at 10% per annum to nil residual values
(apportioned for part of a year where appropriate) using the straight-line basis.
Other information:
x The opening retained earnings as at 1 January 20X2 was C1 000 000. There were no
dividend declarations or transfers to or from retained earnings during 20X2 and 20X3.
x There was no other movement in property, plant and equipment other than that which is
evident from the information provided. Other than the incorrect debit, all movements in
the carrying amount of property, plant and equipment since date of purchase relate to
depreciation.
Required:
a) Calculate the effect of the change in estimate using the re-allocation method.
Detailed workings are required.
b) Disclose the following:
x the change in estimate note;
x the correction of error note;
x the statement of comprehensive income;
x the retained earnings in the statement of changes in equity; and
x the statement of financial position as at 31 December 20X3 in conformity with IFRSs.
c) Show all the journal entries that would need to be processed to effect:
x the change in accounting estimate; and
x the correction of the error.
Question 26.13
Cinnamon Limited is a company operating in the herbs and spices industry. The following
three items were identified during the audit of its financial statements for the current year
ended 31 December 20X3, no adjustments for which have yet been processed:
Item 1:
x The bookkeeper erroneously credited revenue with Pay-as-you-earn (PAYE) of C250 000
owing to the tax authorities in 20X2.
x As a result, the current tax in 20X2 had been incorrectly estimated by the accountant and
the incorrect figures were submitted on the 20X2 tax returns.
x This error did not affect the salaries and wages expense, nor the amount paid to
employees. The tax authorities will be re-opening the tax assessment for 20X2.
Item 2:
x A repair expense on 1 May 20X3 of C600 000 was capitalised as equipment. All other
equipment had been purchased on 1 July 20X1 at a cost of C1 200 000.
Chapter 26 317
x Depreciation on equipment is calculated at 15% per annum on the straight-line basis to nil
residual values.
x Wear and tear was then erroneously claimed on this 'equipment'. This then affected the
calculation of taxable profit and also the tax base. Equipment is used to manufacture
inventory. There was no inventory on hand at year end.
Item 3:
x The total useful life of vehicles was changed from twelve years to six years.
x The method of depreciation remained the straight-line method and the residual value of
each vehicle remains nil.
x This decision was made in a management meeting in 20X3, but the accountant was not
informed.
x The entire fleet of vehicles was purchased on 1 April 20X0 at a cost of C360 000 and is
used for delivering goods to customers.
The draft financial statements relating to Cinnamon Limited are provided below.
CINNAMON LIMITED
DRAFT STATEMENT OF CHANGES IN EQUITY
Retained
earnings
C
Balance – 1 January 20X2 1 080 000
Total comprehensive income – 20X2 699 600
Balance – 31 December 20X2 1 779 600
Total comprehensive income – 20X3 829 200
Balance – 31 December 20X3 2 608 800
CINNAMON LIMITED
20X3 20X2
C C
Revenue 4 572 000 3 120 000
Cost of sales (2 736 000) (1 392 000)
Gross profit 1 836 000 1 728 000
Other income 300 000 120 000
Other costs (1 068 000) (900 000)
Profit before taxation 1 068 000 948 000
Additional information: 20X3 20X2

C C
x The line item ‘other income’ includes the following
Profit on sale of building (exempt from tax: see note below) 180 000 0
Dividend income (exempt from tax) 120 000 120 000
Note: The capital gain on the sale of the building, as calculated in terms of the capital gains tax
legislation, was zero. There were no tax allowances allowed on the building.
318 Chapter 26
x The line item ‘other costs’ includes the following:

Depreciation on equipment (see above) 240 000 180 000
Depreciation on vehicles (see above) 30 000 30 000
Traffic fines (not tax deductible) 28 000 0
Directors remuneration 125 000 125 000
x The company uses the re-allocation method to adjust for changes in estimates.
x Wear and tear was granted by the tax authorities as follows:
equipment: 25% per annum straight-line (apportioned for part of a year);
vehicles: 25% per annum straight-line (not apportioned for parts of a year).
x The rate of income tax remained constant at 30%.
x There are no temporary differences, exempt income or non-deductible expenses other
than those indicated by the information presented.
Required:
a) Prepare all the adjusting journal entries necessary to prepare the financial statements for
b) Prepare the statement of comprehensive income, statement of changes in equity and
related notes of Cinnamon Limited for the year ended 31 December 20X3 in accordance
Chapter 26 319
GAAP: Graded Questions Statement of cash flows
Chapter 27
Statement of cash flows
Question Key issues

27.1 - Core concept questions
27.2 Woof Operating activities: Comparison of direct and indirect method
27.3 Fizz Full statement: Direct method

Operating activities: Indirect method
27.4 Mt Grace Operating activities: Direct method: Redeemable preference shares in
issue, deferred tax
27.5 Capsule Full statement: Indirect method: purchase/sale of property, plant and
equipment, issue of ordinary shares, dividends, long-term borrowings, tax
27.6 Funky Chicken Investing and financing activities: Purchase/sale of land, plant and
buildings, issue of ordinary shares, dividends, long-term borrowings, tax
27.7 Gogo Full statement: Direct method: Issue of non-redeemable preference
shares and issue of redeemable debentures at a premium, sale of land
and buildings
Reconciliation between profit before tax and cash generated from
operations
Note that VAT and deferred tax are to be ignored for all questions, unless included as part of the
question.
320 Chapter 27
Question 27.1
The following questions relate to the statement of cash flows:

a) What term is used to refer to cash flow activities that include the cash effects of
transactions that create revenues and expenses in the determination of profit?
b) What term is used to refer to cash flow activities that include the acquiring and disposing
of investments and property, plant and equipment as well as the advancing and collecting
of loans to others?
c) What term is used to refer to cash flow activities that include obtaining cash from raising
debt and repaying the amounts borrowed as well as obtaining cash from shareholders
and paying dividends?
d) What method is used that involves the preparation of a statement of cash flows in which
net profit is adjusted for items that do not affect cash, to determine net cash provided by
operating activities?
e) Revenue from sales amounts to C500 000. The opening and closing balances on
accounts receivable are C250 000 and C550 000 respectively. Calculate the cash
received from customers using the direct method.
f) Cost of sales amounts to C1 750 000. The opening and closing balances on inventory
are C500 000 and C550 000 respectively. The opening and closing balances on accounts
payable are C100 000 and C50 000 respectively. Calculate the cash paid to suppliers
using the direct method.
Required:
Provide the answer to the above questions.
Question 27.2
Woof Limited is a company involved in the manufacture and distribution of dog food.
The statement of comprehensive income for the year ended 31 December 20X2 as well as
extracts from the trial balance at 31 December 20X1 and 20X2 are shown below.
WOOF LIMITED
STATEMENT OF COMPREHENSIVE INCOME
C
Revenue 3 150 000
Cost of sales (2 152 500)
Gross profit 997 500
Distribution expenses (210 000)
Administration expenses (354 750)
Finance cost (17 250)
Profit before tax 415 500
Income tax expense (124 650)
Profit for the period 290 850
Other comprehensive income 0
Total comprehensive income 290 850
Chapter 27 321
WOOF LIMITED
TRIAL BALANCE (EXTRACT)
AT 31 DECEMBER 20X2
20X2 20X1
C C
Inventories 238 500 219 000
Prepaid distribution expenses 18 000 0
Cash and cash equivalents 53 250 18 750
Current tax payable: income tax (22 650) (15 400)
Accrued administrative expenses (33 750) (53 250)
Accrued finance costs (12 000) (10 500)
x The administrative expenses include:

- A gain on the disposal of non-current assets amounting to C3 750.
- Bad debts written off during the year amounting to C12 750.
x Cost of sales includes depreciation of C161 250.
x Assume that all transactions are for cash unless otherwise indicated.
Required:
a) Prepare the statement of cash flows of Woof Limited for the year ended 31 December
20X2, showing the cash from operating activities only, using the direct method.
b) Prepare the statement of cash flows of Woof Limited for the year ended 31 December
20X2, showing the cash from operating activities only, using the indirect method.
Question 27.3
Fizz Limited is the largest manufacturer of balloons in the country.
The statement of comprehensive income and statement of changes in equity of Fizz Limited
for the year ended 31 December 20X6, as well as the statement of financial position of the
company at 31 December 20X6, are shown below:
FIZZ LIMITED
C
Sales 300 000
Cost of sales (200 000)
Gross profit 100 000
Operating expenses (26 000)
Selling expenses 10 000
Administration expenses 7 000
Loss on disposal of equipment 1 000
Depreciation 8 000
322 Chapter 27
FIZZ LIMITED
Retained
Share capital earnings Total
C C C
Balance at 01/01/X6 100 000 10 000 110 000
Dividends (20 000) (20 000)
Issue of share capital 10 000 10 000
Balance at 31/12/X6 110 000 34 400 144 400
FIZZ LIMITED
AT 31 DECEMBER 20X6
20X6 20X5
C C
ASSETS
Non-current assets
Equipment 85 000 80 000
Current assets 109 800 70 500
Selling expenses paid in advance 1 200 1 500
Bank 36 600 9 000
194 800 150 500

Equity
Loan 10 000 20 000
Current liabilities
Administration expenses payable 800 500
Current tax payable: income tax 19 000 10 000
194 800 150 500

x Equipment costing C15 000 was purchased during the year when certain other equipment
was traded in as part of the purchase price.
Required:
a) Prepare a statement of cash flows of Fizz Limited for the year ended 31 December 20X6
using the direct method.
b) Prepare a statement of cash flows of Fizz Limited for the year ended 31 December 20X6
using the indirect method, showing the operating activities section only.
Question 27.4
The financial director of Mt Grace Limited is in the process of preparing the statement of cash
flows for the year ended 30 June 20X5. She has prepared a set of working papers and notes,
as set out below:
30/06/X5 30/06/X4 Remember the TB

Revenue for year Accounts receivable 845 000 720 000 shows a total debit
= C5 200 000 Doubtful debts allowance 71 500 34 000 in respect of bad
debts of C55 500
Chapter 27 323
30/06/X5 30/06/X4 Profit before tax =

Accounts payable 510 000 340 000 20X3 20X4 20X5
Inventory 305 000 210 000 C720 000 C590 000 C680 000
Don’t forget to take into account the redeemable preference shares. They were issued for
C200 000 on 1 July 20X2 and are subject to compulsory redemption by the company on
30 June 20X5 at a premium of 4%. The nominal interest rate is 12%. The dividends have
been paid on 30 June each year in arrears. Note that the premium accrued is not deductible
for tax purposes.
We did not declare an
30/06/X5 30/06/X4 interim dividend during
Shareholders for ordinary dividend 35 000 30 000 the current year. The final
dividend of C35 000 was
declared on 25 June 20X5
I know that deferred tax is one of your hottest topics, but I have prepared the following
schedule relating to the plant and equipment that needs to be incorporated into the taxation
calculation:
Carrying Tax base Temporary Deferred

amount difference tax
01/07/X2 Cost 800 000 800 000
600 000 320 000 280 000 81 200
500 000 160 000 340 000 98 600
30/06/X5 30/06/X4 Don’t forget the

Tax authority 125 175 190 000 corporate income
tax rate is 29%
There are no temporary or non-temporary differences other than those apparent from the
above information.
Required:
Prepare the operating activities section of the Statement of cash flows of Mt Grace Limited for
the year ended 30 June 20X5, using the direct method.
Notes and comparatives are not required.
Question 27.5
Capsule Limited is a pharmaceutical company that manufacturers a range of medicines.
The statement of financial position and the statement of comprehensive income for the
31 December 20X3 financial year end are presented below:
CAPSULE LIMITED
AT 31 DECEMBER 20X3
20X3 20X2
C C
ASSETS
Non-current assets 2 134 000 1 536 000
Property, plant and equipment 1 954 000 1 326 000
Development expenditure 120 000 130 000
Brand names 60 000 80 000
324 Chapter 27
Current assets 1 790 000 1 590 000

Trade and other receivables 760 000 620 000
3 924 000 3 126 000

Capital and reserves 2 564 000 1 636 000
Ordinary share capital 1 200 000 600 000
Revaluation surplus 60 000 190 000
Retained earnings 1 304 000 846 000
Non-current liabilities 460 000 740 000

Long-term borrowings 200 000 500 000
Deferred tax: income tax 260 000 240 000
Current liabilities 900 000 750 000

Trade and other payables 300 000 190 000
Provisions 80 000 0
Interest payable 20 000 40 000
3 924 000 3 126 000
CAPSULE LIMITED
C
Revenue 20 800 000
Gross profit 11 008 000
Administration expenses (5 020 000)
Distribution expenses (3 780 000)
Operating profit 2 208 000
Finance costs (30 000)
Profit before tax 2 178 000
Profit for the period 1 618 000
Other comprehensive income
Loss on revaluation of property (130 000)
Total comprehensive income 1 488 000
x An extract from the fixed asset register for property, plant and equipment is as follows:
Land Buildings Plant and Total

equipment
Cost / Valuation
Balance at 31/12/X2 640 000 1 220 000 360 000 2 220 000
Additions ? ? ? ?
Disposals (90 000) (90 000)
Revaluation (130 000) - (130 000)
Balance at 31/12/X3 852 000 1 680 000 332 000 2 864 000
Accumulated depreciation
Balance at 31/12/X2 - 732 000 162 000 894 000
Disposals (68 000)
Depreciation - 34 000 50 000 84 000
Balance at 31/12/X3 - 766 000 144 000 910 000
Chapter 27 325
x The only disposal of property, plant and equipment during the year was that of plant and
equipment which resulted in a loss on disposal of C12 000, that is included in cost of
sales. There is no impairment of property, plant and equipment to date.
x Cost of sales includes C30 000 for development expenditure amortised during the year
and C20 000 for impairment of a purchased brand name.
x On 1 May 20X2, Capsule Limited issued ordinary shares. No other finance was raised
during the year.
x Capsule declared and paid an interim dividend during the year. No final dividend was
declared.
x Provisions relate to legal claims made against Capsule Limited during the year ended
31 December 20X3. The amount provided is based on legal opinion at
31 December 20X3 and is included in administration expenses.
Required:
Prepare a statement of cash flows, using the indirect method, for Capsule Limited for the year
ended 31 December 20X3, in accordance with IAS 7 Statement of Cash Flows.
Question 27.6
Funky Chicken Limited is a poultry producer and owns land, buildings and plant which are
partly financed.
Extracts from the statement of financial position for the 31 December 20X3 financial year end
are presented below:
FUNKY CHICKEN LIMITED

AT 31 DECEMBER 20X3
20X3 20X2
C C
ASSETS
Non-current assets
Land: fair value 300 000 250 000
Buildings: carrying amount 112 500 75 000
Plant: carrying amount 130 000 125 000

Revaluation surplus (on land) 70 000 50 000
Long-term borrowings 425 000 200 000
Current liabilities
Trade and other payables 100 000 50 000
x Land is measured in accordance with the revaluation model. There were no disposals
during the year and the land was revalued at the end of the year. The increase in the
revaluation surplus is net of deferred tax at an income tax rate of 20% with no capital
gains tax applicable.
x Buildings are measured in accordance with the cost model and accumulated depreciation
as at the relevant year-ends is as follows:
- 31 December 20X3: C37 500
- 31 December 20X2: C25 000.
326 Chapter 27
x One building was sold for C20 000, with a carrying amount of C12 500 at the date of
disposal.
x Plant is measured in accordance with the cost model, there were no disposals during the
year and accumulated depreciation as at the relevant year-ends is as follows:
- 31 December 20X3: C70 000
- 31 December 20X2: C50 000.
x Movement in the ordinary share capital consists of the issue of ordinary shares only.
x Long-term borrowings of C50 000 were repaid during the year ended 31 December 20X3.
x The profit for the year amounts to C225 000.
x An interim dividend was declared and paid during the year. There were no dividends
payable at either 31 December 20X3 or 20X2. The beneficial owners of the dividends are
exempt from dividends tax.
Required:
a) Prepare the investing activities section of the statement of cash flows for Funky Chicken
Limited for the year ended 31 December 20X3, in accordance with IAS 7 Statement of
Cash Flows.
b) Prepare the financing activities section of the statement of cash flows for Funky Chicken
Limited for the year ended 31 December 20X3, in accordance with IAS 7 Statement of
Cash Flows.
Question 27.7
Gogo Limited is a company that manufactures luxury cashmere jerseys. The following
information relates to its financial year ended 30 June 20X2:
x Land with a cost of C400 000 was sold for C400 000. No further sales of land took place.
Land is not depreciated.
x Equipment was depreciated by C48 000 during the current period. No equipment was
sold during the year.
x Vehicles were depreciated by C60 000 during the current period. No vehicles were sold
during the year.
x The doubtful debts allowance was C5 640 at 30 June 20X2 and C6 133 at 30 June 20X1.
The accounts receivable balances reflected in the statement of financial position are
reflected net of these allowances.
x 500 000 10% non-redeemable preference shares of no par value were issued at C0,55
per share on 5 September 20X1. Share issue costs of C2 300 were paid which are non-
deductible.
x The debentures are measured at amortised cost using an effective interest rate of
18.2725377%. These debentures were issued in the prior year, on 1 July 20X0, at a
premium of 6%, raising cash of C530 000. Each debenture has a nominal value of C100
and offers interest of 20% per annum, payable on 1 July each year. The debentures are
redeemable on 30 June 20X6 at C100.
x A further loan of C100 000 was secured during 20X2.
x There are no temporary differences.
The summarised statement of comprehensive income, statement of changes in equity and

statement of financial position for the 30 June 20X2 financial year are shown below:
Chapter 27 327
GOGO LIMITED
SUMMARISED STATEMENT OF COMPREHENSIVE INCOME
FOR THE YEAR ENDED 30 JUNE 20X2
20X2
C
Revenue 3 503 250
Operating expenses (339 950)
Finance cost (136 268)
Other comprehensive income 0
GOGO LIMITED
EXTRACT FROM SUMMARISED STATEMENT OF CHANGES IN EQUITY
Retained
earnings
C
Balance 1 July 20X1 360 755
Share issue costs (2 300)
Dividends - Ordinary (225 000)
- Preference (25 000)
Balance 30 June 20X2 507 549
GOGO LIMITED
SUMMARISED STATEMENT OF FINANCIAL POSITION
AT 30 JUNE 20X2
20X2 20X1
C C
ASSETS
Non-current assets 2 732 000 2 730 000
Land at cost 2 120 000 2 450 000
Equipment at carrying amount 312 000 280 000
Vehicles at carrying amount 300 000 0

Current tax receivable: income tax 0 6 440
Prepaid expenses 6 300 5 960
Bank 120 250 84 300
3 139 900 3 105 100
328 Chapter 27

Capital and reserves 2 007 549 1 585 755
Ordinary share capital 1 225 000 1 225 000
Non-redeemable preference share capital 275 000 0
Non-current liabilities 773 113 1 151 845

Debentures 523 113 526 845
Loan 250 000 625 000

Interest payable 100 000 100 000
Current tax payable: income tax 12 888 0
Shareholders for dividends 150 000 125 000
3 139 900 3 105 100
Required:
Prepare the statement of cash flows of Gogo Limited for the year ended 30 June 20X2 using
the direct method in terms of IAS 7 Statement of cash flows.
Chapter 27 329
GAAP: Graded Questions Financial analysis and interpretation
Chapter 28
Financial analysis and interpretation
Question Key issues

28.1 Core concepts
28.2 Seven Dwarfs Basic calculation of ratios
28.3 Big Juice Short term liquidity
28.4 Smart Gearing
28.5 Cupcake / Muffin Interpretation of ratios
28.6 Cake Stand Comprehensive analysis
28.7 Three companies Identification of industry from ratios
330 Chapter 28
Question 28.1
a) Explain the purpose of financial statement analysis.

b) Describe horizontal financial statement analysis.
c) Describe vertical financial statement analysis.
d) How can the current ratio be used to evaluate a company?
e) What is the purpose of the debtors’ collection period ratio?
f) Explain the debt ratio and its use in analysing a company's performance.
g) Explain how to calculate total asset turnover and explain what it reveals about a
company's financial condition.
h) Explain how to calculate dividend yield and explain how it is used in analysis of a
company's financial condition.
i) Discuss briefly the price earnings ratio with particular reference to the shares of
companies with high or low ratios.
Question 28.2
The Seven Dwarfs Limited consists of a group of companies. The financial director requires
your assistance with calculating the following key ratios for the companies within the group for
the year ended 31 December 20X4:
a) Bashful Limited has a profit after tax of C300 000, ordinary share capital of C300 000
(20X3: C200 000), reserves of C800 000 (20X3: C520 000) and preference share capital
of C200 000. The preference dividend was C20 000.
What is the return on equity?
b) Sneezy Limited reported sales of C2,5 million, cost of sales of C1,5 million and equity of
C500 000.
What is the gross profit margin for the period.
c) Happy Limited has current assets and current liabilities at the end of 20X4 of C3 million
and C1,2 million respectively. Current assets include inventories of C900 000.
What is the current ratio and acid-test ratio at the end of 20X4.
d) Dopey Limited has inventory of C5 million at the end of 20X3 and C6 million at the end of
20X4. Sales for the 20X4 period are C20 million and the gross profit is C10 million.
What is the inventory holding period for the 20X4 year.
e) Grumpy Limited has trade receivables of C6 million (20X3: C3 million) and trade payables
of C8 million (20X3: C7 million) at the end of 20X4. Credit sales and credit purchases for
20X4 are C100 million and C70 million respectively.
What is the debtors’ collection period and the creditors’ payment period for 20X4.
f) Sleepy Limited reported a low price/earnings ratio during 20X4.
In general, is a low price/earnings ratio viewed more favourably than a high price/earnings
ratio?
g) Doc Limited reported a profit after tax of C20 million in 20X4. The issued share capital
balance is C26 million at 31 December 20X4 and consists of shares which were all issued
at C1,30 each. The company has no preference share capital. A total dividend of
C5 million was paid during 20X4 and the market value of the company is C50 million at
31 December 20X4.
What is the earnings yield and dividend yield for the 20X4 year?
Required:
Calculate the above ratios for the financial director and answer any queries he may have.
Chapter 28 331
Question 28.3
You are an investment adviser at Fin Choice and you are given the task of evaluating the
financial statements of Big Juice Limited, a relatively new player in the expanding health juice
market. There is fierce competition within the heath juice industry and not many barriers to
entry. Big Juice Limited is offering investors the opportunity to invest in the company as the
company wants to expand.
The following information has been extracted from the financial statements of Big Juice
Limited with corresponding industry averages:
Big Juice Limited Industry average

31/12/X8 31/12/X8
C C
Bank 200 000 300 000
Short-term investments 100 000 200 000
Accounts receivable – closing 250 000 300 000
Accounts receivable – opening 200 000 150 000
Expenses paid in advance 20 000 30 000
Closing inventory 20 000 30 000
Opening inventory 10 000 20 000
Accounts payable – closing 120 000 150 000
Accounts payable – opening 100 000 120 000
Expenses payable 50 000 70 000
Sales – credit card 3 200 000 4 000 000
Sales – cash 1 200 000 2 200 000
Cost of sales 1 400 000 3 000 000
Required:
a) Calculate the following ratios for both Big Juice Limited and for the industry average:
i) Current ratio
ii) Acid-test ratio
iii) Debtors collection period
iv) Creditors payment period
v) Inventory on hand period
b) Prepare a report for the monthly clients’ newsletter, consider the information provided and
your calculations in part (a).
Question 28.4
Smart Limited is about to embark on a phase of expansion and needs to raise C165 000. The
directors are considering whether to raise finance by issuing ordinary shares or by issuing
debentures (also known as loan notes or loan stock).
The summarised financial statements of Smart Limited, for each option are set out below:
SMART LIMITED
AT 31 DECEMBER 20X0
Option 1: Option 2:
Finance raised by Finance raised by
issue of shares issue of debentures
C C
ASSETS
Non-current assets 350 000 350 000
550 000 550 000
332 Chapter 28
EQUITY
Share capital and reserves 540 000 375 000
C1 Ordinary shares 190 000 25 000
10% C1 Non-redeemable preference 100 000 100 000
shares
LIABILITIES
8% debentures - 165 000
Current liabilities
5% bank overdraft 10 000 10 000
550 000 550 000
Required:
a) Calculate the gearing ratio for each of the two financing alternatives.
b) If the profit before interest and dividends amounts to C25 000, calculate the earnings per
share for each of the two financing alternatives and advise whether the company should
fund its expansion by issuing shares or by issuing debentures.
c) If the profit before interest and dividends amounts to C200 000, calculate the earnings per
share for each of the two financing alternatives and advise whether the company should
fund its expansion by issuing shares or by issuing debentures.
Ignore tax.
Question 28.5
Cupcake Limited and Muffin Limited are distributors of food to small supermarkets around the
country. They have both been successful over the past few years; each has its own unique
business model and operates in different ways.
The following analysis has been prepared for each company:
Cupcake Limited Muffin Limited

Average inventory holding period 58 days 26 days
Average collection period for accounts receivables 60 days 19 days
Average payment period for accounts payable 45 days 47 days
Gross profit % 40% 15%
Operating profit % 10% 10%
Return on investment (ROI) 18% 16%
Return on equity (ROE) 32% 22%
Required:
In so far as possible with the information given, describe the differences in the business
models adopted by each of the above companies. Your answer should focus on
a) Inventory holding period
b) Collection period for accounts receivables and payment period for accounts payable
c) Gross profit % and Operating profit %
d) Return on investment (ROI) and Return on equity (ROE)
Chapter 28 333
Question 28.6
You have secured an internship as a financial journalist with a newspaper and one of your
tasks is to analyse the financial statements of small, newly listed companies.
The Cake Stand Limited is a company that bakes and distributes a range of cakes to coffee
shops and other food outlets. You have examined the financial statements of the company
and prepared the following extracts to aid with your analysis:
THE CAKE STAND LIMITED

SUMMARISED STATEMENT OF PROFIT OR LOSS
FOR THE YEAR ENDED 31 MARCH 20X7
20X7 20X6
C C
Sales 2 000 000 1 800 000
Cost of sales (1 100 000) (1 080 000)
Gross profit 900 000 720 000
Operating expenses (617 500) (491 500)
Operating profit 282 500 228 500
Finance costs (12 500) (12 500)
Taxation (54 000) (43 200)

AT 31 MARCH 20X7
20X7 20X6
C C
Non-current assets
Equipment 700 000 800 000
Current assets
Supplies 136 100 133 500
Bank 233 400 68 000
1 247 000 1 101 500
Equity 870 000 744 000
Borrowings 250 000 250 000
Current liabilities
1 247 000 1 101 500
There is no inventory as all baked items are either sold daily or donated to charity.

DIVIDEND AND SHARE INFORMATION
20X7 20X6
Dividend paid C90 000 C80 000

Number of ordinary shares in issue 1 200 000 1 200 000
Market price per share at end of year C2.54 C1.71
334 Chapter 28

KEY RATIOS
20X6
i) Gross profit percentage 40%
ii) Earnings per share (EPS) C0.14
iii) Price: earnings (PE) ratio 12.2
iv) Dividend yield 3.9%
v) Return on capital employed 22.9%
vi) Current ratio 2,8 : 1
vii) Accounts receivable collection period 20 days
viii) Accounts payable payment period 36 days
ix) Gearing ratio 33.6%
x) Interest cover 18 times
Required:
a) Calculate the following ratios for the 20X7 year only:
i) Gross profit percentage
ii) Earnings per share (EPS)
iii) Price: earnings (PE) ratio
iv) Dividend yield
v) Return on capital employed
vi) Current ratio
vii) Accounts receivable collection period
viii) Accounts payable payment period
ix) Gearing ratio
x) Interest cover
b) Briefly comment on each of the above ratios of The Cake Stand Limited.
Question 28.7
Below are financial statements for three unrelated companies. One company is an estate
agent, one is a supermarket chain and one is a car manufacturer.
STATEMENTS OF COMPREHENSIVE INCOME

A Ltd B Ltd C Ltd
C000 C000 C000
Sales 12 000 4 150 25 300
Cost of sales (3 170) (1 645) (14 600)
Gross profit 8 830 2 505 10 700
Operating expenses (8 480) (1 475) (8 900)
Operating profit 350 1 030 1 800
Finance costs (70) (74) (220)
Income tax expense (84) (287) (474)
Chapter 28 335
STATEMENTS OF FINANCIAL POSITION

AT 31 MARCH 20X7
A Ltd B Ltd C Ltd
C000 C000 C000
ASSETS
Non-current assets
Property, plant and equipment 3 400 500 11 500
Current assets 1 250 293 4 580

Inventory 155 - 1 200
Cash 1 055 143 580
4 650 793 16 080

Capital and reserves 3 450 474 12 830
Retained earnings 3 750 374 13 630
Current liabilities
Accounts payable 1 200 319 2 250
4 650 793 16 080
The following key ratios have been correctly calculated for A Ltd:
Ratio 20X7
Operating profit margin 2,9%
Sales to total assets 2,6 times
Current ratio 1,04:1
Inventory holding period 18 days
Accounts receivable collection period 1 day
You are required to:

a) Calculate the same key ratios for B Ltd and C Ltd
i) Operating profit margin
ii) Sales to total assets
iii) Current ratio
iv) Inventory holding period
v) Accounts receivable collection period
b) Considering each company in turn, discuss with reasons, which of A Ltd, B Ltd and C Ltd
is likely to be the estate agent, the supermarket chain and the car manufacturer.
You should use all five ratios in your discussion of each company.
336 Chapter 28
Chapter B
Integrated questions: chapters 1 - 28
Question Key issues
B.1 - Core concepts involving a mixture of IFRSs
B.2 Bread IAS 32: Ordinary shares: issue for value and capitalisation issue
IFRS 9: Preference shares (option of the company): redemption at a
premium
IFRS 9: Debentures: issued at a discount and redeemable at par, interest
payable semi-annually
IAS 10: Dividends declared after reporting date
B.3 Bodo IAS 32 & IFRS 9: Preference shares (compulsorily redeemable at a

premium): issue
IAS 12: Current tax and Deferred tax (Provision, Prepaid expense,
Patent, Investment property, PPE)
IAS 16: PPE: Revaluation Model: Land (non-depreciable and non-
deductible) and Buildings (depreciable and deductible)
IAS 38: Intangible asset: Patent: useful life and legal life (renewable at
insignificant cost)
IAS 40: Investment property: FV Model: Land (non-deductible) and
Buildings (deductible)
B.4 Knucklehead IAS 12: Deferred tax: calculation: comprehensive

IAS 16: Property, plant and equipment (exempt temporary differences)
IAS 38 & IFRS 3: Research and Goodwill (exempt temporary difference)
IFRS 16: Leases
IAS 37: Provision for warranties
B.5 Builder IAS 21: Non-monetary asset denominated in foreign currency

IAS 16: PPE: cost model in foreign currency
IAS 40: Investment property: cost model versus fair value model
IFRS 9: Financial asset: investment in debentures at AC
B.6 Aquila IFRS 5: Non-current assets held for sale and discontinued operations:
disposal group
IAS 36: Impairment due to VIU having dropped and FV-CoD being zero
due to abandonment
IAS 8: Policies, estimates and errors
B.7 Chocolate IFRS 16: Leases

IAS 12: Deferred tax: tax effects of VAT when definition of rental
agreement met
B.8 Notachance IFRS 16: Lessee

IAS 8: Correction of error - cash payments instead of straight-line
IAS 12: Deferred tax
B.9 Viking Conceptual Framework: Verifiability

IAS 8: Change in estimated useful life (PPE)
IAS 8: Correction of error: fraud
IAS 16: PPE: Cost model and an impairment
IFRS 15: Revenue
Chapter B 337
Question continued… Key issues
B.10 Silburn IAS 16: PPE: Cost model

IAS 40: Investment property: Fair value model
IAS 8: Correction of error: Transfer from Investment Property to PPE did not
occur
IAS 12: Current and deferred tax: tax effects of error
B.11 Barker IAS 8: Correction of error: asset debited to liability account

IAS 12: Current tax: tax assessments were incorrect and to be re-opened
IAS 38: Development costs
IAS 36: Impairment of development asset
B.12 Fluff IAS 32: Preference shares: convertible (compulsory) - at amortised cost
IAS 32: Financial instruments: presentation
IFRS 9: Financial instruments
IAS 8: Correction of error (preference shares)
B.13 Menace Part A:

IAS 16: Cost model
IAS 37: Provision for dismantling costs
IAS 8: Change in estimate
Part B:
IAS 16: Revaluation model
IAS 37: Provision for dismantling costs
IAS 8: Change in estimate
B.14 Putu IAS 23: Borrowing costs (specific loans)

IAS 16: Property, plant and equipment (self-constructed, cost model)
IAS 12: Deferred tax (interest deducted when incurred and wear and tear
from date of use: interest capitalised and asset available for use but
there is depreciation because available for use although not brought
into use in current year)
IAS 8: Correction of error: borrowing costs were expensed now capitalised
B.15 Roo IAS 21: Import (DAT) of PPE

IAS 16: PPE (imported)
IFRS 9: Hedges of highly probable forecast transactions, firm commitments
and transactions
- Hedge of a HPFT = CFH (basis adj) and
- Hedge of a FC = CFH (basis adj) and
- Hedge of a T = FVH
IAS 8: Correction of error (reclassification adj used instead of basis adj)
and Change in accounting estimate (change in UL of PPE)
IAS 1: Presentation (particularly OCI section)
B.16 Hubbard IAS 33: Earnings per share:

Basic and headline;
Share movements: fair value issue, share split;
IAS 8: Correction of error (tax deduction not claimed)
B.17 Mail IAS 33: Earnings per share: Basic and diluted
Circ 04/2018: Headline earnings per share (shown as separate part)
Share movements: none
Potential shares: options and convertible debentures
Part A: Basic, diluted
Part B: Basic, diluted and headline
338 Chapter B
Question B.1
Part A
a) Briefly prove, using the ‘new’ liability definition in the 2018 Conceptual Framework,
whether a provision for legal costs is a liability.
b) Briefly prove, using the ‘new’ asset definition in the 2018 Conceptual Framework,
whether a 3-year contract to lease a vehicle (as a lessee), and where the vehicle has a
useful life of 10 years, should be recognised as a right-of-use asset.
c) Briefly prove, using the ‘new’ liability definition in the 2018 Conceptual Framework, whether a
3-year contract to lease a vehicle (as a lessee), should be recognised as a lease liability.
d) Briefly prove, in terms of the ‘new’ definitions in the 2018 Conceptual Framework,
whether an issue of compulsorily redeemable 10% preference shares with mandatory
preference dividends should be recognised as equity or a liability.
Part B
a) A change in the useful life of an asset is accounted for prospectively.
b) When measuring property, plant and equipment, a change from the cost model to the
revaluation model is accounted for as a change in accounting policy in terms of IAS 8.
c) When measuring intangible assets, a change from the cost model to the revaluation
model is accounted for as a change in accounting policy in terms of IAS 8.
d) When measuring investment property, a change from the cost model to the fair value
model is accounted for as a change in accounting policy in terms of IAS 8.
e) The total lease premium that a lessee pays on a recognised right-of-use asset will be
reflected in the financing activities section of the statement of cash flows.
f) When calculating the deferred tax on financial assets held for sale in the ordinary course
of business, the capital gains tax rate must be applied.
g) Investor Limited believes that it is highly probable that they will purchase shares in a
foreign country in the near future. Investor has taken out a forward exchange contract to
hedge against foreign exchange risk. On the date of purchase, Investor will use a basis
adjustment to release the cumulative gains or losses currently recognised in other
h) When impairing a contract asset, we follow the process outlined below:
x Identify if the asset may be impaired
x Calculate the recoverable amount
x Determine if the recoverable amount is lower than the carrying amount
x Recognise and measure an impairment loss if necessary.
i) At reporting date, the accountant recognised a ‘leave pay liability’ and related employee
benefit expense. The leave pay liability relates to leave that is owed to employees who
worked on the manufacture of inventory. This is the correct accounting treatment.
j) The measurement of a provision at reporting date must take into account all information
that comes to management’s attention after reporting date (i.e. information that comes to
light between reporting date and when the financial statements are published).
k) Due to the level of measurement uncertainty involved, an obligation for leave pay is
accounted for as a ‘provision’ (debit employee benefit expense and credit provision).
Required:
Indicate whether each of the above statements is true or false and provide a brief explanation
to support your answer.
Chapter B 339
Part C
a) Constructor Limited is involved in a contract where the costs of completing the contract is
C50 000, while the revenue expected to be received from completing the contract is
C40 000. Should Builder not complete the contract, a penalty of C20 000 will be imposed
on the company. How should Builder Limited account for this contract?
b) As a consequence of restructuring its operations, ATZ Limited has to retrench ten
employees. As part of the retrenchment agreement, ATZ is providing severance benefits
to the affected employees. Given the details below, when should ATZ recognise the
termination benefit expense?
x ATZ concluded the retrenchment negotiations with employees on 30 June 20X4.
x At the meeting of the board of directors of ATZ on 15 January 20X4, it was decided
that the restructuring would occur, and the board resolved to begin planning for the
restructuring immediately.
x On 31 March 20X4, the board approved the detailed plan, and the chairman issued a
statement to all employees, as well as the local media, detailing the main features of
the restructuring plan. The restructuring commenced after this announcement.
c) The accountant of Lazy Limited is considering applying the revaluation model to all items
of property, plant and equipment, as he can then initially measure the assets at fair
value. By doing this, he can avoid the capitalisation of borrowing costs (in terms of
IAS 23 Borrowing costs), which he deems “complicated and unnecessary”. Is this
acceptable in terms of International Financial Reporting Standards?
d) The accountant of Leased-It Limited is not familiar with the new standard on leases, and
how it may affect the presentation of the financial statements. Of particular concern is the
way lease payments will be presented on the statement of cash flows. The accountant
has come to you for guidance on this issue.
Required:
Provide brief responses to the issues posed above
Question B.2
Bread Limited exports bread making machines and is listed on the stock exchange.
BREAD LIMITED
EXTRACT FROM TRIAL BALANCE AS AT 30 JUNE 20X9
Debit Credit
15% Redeemable preference share capital 200 000
Retained earnings – 30/6/X8 335 500
14% Debentures - 30/6/X8 200 000
Debenture discount – 30/6/X8 4 947
Share issue expenses 1 688
Profit before interest and taxation 265 750
Income tax expense 70 227
Bank 160 250
Dividends paid - ordinary 12 500
- preference 15 000
Loan – Investments Bank 120 000
Shareholders application account 168 750
Payments to preference shareholders 235 000
Interest paid on debentures 14 000
Interest paid on loan – Investments Bank 13 000
340 Chapter B

x The authorised share capital of the company consists of:
- 500 000 ordinary shares with no par value.
- 500 000 redeemable preference shares with no par value.
x On 1 September 20X8 a capitalisation issue to ordinary shareholders was authorised on
the basis of 1 share for every 9 shares held. The amount of the capitalisation issue was
C50 000. On 30 June 20X8 225 000 ordinary shares were in issue.
x The redeemable preference shares were issued at C0,50 on 1 January 20X3. These
preference shares are redeemable at a premium of C0,05 per share at the option of the
company any time after 31 December 20X7. Management have classified these shares
as equity for reporting purposes. The directors resolved to redeem all of the preference
shares and pay the final dividend on 30 June 20X9. The funds for the redemption were
provided by issuing 75 000 ordinary shares on 30 June 20X9 for an amount of C168 750
and the balance was provided from the company’s bank account. The total cash paid to
the preference shareholders has been debited to “Payments to preference shareholders.”
x Share issue expenses of C1 688 were incurred on the ordinary shares issued on
30 June 20X9 but have not yet been paid.
x The company issued 200 C1 000 14% debentures on 1 July 20X6 at 95% of their face value.
Interest is payable semi-annually in arrears on 1 January and 1 July. The debentures are secured
by a mortgage over land worth C300 000 and were issued at an effective interest rate of 15.918%
compounded semi-annually. The debentures are redeemable at par on 31 December 20X9.
x On 1 March 20X7 a loan of C150 000 was obtained from Investments Bank, which bears
interest at 13% p.a. payable annually in arrears on 28 February. The loan is repayable in
five equal annual instalments commencing 1 March 20X9.
x Taxation has been correctly calculated and accounted for.
x The directors declared a final ordinary dividend of C0,10 per share on 31 July 20X9. The
financial statements were authorised for issue on 5 August 20X9 by the board of directors.
Required:
To the extent the information allows, prepare the statement of comprehensive income, statement of
changes in equity and notes relating to the statement of financial position of Bread Limited for the
year ended 30 June 20X9, in terms of International Financial Reporting Standards.
Accounting policies, earnings per share, dividends per share and comparatives are not required.
Question B.3
Bodo Limited is a company that retails a range of sleek, modern kitchen appliances such as
kettles, toasters and microwaves.
The financial director has completed the majority of the financial statements for the year ended
30 June 20X9. He has however, not yet completed the tax notes and the cash flow statement. The
following information is available from the working papers prepared by the financial director:
For the year ended 30 June 20X9, the revenue from contracts with customers has been correctly
calculated at C10 800 000 and the profit before tax has been correctly calculated at C1 200 198.
x On 1 July 20X7 the company issued 100 000 12% redeemable preference shares for a
total consideration of C400 000. The preference shares are subject to compulsory
redemption by the company on 30 June 20Y2 at a premium of 4%. The effective interest
rate is 12, 622% per annum. The dividends, which are non-discretionary, have been paid
on 30 June each year.
Chapter B 341
x An extract from the trial balance of Bodo Limited, showing working capital items only, for
the years ended 30 June 20X9 and 20X8 is shown below:
20X9 20X8
Inventory 810 000 620 000
Accounts receivable 1 677 500 3 440 000
Prepaid expenses 110 000 72 000
Accrued expenses 61 000 103 000
Provision for warranty costs 154 000 100 000
x The allowance for expected credit losses for the year ended 30 June 20X9 amounted to
C148 500 and has been correctly taken into account in the trial balance. The full amount
is deductible for tax purposes in the year incurred.
x Bodo Limited purchased a patent on 1 July 20X7 at a cost of C1 500 000. The useful life of the
patent is estimated at 12 years. However, the legal life of the patent is 10 years and the legal life
can be extended by a further 3 years at insignificant cost. The tax authorities allow a deduction
of 5% per annum on the cost of the patent, calculated on the straight-line basis.
x Bodo Limited owns two properties, one in Melrose and one in Oaklands. The Melrose
property is held for development as a retail store (currently, the property only consists of land)
and the Oaklands property is let out to tenants. The company uses the revaluation model to
measure owner-occupied property and the fair value model to measure investment property.
x The Melrose property was purchased on 1 July 20X6 at a cost of C8 000 000. The base
cost equals the purchase cost.
The land is not depreciated and there are no tax allowances. On 30 June 20X9, the land was
revalued up by C300 000. The company intends to recover the cost of the land through use.
x The Oaklands property was purchased on 1 July 20X7 at a cost of C5 500 000. The
property comprises a small suburban shopping centre and all the shops are let out to
tenants. Bodo Limited provides ancillary services such as cleaning and security. At the
date of purchase, the directors estimate that C1 000 000 of the cost was attributable to
the land and that C4 500 000 of the cost was attributable to the building. The base cost of
both the land and the building equals the purchase cost.
The fair value of the land was estimated at C1 000 000 on both 30 June 20X8 and on
30 June 20X9. There are no tax allowances granted on the land.
The fair value of the building is estimated at C4 350 000 on 30 June 20X8 and at
C4 600 000 on 30 June 20X9. The tax authorities allow a tax deduction of 5% per annum
on the cost of the building, calculated on the straight-line basis.
x There were no additions or disposals relating to either property during the period.
x On 15 July 20X9, the directors of Bodo Limited declared a final ordinary dividend of C0,12
per share for the year ended 30 June 20X9. On 15 July 20X8, the directors had declared
a final ordinary dividend of C0,10 per share for the year ended 30 June 20X8. The
number of issued ordinary shares has remained constant at 600 000.
x Other relevant tax implications are:
- Prepaid expenses are deductible for tax purposes in the year when paid.
- Accrued expenses are deductible for tax purposes in the year when incurred.
- The provision for warranty costs are deductible for tax purposes only when paid and
not when incurred.
- The dividend on the preference shares and the premium accrued are not allowed as a
deduction for tax purposes.
- The corporate tax rate is 28% and the inclusion rate for capital gains tax is 50%.
- There are no other differences between accounting profit and taxable profit other than
those evident from the information given.
342 Chapter B
Required:
a) Prepare the income tax expense note (including the tax rate reconciliation) and the
deferred taxation note for the financial statements of Bodo Limited for the year ended
30 June 20X9.
b) Prepare the cash flows from operating activities section of the cash flow statement of
Bodo Limited for the year ended 30 June 20X9.
c) Explain, with respect to IAS 12 Income Taxes, the meaning of the carrying amount, tax
base, temporary differences and deferred tax in relation to the Oaklands property and the
provision for warranty costs.
No comparatives are required.
Question B.4
The following information has been provided by the accountant of Knucklehead Limited, who
has asked you for help in calculating the deferred tax balance and adjustment for the year
(1) Plant:
x Plant A was purchased for C200 000 on 1 January 20X1.
x Plant B was purchased for C300 000 on 30 September 20X1.
x Both plants are depreciated to nil residual values at 10% per annum.
x The tax authorities allow wear and tear at 20% pa (apportioned for part of a year).
(2) Vehicles:
x The vehicles were purchased for C400 000 on 1 April 20X1.
x Vehicles are depreciated to nil residual values at 25% per annum.
x The tax authorities allow wear and tear at 10% p.a., not apportioned for part of a year.
(3) Land:
x The land was purchased for C800 000 on 1 October 20X1.
x Land is not depreciated.
x The tax authorities do not allow any deductions relating to the cost of the land.
(4) Buildings:
x The buildings were purchased for C900 000 on 1 October 20X1.
x Buildings are depreciated at 5% per annum to a C50 000 residual value.
x The tax authorities do not allow any deductions relating to the cost of the buildings.
(5) Goodwill:
x The goodwill arose when some of the assets listed above were purchased for
C700 000 from another company, when their individual fair values totalled C650 000.
x Goodwill is not amortised but was impaired by C20 000 at 31 December 20X1.
x The tax authorities do not allow any deductions relating to the cost of goodwill.
(6) Trade debtors:
x The trade debtors balance is C36 000 at 31 December 20X1.
x This was calculated after deducting a 10% credit loss allowance.
x The tax authorities allow the deduction of only 25% of this allowance.
(7) Inventories:
x The inventory balance is C80 000 at 31 December 20X1.
x This was calculated after a recording a write-down of C20 000.
x The tax authorities allow the deduction of only 75% of this write-down.
(8) Warranty provision:
x Goods are sold with a right of return, considered to be an assurance type warranty.
Chapter B 343
x A provision of C20 000 for expected cost of warranties was raised at 31 December 20X1.
x The tax authorities allow the deduction of the costs of the warranty if and when the
warranty is exercised and the costs of meeting the terms of the warranty are incurred.
(9) Machinery:
x All machinery was purchased on 1 January 20X1 under a 2-year lease agreement,
and recognised under IFRS 16’s general approach.
x Both lessee and lessor are VAT vendors. The tax authority classifies this lease as
meeting part (b) of the ‘instalment credit agreement’ definition.
x The cash price, including 14% VAT, is C228 000.
x The implicit interest rate is 8.1338%. A deposit of C50 000 was due on 1 January 20X1,
after which instalments of C100 000 were due on 31 December 20X1 and 20X2.
x Machinery, (right-of-use asset) is depreciated over 5 years to a nil residual value.
x The tax authorities allow the deduction of the lease instalments (adjusted for VAT).
(10) Income receivable and income received in advance:
x Income is taxed on the earlier of the date of earning the income or receipt thereof.
x Income received in advance: C50 000 at 31 December 20X1.
x Income receivable: C40 000 at 31 December 20X1.
(11) Expenses payable and expenses prepaid:
x The tax authorities allow deductions of expenses when they are paid on condition
that they are less then C50 000 and relate to the first 6 months of the next year,
otherwise expenses are only allowed when incurred.
x Expenses prepaid: C35 000 at 31 December 20X1 (relating to rent for January 20X2).
x Expenses payable: C10 000 at 31 December 20X1.
(12) Research costs:
x Research costs of C1 000 000 were expensed during the year ended 31 December 20X1.
x The tax authorities allow the costs of research to be deducted at 20% p.a.
The income tax rate is 30%
Required:
a) Calculate the deferred tax balance at 31 December 20X1.
b) Provide the deferred tax adjustment (i.e. journal entry) for the year ended 31 December 20X1
assuming that the deferred tax balance at 31 December 20X0 was C55 000 (liability).
Question B.5
The managing director of Builders Limited is concerned that his accountant has not been
correctly applying the relevant IFRSs and has sent you the following email requesting clarity.
To: Accountingexpert@accountingisfun.com
From: Bob@thebuilders.com
Subject: IFRS advice
Dear Spud,
I am concerned that my accountant, who has been with our company for years, and who has
become a dear friend of mine, is not up-to-date on the implications of the latest IFRSs. This is
a great worry to me as we are hoping to have our company listed on the local securities
exchange in the near future, and our financial statements simply have to be fully compliant for
a successful listing. I wonder if you could take a moment to apply your mind to a few of the
issues and explain to me how they should be accounted for so that I am better equipped
when checking whether the accountant is managing the situation.
344 Chapter B
Issue # 1:
We purchased a piece of land in France for €100 000 on 3 March 20X1. Its fair value at
31 December 20X1, our financial year-end, is €120 000. The land is not depreciated.
The spot rates were as follows:
- €1: R11 on 3 March 20X1
- €1: R15 at 31 December 20X1
- €1: C14.50, being the average spot rate during 20X1.
Please explain the IFRS implications of this information and also show me the journals that
should have been processed in our books?
Issue #2:
On 1 January 20X0, we purchased 5% debentures that were issued by a company in
America. We purchased them for $250 000, which was considered to be their fair value at the
time. These debentures will be redeemed after 3 years at 110% of the issue price. Interest on
the debentures is payable annually on 31 December. The debentures were not considered to
be 'credit-impaired' on the date of acquisition, although the accountant has assured me that
we needed to account for a loss allowance account based on $25 000 at 3 December 20X0
and that this loss allowance had increased to $26 000 at 31 December 20X1.
The accountant has asked me to tell you that we intend to hold the investment within a
business model where the objective is achieved by holding financial assets to collect
contractual cash flows and selling financial asset, he said that you would understand.
The fair values of the debentures were as follows:
Date Fair values
1 January 20X0 $250 000
31 December 20X0 $255 000
31 December 20X1 $245 000
Date Exchange rates:: $1: Rx

Spot exchange rates
1 January 20X0 $1: R15,00
31 December 20X0 $1: R14,25
31 December 20X1 $1: R14,85
Average rates
31 December 20X0 $1: R14,50
31 December 20X1 $1: R14,60
Please may I ask you to draft a report explaining how to account for these issues, identifying
the relevant IFRSs that we would need to study? Also, please would you also include the
journals that should have been processed in our books?
Many thanks for your time Spud.
Regards
Bob
Required:
Draft a report, addressing each of the issues referred to in the email, in which you provide:
x the required journals; and
x explanations for these journals in terms of International Financial Reporting Standards.
Question B.6
Aquilla Limited is a company that has two segments: one that is involved in the manufacture of
medicines and one that manufactures pesticides. The year-end of the company is 31 December.
Chapter B 345
On 30 November 20X5, the only factory that manufactured pesticides suffered a devastating
fire. This factory, which produced only pesticides, was reported as a separate ‘pesticide
division’ for accounting purposes and was reported in the ‘chemical segment’. This pesticide
factory owns two machines and a building.
Whilst one of the machines was destroyed to the point that it was not usable, the remaining
machine and the factory building managed to escape damage.
There was no inventory on hand on the date of the fire.
On 5 December 20X5, the directors decided to close this factory as soon as they had fulfilled
the orders that were currently in place. No new orders would be accepted. It was expected
that it would take, with only one available machine, roughly fifteen months from the date of the
fire to complete these orders. None of these existing orders were cancelled as a result of the
delay in manufacturing.
The machine that was destroyed is to be collected by informal street vendors who will sell the
machine as scrap metal. The machine that escaped damage will be used until all orders have
been fulfilled. The remaining useful life of the factory building and both the machines was
5 years as at 1 January 20X5.
The building and the undamaged machine are both of a specialised nature and are thus not
saleable. The plan to close the factory representing the ‘pesticide division’ thus involves
abandoning both the building and the undamaged machine.
Required:
Prepare a comprehensive report to the board of directors explaining, in detail, all the
measurement and presentation issues that have arisen as a result of the decision to close the
pesticide segment.
Reference should be made to all relevant International Financial Reporting Standards.
Question B.7
On 1 January 20X5, Chocolate Limited entered, as a lessee, into a lease over a

manufacturing plant. The details of the lease are as follows:
Lease payments (paid on 31 December each year) C57 000 including VAT
Lease period 3 years
Lessee’s incremental borrowing rate 12,9%
All of the requirements of a lease have been met; the plant is an identified asset and
Chocolate has a right to control the use of the plant.
The interest rate implicit in the lease was not determinable.
As the lease contract stipulates that the plant must be returned to the lessor at the end of the
lease, this lease meets the definition of a “rental agreement” as per the VAT Act. As such, the
tax authority allows Chocolate to claim a VAT input as the lease payments are made.
The corporate tax rate is 30% and the VAT rate is 14%.
Required:
Provide journal entries to account for the lease for the years ended 31 December 20X5 to
31 December 20X7.
346 Chapter B
Question B.8
On 1 January 20X5, Notachance Limited entered, as a lessee, into a lease over tablet
computers (used by sales representatives). The terms of the lease were as follows:
x Period: 5 years (from 1 January 20X5 to 31 December 20X9
x Lease instalments payable monthly in advance
- 20X5 and 20X6: C5 000 per month
- 20X7 and 20X8: C3 000 per month
- 20X9: C1 000 per month
This lease qualified as a low-value asset lease, and thus was recognised using IFRS 16’s
simplified approach. However, the financial statements had already been drafted when the
accountant realised that the lease rentals should have been aggregated and straight-lined over
the period of the lease (i.e. by dividing the total lease rentals over the total lease period in months),
whereas he had consistently been measuring the lease expense at the cash amount.
The following are the draft financial statements or extracts thereof:

NOTACHANCE LIMITED
20X9 20X8
C C
Revenue 820 000 720 000
Cost of inventory expense 300 000 220 000
Operating costs 150 000 170 000
Distribution costs 100 000 80 000
Finance costs 10 000 25 000
Income tax expense 98 000 75 000
NOTACHANCE LIMITED
AT 31 DECEMBER 20X9
20X9 20X8
C C
Prepayments 80 000 10 000
Deferred tax liability 70 000 22 000
At 31 December 20X7:
x The retained earnings had a balance of C1 300 000
x The deferred tax had an asset balance of C30 000
x The prepayments had a balance of C5 000.
The tax authorities allow the lease instalment as a tax deduction when paid. The income tax rate
is 30% (unchanged since 20X5 when the rate was 28%). The lease does not include VAT.
Required:
a) Process all necessary correcting journal entries for the year ended 31 December 20X9.
b) In so far as the information permits, prepare the statement of comprehensive income, statement
of changes in equity, statement of financial position and the correction of error note for inclusion
in the financial statements of Notachance Limited for the year ended 31 December 20X9.
Chapter B 347
Question B.9
Part A
Viking Limited is a small listed company that sells a range of arctic fleece clothing. The trial
balances at 31 December 20X8 and at 31 December 20X7 are shown below. The 20X7
columns reflect the final amounts used in the 20X7 published financial statements, whereas
the 20X8 columns reflect the draft amounts for the 20X8 year, before taking into account any
adjustments required from the information below.
VIKING LIMITED
TRIAL BALANCES AT 31 DECEMBER
20X8 20X7
Revenue 14 200 000 12 300 000
Cost of sales 10 500 000 9 000 000
Royalty income 2 100 000 1 700 000
Operating expenses 2 837 500 2 800 000
Retained earnings 10 084 000 8 500 000
Property, plant and equipment: carrying 5 500 000 6 200 000
amount
Current assets 9 100 000 7 300 000
Current liabilities 1 863 000 3 216 000
28 667 000 28 667 000 25 616 000 25 616 000
x While preparing the 20X8 financial statements, the directors reassessed the useful life and
residual value of the equipment. All the equipment was purchased at a cost of C600 000 on
1 January 20X5 and is measured under the cost model. On acquisition, the useful life was
estimated at 10 years with a residual value of C50 000. This useful life and residual value
remained unchanged for the 20X5, 20X6 and 20X7 financial years. At the end of December
20X8, the original useful life was estimated at a total of 5 years with zero residual value.
x Depreciation for the current year has been correctly recorded based on the original
estimate of the life and residual value of the equipment. No entries have been processed
to account for the change in estimate. The allowance granted by the tax authorities is
10% per annum on the straight-line basis. The company uses the re-allocation method to
account for changes in estimate.
x During the year-end audit of the 20X8 financial statements, the company’s auditors
discovered that the sales manager and the financial manager had colluded in a fraud
spanning the years 20X5 to 20X8. The fraud involved the misappropriation of cash and a
corresponding understatement of cash sales. Sales were understated by the amounts of
C200 000 for 20X5, C300 000 for 20X6, C1 000 000 for 20X7 and C1 200 000 for 20X8.
x The two managers have admitted guilt and have agreed to an out of court settlement
whereby they will repay all of the misappropriated cash. They have provided security for
the amount due and the security is adequate. The amounts are considered to be material
and no entries have been processed to correct the fraud. The tax authorities will reopen
the tax assessments of previous years.
x The following are included in operating expenses:
20X8 20X7
C C
Profit on sale of property 120 000 -
Depreciation of equipment 55 000 55 000
Depreciation of plant 30 000 30 000
Impairment of plant - 80 000
348 Chapter B
x The company had 200 000 ordinary shares of ‘no par value’ in issue on 31 December 20X7.
No share transactions occurred during the 20X7 year.
On 1 September 20X8, the company announced a rights issue, in terms of which each ordinary
shareholder was entitled to purchase one share for every five shares held at a price of C8 per
share. All the shares offered were taken up on 1 October 20X8. The market price on
1 October 20X8 was C10 per share.
x The company income tax rate is 28% for all periods under review.
Required:
a) Prepare the statement of comprehensive income of Viking Limited for the year ended
31 December 20X8, in conformity with International Financial Reporting Standards.
Disclosure of EPS on the face of the statement of comprehensive income is required.
b) Prepare the statement of changes in equity of Viking Limited for the year ended
31 December 20X8 in conformity with International Financial Reporting Standards.
c) Prepare the following notes to the financial statements of Viking Limited for the year
ended 31 December 20X8, in conformity with International Financial Reporting Standards:
x Profit before tax
x Change in accounting estimate
x Correction of error
x Earnings per share, ignoring headline earnings per share.
d) Prepare the earnings per share note, including disclosure of headline earnings per share.
Comparative figures are required for (a), (b) and (c).
Part B
The managing director of Viking Limited made the following comments when reviewing the
financial statements for the year ended 31 December 20X8:
a) “I have heard about the concept of verifiability and I noticed the Conceptual Framework
covers this (Chapter 2, para 30 – 32). I really don’t have time to read all this blather but
surely, if you can’t reliably estimate the useful life or residual value, how can the financial
statements be verifiable?”
b) “I am glad that we uncovered that fraud! I see that the notes to the financial statements
have disclosed the effect of the error on the financial statements for 20X7. What about
20X8 – the fraud occurred in the current year as well?”
c) “I have been looking at our headline earnings per share but am still a bit confused. I have
got as far as understanding that, when calculating headline earnings, we adjust for certain
re-measurements and not for others. But what I do not understand, is why this is. Can you
explain this to me?”
Required:
Provide short answers to the managing director’s questions.
Question B.10
Silburn Limited purchased a building in Church Street on 1 January 20X4 for C99 000 in cash
with the intention of earning rental income and capital appreciation. It was correctly classified
as an investment property. The building’s total useful life (from date of purchase) is
estimated to be 9 years and its residual value is estimated to be nil. Both variables of
depreciation have remained unchanged since acquisition.
Chapter B 349
Due to an economic downturn, Silburn Limited had never been able to find tenants and this
property has been vacant ever since acquisition. The managing director has not been
concerned since the property is in an upmarket area and he is convinced that once the
economy recovers, not only will there be significant capital appreciation, but there will be an
oversupply of tenants.
The fact that it was vacant subsequently turned out to be a blessing when Silburn Limited’s
head office in a nearby village burnt down in December 20X4. The head-office personnel and
equipment were moved into the vacant building on 1 January 20X5.
Despite the fact that the building became owner-occupied from 1 January 20X5, the
accountant continued to measure it as investment property. This error was only discovered
on 1 February 20X8. The financial statements for the year ended 31 December 20X7 have
not yet been completed having had absolutely no entries at all processed relating to this
building during 20X7 or relating to the correction of this error.
The fair values of the building, as determined by the valuer, continued to climb as follows:
x 31 December 20X4: C132 000
x 31 December 20X5: C143 000
x 31 December 20X6: C159 500
x 31 December 20X7: C165 000
Silburn Limited measures:

x Investment properties using the fair value model (IAS 40); and
x Property, plant and equipment using the cost model (IAS 16).

x levy company income tax at 30%
x apply a capital gains inclusion rate of 30%
x allow the deduction of the cost of this building at 10% per annum.
The building has always been held within a business model whose objective it is to consume
substantially all of the economic benefits from the investment over time and thus the deferred
tax presumption in IAS 12.51C was rebutted when measuring deferred tax.
Required:
Provide all journal entries necessary to be processed in order to finalise Silburn Limited’s
financial statements for the year ended 31 December 20X7 such that they are in accordance
Question B.11
Barker Limited, a manufacturer of glitzy dog kennels, has only one intangible asset, being the
cost of the development of a new material to be used in the manufacture of the dog kennels.
An error was discovered during the audit of the company’s financial year ended 31 December 20X4:
a payment of C100 000, which was made on 1 July 20X1 for development costs incurred, had been
erroneously debited to the ‘current tax payable: income tax’ account. Since all the criteria for the
capitalisation of these development costs had been met, this payment should have been debited to
the ‘development asset account’ instead.
The development of the material was completed by 31 December 20X1 and amortisation of
this account began on 1 January 20X2. The development asset is amortised over a period of
10 years to a nil residual value using the straight-line method.
350 Chapter B
The recoverable amount had to be calculated at 31 December 20X4 and was found to be
C500 000. No calculation of the recoverable amount had previously been necessary. No
impairment journal has yet been processed.
The tax authorities allow the deduction of development costs as they are incurred, and have
indicated that they will re-open the relevant tax assessments. The income tax rate is 30%.
Amortisation of the development asset had already been processed in 20X4 (i.e. before the
abovementioned error was discovered).
BARKER LIMITED
STATEMENT OF FINANCIAL POSITION (EXTRACTS)
AS AT 31 DECEMBER 20X4
20X4 20X3 20X2 20X1
Non-current assets C C C C
Intangible asset 476 000 544 000 612 000 680 000
Deferred tax: income tax 210 000 220 000 170 000 180 000
Current liabilities
Current tax payable: income tax 150 000 120 000 160 000 140 000
All amounts are considered material.
Required:
a) Prepare the correcting journal entries (all adjustments must be processed in 20X4 since it
is not possible for Barker Ltd to process entries in the prior year general journals).
b) Prepare, in accordance with IFRSs, the correction of material error note for inclusion in
the financial statements of Barker Limited for the year ended 31 December 20X4.
Question B.12
Fluff Limited required long-term capital to finance a variety of projects. It managed to raise
some of this capital through a bank loan but still needed further cash. Thus, on
1 September 20X6, Fluff Limited issued 400 000 preference shares. These shares were
issued at C5 each, have a coupon rate of 10% and will be converted into ordinary shares on
31 August 20Y1. The market interest rate for similar shares is 12%. The preference
dividends, calculated by applying the coupon rate to their deemed value of C5 each, are non-
discretionary and are payable on 31 August each year until conversion.
Fluff Limited’s new and inexperienced accountant has processed the following journals since the
issue in 20X6, but after chatting to a colleague at an accounting update seminar he has become
concerned that he may have made an error. The following journals were processed in the prior
years ended 31 August 20X7 and 31 August 20X8:
Debit Credit
1 September 20X6
Bank 2 000 000
Preference shares: Equity 2 000 000
Issue of redeemable preference shares
31 August 20X7
Preference dividends 200 000
Bank 200 000
Payment of preference dividends at 10% coupon rate
31 August 20X8
Preference dividends 200 000
Bank 200 000
Payment of preference dividends at 10% coupon rate
Chapter B 351
Required:
Write a letter to the accountant, in which you explain whether or not the issue of shares and
the payment of dividends in the prior years ended 31 August 20X7 and 20X8 have been
correctly recognised and measured. If you believe the journals were not correct, include in
the letter your proposed correcting journals to be processed in the 31 August 20X9 financial
year and, if relevant, any note disclosure relating to the error to be included in the financial
statements for the year ended 31 August 20X9. Ignore tax
Question B.13
Menace Limited purchased a nuclear plant, the details of which are as follows:
Cash purchase price (1 January 20X1): C2 000 000
Depreciation straight-line to nil residual values: 5 years
The nuclear plant must be dismantled after 5 years, details of which are as follows:
Future decommissioning cost assessed on 1 January 20X1: C1 000 000
Discount rate: 10%
Part A
Menace Limited uses the cost model to measure items of plant. During 20X4, the expected
cost of decommissioning increased to C1 500 000.
Required:
a) Prepare the journal entries relating to the plant for the years 20X3 and 20X4.
b) Disclose the following in the notes to the financial statements of Menace Limited for the
Standards:
x profit before tax: showing the finance charges and depreciation, and
x change in estimate.
Ignore tax
Part B
Assume the same as in Part A above, except that Menace Limited uses the revaluation model
to measure its items of plant. At 31 December 20X3, the plant was revalued upwards by
C400 000, and during 20X4, the expected cost of decommissioning increased to C1 500 000.
The company does not transfer the realised portion of any revaluation surplus to retained
earnings over the life of the plant.
Required:
a) Prepare the journal entries relating to the plant for the years 20X3 and 20X4.
b) Disclose the following in the notes to the financial statements of Menace Limited for the
Standards:
x profit before tax: showing the finance charges and depreciation, and
x change in estimate.
Ignore tax
352 Chapter B
Question B.14
Putu Limited has been involved in the construction of its only two items of property, plant and
equipment, both of which are qualifying assets for purposes of IAS 23 Borrowing costs:
x a desalination plant and
x a power plant.
The following are the details relating to the construction of each asset:
Desalination Plant Power plant
(D-Plant) (P-Plant)
Construction cost C900 000 C800 000
Borrowing costs C120 000 C90 000
Investment income C21 000 C0
Commencement date 01 March 20X7 01 March 20X9
Cessation date 30 April 20X8 N/A
Additional information relating to the table above:

x The commencement date referred to above is the date on which all criteria for
capitalisation were met. The cessation date referred to above is the date on which
construction was complete.
x All construction costs listed above were incurred and paid evenly between
commencement date and cessation date.
x All borrowing costs listed above had been incurred on specific loans and had been
incurred evenly between commencement date and cessation date.
x The investment income earned from the investment of surplus loan funds during the
construction of the desalination plant was comprised of the following:
Interest income: C15 000, earned evenly between 1 December 20X7 and 31 May 20X8
Dividend income: C2 500 declared on 15 December 20X7 and C3 500 declared on
5 May 20X8.
x The desalination plant was put into operation on 1 May 20X8 and is measured under the
cost model, with depreciation provided over its estimated useful life of 10 years to a nil
residual value, using the straight-line method.
x All borrowing costs incurred in the construction of these assets have been expensed.
This is an error in terms of IAS 23 Borrowing costs. The company had already begun
drafting its statement of changes in equity:
PUTU LIMITED
STATEMENT OF CHANGES IN EQUITY (extracts)
Retained Total
earnings
C C
Balance - 1 January 20X8 480 000 xxx
Balance - 1 January 20X9 530 000 xxx
Balance - 31 December 20X9 560 000 xxx

x Interest incurred is allowed as a deduction in the calculation of taxable profits in the same
year in which it is incurred.
Chapter B 353
x The cost of both the desalination plant and the power plant will be allowed as a deduction
in the calculation of taxable profits at a rate of 20% of the cost per annum, with the first
such deduction being allowed in the year in which the asset first became available for use
(not apportioned for part of a year).
x Income tax at 30% is levied on taxable profits.
x The error in the accounting records did not result in an error in the figures submitted to
the tax authorities.
There are no other temporary differences other than those evident from the information above.
There were no disposals, purchases or other movements in property, plant and equipment
other than those evident from the information provided.
Required:
a) Using the general journal, show all journals that you believe are necessary based on the
information provided above.
b) Provide the following disclosure for inclusion in the financial statements for the year ended
31 December 20X9, in as much detail as is possible:
x Correction of error note
x Statement of financial position.
Question B.15
In March 20X7, during the audit of the 20X6 financial records of Roo Limited, (an Australian
company), the auditors discovered that the accountant had made an error by using the
reclassification adjustment approach instead of the basis adjustment approach when accounting
for a hedge of a highly probable forecast transaction to acquire equipment. Unfortunately, the
accountant had been mistakenly under the impression that the previous IAS 39 principle, which
allowed the choice between using either the basis adjustment or reclassification adjustment
approach, still applied under the new IFRS 9 Financial instruments.
The details regarding this transaction are as follows:

x A forward exchange contract was entered into on the 30 November 20X4 in anticipation of
the forecast transaction to acquire equipment for R450 000 from a SA Company called
Muzi Limited. At this point, the forecast transaction was considered to be highly probable.
x This FEC will expire on 31 May 20X5.
x Roo Limited signed a contract (considered to be a firm commitment) with Muzi Limited on
31 January 20X5.
x The equipment was shipped on a delivery duty paid (DDP) basis and was released by
customs on the 14 February 20X5.
x The equipment was immediately available for use and was depreciated from this date on
the straight-line basis over its useful life of 10 years to its residual value of nil.
x Roo Limited paid Muzi Limited on 31 May 20X5.
x Exchange rates were as follows:
Date Spot FEC expiring on 31 May X5
$: Rand $: Rand
30 November 20X4 6.10: 1 6.12: 1
31 December 20X4 6.19: 1 6.21: 1
31 January 20X5 6.00: 1 6.05: 1
14 February 20X5 5.99: 1 6.01: 1
31 May 20X5 5.96: 1
354 Chapter B
During 20X6, the remaining useful life was changed to 5 years (calculated from 1 January 20X6).
The reallocation method is used to account for changes in estimates.
Roo Limited accounts for the hedge of the firm commitment as a cash flow hedge and the
hedge of the recognised asset as a fair value hedge.
The draft statement of comprehensive income and statement of changes in equity, before taking
into account either the change in estimate or correction of error, are presented below.
ROO LIMITED
STATEMENT OF COMPREHENSIVE INCOME (Extracts)
20X6 20X5 20X4
$ $ $
Profit for the year 280 000 160 500 100 000
Other comprehensive income
Items that may be reclassified to profit or loss
x Cash flow hedge reserve 4 950 (85 669) 0
- Gain/ (loss) recognised during the year IFRS 7.23(c) 0 (90 000) 40 500
- Reclassified to profit or loss IFRS 7.23(e) 4 950 4 331 0
Items that will not be reclassified to profit or loss - - -
Total comprehensive income 284 950 74 831 140 500
ROO LIMITED
Share Retained Cash flow Total
capital earnings hedge
reserve
$ $ $ $
Balance - 1 January 20X5 100 000 400 000 40 500 540 500
Total comprehensive income - 20X5 160 500 (85 669) 74 831
Balance - 1 January 20X6 100 000 560 500 (45 169) 615 331
Total comprehensive income – 20X6 280 000 4 950 284 950
Balance - 31 December 20X6 100 000 840 500 (40 219) 900 281
Required:
a) Prepare the journal entries to account for the correction of error and change in estimate in
the books of Roo Limited for the year ended 31 December 20X6.
b) Provide the following disclosure for inclusion in the financial statements of Roo Limited for
the year ended 31 December 20X6, in as much detail as is possible:
x Correction of error note
x Change in accounting estimate note
Ignore tax.
Question B.16
Hubbard Limited’s bookkeeper has drawn up the draft statement of comprehensive income and
the draft extracts of its statement of changes in equity for the year. These are presented on the
next page.
Chapter B 355
HUBBARD LIMITED
Retained earnings
20X6 20X5
C C
Opening balance 83 000 25 000
Ordinary dividends (10 000) (5 000)
Preference dividends (2 000) (2 000)
Closing balance 181 000 83 000
HUBBARD LIMITED
20X6 20X5
C C
Sales 500 000 400 000
Cost of sales (250 000) (200 000)
Gross profit 250 000 200 000
Other expenses (110 000) (103 000)
Profit on sale of plant (taxable) 7 000 0
Interest received 3 000 3 000
Income tax expense – current (40 000) (35 000)
x Before the 20X6 financial statements were published, it was discovered that a deduction
of C10 000 had been omitted from the 20X5 current tax calculation. The effect of the
errors is material. All the information needed to report the correction of the error is
available without undue cost or effort.
x The company had operated with an ordinary share capital of C100 000 (200 000 shares
issued at C0,50 each) for a number of years.
On 31 March 20X5, 50 000 new shares were issued at C1.10 each.
On 1 January 20X6, the directors decided to split the share capital in such a way that one share
would become two shares. This was done in order to improve the shares’ marketability.
x The dividends paid to the ordinary shareholders were declared as follows:
20X6 20X5
31 December 4 000 -
30 June 6 000 5 000
10 000 5 000
x Hubbard has 20 000 preference shares in issue for many years. The preference shares
were issued at C20 000 and are non-redeemable, non-cumulative and preference
dividends are at Hubbard's discretion.
x There are no other forms of authorised or issued shares other than those evident from the
x The corporate tax rate for both years was 35%.
356 Chapter B
Required:
a) In so far as the information is available, prepare the statement of comprehensive income
and statement of changes in equity of Hubbard Limited for the year ended 30 June 20X6
in terms of International Financial Reporting Standards.
The only notes required are in respect of earnings per share and the correction of error.
b) Prepare the earnings per share note for the year ended 30 June 20X6 assuming
Hubbard Limited had to comply with both International Financial Reporting Standards and
Circular 02/2015 Headline earnings and explain where headline earnings per share may
be presented.
Question B.17
Part A
The financial director of Mail Limited is in the process of completing their financial statements
for the year ended 31 December 20X5. The financial statements are complete other than for:
x an adjustment necessary in relation to the plant (see below) and
x the calculation and disclosure of earnings per share.
Information relating to plant:

x New technology was released during 20X5 that has affected the value of Mail Limited’s
plant. At 31 December 20X5, the following information relates to the plant:
- carrying amount was C1 500 000;
- fair value less cost of disposal was estimated at C900 000; and
- value in use was estimated at C1 000 000.
x No adjustments have yet been made for the above information.
x The following is an extract of the draft financial statements, before taking into account
any adjustments that may be needed pursuant to the information provided above:
MAIL LIMITED
STATEMENT OF COMPREHENSIVE INCOME (EXTRACT)
20X5 20X4
C’000 C’000
MAIL LIMITED
NOTES TO THE FINANCIAL STATEMENTS (EXTRACT)
20X5 20X4
54. Profit before tax C’000 C’000
Profit before tax is stated after taking into account the following separately
disclosable items:
- Forex gain on cash flow hedge – reclassified from OCI 300 600
- Loss on investment property 425 0
- Loss on fair value through profit or loss financial assets 900 1 000
- Depreciation of plant 100 120
- Research costs 200 180
- Profit on sale of land 30 0
Chapter B 357
The items in the profit before tax note are either fully deductible for tax purposes or fully
taxable with the exception of the profit on sale of land, which is entirely exempt from tax.
Information relating to equity and liabilities:
The following relates to Mail Limited’s equity instruments and selected financial liabilities:
x Authorised: 5 000 000 ordinary shares (no par value),
x Issued:
4 000 000 ordinary shares (no par value, issued at C0.50 each): these shares were
issued before 20X4.
1 200 000 debentures (face value of C3 each), earning interest at a coupon rate of
6.94445% and convertible into ordinary shares at a rate of 1 ordinary share for every
5 debentures held: these debentures were issued on 1 July 20X4.
5 000 options were granted to each of the four company directors on 3 January 20X5.
These options, which have vested, offer the shares at an exercise price of C7 and will
expire 31 December 20X9. The average market price during 20X5 was C9 per share.
x There have been no other movements in the above shares, debentures or options during
either 20X5 or 20X4 other than those apparent from the information above.
x There are no other issued or potential shares other than those reflected in the information above.
The corporate tax rate was 30% throughout. There are no temporary differences other than
those apparent from the information provided.
Required:
Prepare the following, in accordance with International Financial Reporting Standards for
inclusion in Mail Limited’s annual financial statements for the year ended 31 December 20X5:
x the earnings per share figures to be presented in the statement of comprehensive income
x the earnings per share note.
Ignore headline earnings per share.
Part B:
Use the same information as above except that the company must not only comply with
International Financial Reporting Standards, but in order to list on the Johannesburg Stock
Exchange, it must also present headline earnings per share in terms of Circular 02/2015,
Required:
Prepare the following, in accordance with International Financial Reporting Standards and
Circular 02/2015 Headline earnings, for inclusion in Mail Limited’s annual financial statements
for the year ended 31 December 20X5:
x the earnings per share figures to be presented in the statement of comprehensive income
x the earnings per share note.
358 Chapter B
GAAP: Graded Questions Separate financial statements of a parent
Chapter 29
Separate financial statements of a parent
Question Key issues
29.1 P & various Identification of subsidiaries

companies
29.2 Plastic Pre- and post- acquisition dividends
29.3 Prior / Since Purchase of shares during the year; revaluation of non-depreciable
asset at acquisition; gain on acquisition; dividend income;
impairment of investment
29.4 Pasta / Sauce Purchase of shares during the year; revaluation of depreciable
asset at acquisition; goodwill; dividend income; impairment of
investment
Chapter 29 359
Question 29.1
The group structure the P Group is set out below:
P Limited
55% 100% 42% 35%

A Proprietary Limited B Limited S Limited R Limited
40% 20% 60%
30%
D Limited C Limited
(German company)
60%
E Limited

x P Limited owns 55% of the shares in A Proprietary Limited and has signed an agreement
with the other shareholder, relinquishing P Limited's voting power to them.
x P Limited owns 100% of the shares in B Limited.
x B Limited owns 60% of the shares in C Limited, a company registered in Germany.
x B Limited owns 20% of the shares in D Limited.
x C Limited owns 60% of the shares in E Limited.
x P Limited owns 42% of the shares in S Limited and can appoint 4 of the 7 directors. (All
the directors hold equal voting rights.)
x P Limited owns 35% of the shares in R Limited.
x S Limited owns 30% of the shares in R Limited.
One share equals one vote, unless otherwise specified.
Required:
State, giving reasons, which of the above companies are subsidiaries of P Limited and which
are not. Make reference to IFRS 10 Consolidated Financial Statements in your answer.
Question 29.2
While watching a test match at the Wanderers with a client, Mr Bag, the managing director of
the Plastic Limited group, discussed the following issue with you:
Plastic Limited group purchased a 100% share in Surgery Limited on 1 April 20X8. Two days
after this investment was acquired, Surgery Limited paid an interim dividend of C30 000 to
their shareholders. On 30 September 20X8, Surgery Limited declared a final dividend of
C50 000. Surgery Limited earned a profit for the period of C300 000, which was earned
evenly throughout the year. Mr Bag has heard about pre-acquisition and post-acquisition
dividends, but does not know what they are, or how to account for such dividends in Plastic
Limited’s financial statements.
Required:
a) Explain to Mr Bag what pre-acquisition and post-acquisition dividends are and how the
above dividends paid by Surgery Limited would be classified by Plastic Limited.
b) Discuss how Plastic Limited should account for pre-acquisition and post-acquisition
dividends in its separate financial statements, if Plastic Limited uses the cost method to
account for investments in subsidiaries.
360 Chapter 29
Question 29.3
Prior Limited bought all the shares in Since Limited cum div on 2 January 20X4 for C50 000
cash. All the assets and liabilities are fairly valued except for the land that has a fair value of
C24 000 above its cost. The company intends to recover the land through sale.
The land is currently being used to earn revenue from concerts and other outdoor events. All
profits are from rental activities. The rent is earned evenly throughout the year.
The summarised statement of financial position at 30 June 20X4 and an extract from the
statement of changes in equity for the years ending 30 June 20X4 and 30 June 20X5 are
shown below:
SINCE LIMITED
AT 30 JUNE 20X4
C
ASSETS
Land – at cost 28 000
Payments in advance 1 000
Bank 3 000
32 000
Share capital – authorised and issued 20 000 shares 20 000
32 000
SINCE LIMITED
EXTRACT FROM STATEMENT OF CHANGES IN EQUITY
Retained
earnings
C
Balance at 30 June 20X3 8 000
Dividends paid (4 000)
- 03 January 20X4 1 000
- 30 June 20X4 3 000
Dividends paid (15 000)
- 02 January 20X5 5 000
- 30 June 20X5 10 000
Since Limited sold all of its land during June 20X5. The profit of C26 000 for the year ending
30 June 20X5 includes C8 000 from rental activities and C18 000 profit on the sale of land.
There are indications that the investment may be impaired as the land was a major asset of
Since Limited. The impairment is estimated at C1 500. Land is not depreciated.
Required:
Provide the journal entries in the accounting records of Prior Limited for the 20X4 and 20X5
financial years to record:
x the purchase of the shares
x the receipts of the dividends
x any other related matters.
Ignore tax.
Chapter 29 361
Question 29.4
Pasta Limited bought all the shares in Sauce Limited on 1 January 20X5 for an amount of
C1 460 000. The major asset of Sauce Limited is a piece of land on which Sauce Limited
operates a car park adjacent to a major tourist attraction. The issued share capital of Sauce
Limited at the date of acquisition amounts to C1 000 000. All the assets of Sauce Limited
were considered to be fairly valued except for the ticket equipment.
The accounting policy of Pasta Limited in relation to property, plant and equipment is to
measure property using the cost model and equipment using the revaluation model. Any
surplus on revaluation is transferred to retained earnings as the asset is used.
The property was purchased on 1 July 20X2 at a cost of C1 500 000. The property is not
depreciated and there are no tax allowances.
The equipment was considered to be worth C10 000 more than its carrying amount on the
date that Pasta Limited bought all the shares of Sauce Limited. On acquisition, to align the
accounting policies of Pasta Limited and Sauce Limited, the directors of Pasta instructed the
directors of Sauce to revalue the equipment. The useful life of the equipment was increased
by 1½ years. The equipment was purchased on 1 July 20X2 at a cost of C70 000. Sauce
accounts for depreciation on equipment on the straight line basis over its useful life of 5 years,
with a nil residual value. The tax authorities allow the deduction of the cost at 25% pa on the
straight line basis, apportioned for time. At 31 December 20X4, the equipment had a carrying
amount of C35 000 and a tax base of C26 250.
Both Pasta Limited and Sauce Limited have a June year end. Sauce Limited prepared
interim results for the six months from 1 July 20X4 to 31 December 20X4 as shown in the
retained earnings account below, together with the movements in retained earnings to 30
June 20X6. Sauce Limited has correctly accounted for the revaluation of the equipment, as
instructed by Pasta Limited. Sauce Limited uses the net replacement method to account for
the revaluation of equipment.
RETAINED EARNINGS
Description C Description C
31/12/X4 Income tax expense 25 000 01/07/X4 Balance 152 900
03/01/X5 Ordinary dividend 10 000 31/12/X4 Profit or loss 75 000
30/06/X5 Income tax expense 15 000 30/06/X5 Profit or loss 45 000
30/06/X5 Ordinary dividend 40 000 30/06/X5 Revaluation surplus ?
30/06/X5 Balance ?
? ?
30/06/X6 Special dividend 90 000 01/07/X5 Balance ?
30/06/X6 Balance ? 30/06/X6 Profit or loss 40 000
30/06/X6 Revaluation surplus ?
? ?
01/07/X6 Balance ?
Details of the breakdown of the profit for the year ended 30 June 20X6 of Sauce Limited is
shown in the profit or loss account below. The directors of Sauce Limited, in consultation with
the directors of Pasta Limited decided to sell the property at the end of June 20X6 for an
amount of C1 600 000. This decision was taken after the projected number of tourists did not
materialise. The directors declared a special dividend from the profit on sale of the property
of C90 000. No other ordinary dividends were declared during the year.
362 Chapter 29
PROFIT OR LOSS
Description C Description C
30/06/X6 Operating expenses 90 000 30/06/X6 Parking fee income 30 000
30/06/X6 Retained earnings 40 000 30/06/X6 Profit on sale of 100 000
property
130 000 130 000
The directors of Pasta Limited considered the investment in Sauce Limited to be impaired at
30 June 20X6. The recoverable amount is assessed to be C1 400 000.
The company tax rate is 29%.
Required:
a) Prepare the journal entries in the accounting records of Pasta Limited to account for its
investment in Sauce Limited for the years ended 30 June 20X5 and 20X6.
b) Prepare the journal entries that would have been processed in the accounting records of
Sauce Limited relating to the property and the equipment (including depreciation, deferred
tax and transfers to retained earnings, where applicable) from 1 January 20X5 to 30 June
20X6.
Ignore CGT.
Chapter 29 363
GAAP: Graded Questions Wholly owned subsidiaries
Chapter 30
Wholly owned subsidiaries
Question Key issues
30.1 Pelican / Seal Analysis of equity at acquisition; goodwill; elimination of at

acquisition accumulated depreciation; intercompany transactions
30.2 Pardon / Sorry Analysis of equity at acquisition, since acquisition to beginning of

current year; goodwill
30.3 Plane / Ship Revaluation of depreciable asset at acquisition and effect on

analysis of equity (at acquisition, since acquisition to beginning of
current year and current year); goodwill; intercompany transactions
30.4 Production / Strike Revaluation of non-depreciable asset at acquisition; subsequent

sale of non-depreciable asset and transfer of profit to NDR;
goodwill; intercompany loan
30.5 Pepper / Salt Revaluation increase of non-depreciable asset recorded in

subsidiary’s records (at acquisition and subsequent to acquisition);
goodwill; intercompany transactions
364 Chapter 30
Question 30.1
Pelican Limited purchased all the shares in Seal Limited on 1 July 20X3.
The following are the statements of financial position at 30 June 20X4 as well as the
statements of comprehensive income and statements of changes in equity of the two
companies for the year ended 30 June 20X4.

AT 30 JUNE 20X4
Pelican Seal
Limited Limited
ASSETS C C
Non-current assets
Land, at cost 35 000 110 000
Furniture 4 200 1 400
- Cost 6 000 2 000
- Accumulated depreciation 1 800 600
Investment in Seal Limited 120 000 -
Loan to Seal Limited 10 000 -
Current assets
Inventories 80 000 -
299 500 135 000

Loan from Pelican Limited - 10 000
Current liabilities
299 500 135 000
STATEMENTS OF COMPREHENSIVE INCOME

Pelican Seal
Limited Limited
C C
Gross profit 80 000 -
Rent income - 22 000
Interest on loan to Seal Limited 500 -
Other expenses
Property expenses - 12 000
Selling and administration expenses 25 000 -
Rent expense (paid to Seal Limited) 15 000 -
Depreciation of furniture 600 200
Audit fees and expenses 400 100
Interest on loan from Pelican Limited - 500
Other comprehensive income for the year 0 0
Chapter 30 365
EXTRACT FROM STATEMENTS OF CHANGES IN EQUITY

Retained earnings
Pelican Seal
Limited Limited
C C
Balance at 1 July 20X3 40 000 10 000
Balance at 30 June 20X4 68 440 16 624
The land is not depreciated. All the assets of Seal Limited are considered to be fairly valued.
The corporate tax rate is 28%.
Required:
Prepare the consolidated statement of comprehensive income and statement of changes in
equity for the year ended 30 June 20X4 and the consolidated statement of financial position
at that date.
Question 30.2
Pardon Limited acquired a 100% interest in Sorry Limited on 1 January 20X1 for C125 000.
The directors considered the assets to be fairly valued on that date. On 1 January 20X1 the
retained earnings of Sorry Limited was C15 000.
The trial balances of the two companies on 31 December 20X5 were as follows:
TRIAL BALANCE
AT 31 DECEMBER 20X5
Pardon Limited Sorry Limited
C C
Share capital (C1 shares) 200 000 75 000
Retained earnings (01/01/X5) 71 000 45 000
Sales 64 000 55 000
Dividend income 5 000 -
379 000 195 000
Pardon Limited Sorry Limited

C C
Land and buildings, at carrying amount 60 000 45 000
Plant and equipment, at carrying amount 45 000 40 000
Investment in Sorry Limited 125 000 -
Cash 25 000 15 000
Cost of sales 34 000 35 000
Operating expenses 12 000 8 000
Taxation 3 000 2 000
Dividends 10 000 5 000
379 000 195 000
All the plant of Sorry Limited was purchased during the 20X1 financial year. The carrying
amount of goodwill is considered to be equal to its recoverable amount.
366 Chapter 30
Required:
Prepare a consolidated statement of comprehensive income and statement of changes in
equity for the year ended 31 December 20X5 and a consolidated statement of financial
position at that date.
Question 30.3
On 1 July 20X7 Plane Limited acquired all the shares in Ship Limited on which date all the
tangible assets and liabilities of Ship Limited were considered by Plane Limited to be fairly
valued except for plant and machinery which was valued at C8 000 more than carrying
amount. Ship Limited intends to recover the plant and machinery through use.
Ship Limited depreciates plant and machinery at 10% per annum to nil residual values.
The draft financial statements of the parent company and subsidiary company are as follows:

AT 30 JUNE 20X9
Plane Limited Ship Limited
ASSETS C C
Non-current assets
Land and buildings 83 000 42 800
Plant and machinery 94 500 42 000
- Cost 135 000 70 000
- Accumulated depreciation (40 500) (28 000)
Investments
- 50 000 shares in Ship Limited 89 000 -
- 10 000 10% debentures in Ship Ltd 10 000 -
Current assets
Cash and cash equivalents 1 100 900
353 700 145 700

10% debentures - 25 000
Current liabilities
Current tax payable 14 500 9 500
353 700 145 700
EXTRACT FROM THE STATEMENTS OF COMPREHENSIVE INCOME

Plane Ship
Limited Limited
C C
Other comprehensive income for the year 0 0
Chapter 30 367
EXTRACTS FROM THE STATEMENTS OF CHANGES IN EQUITY

Retained earnings
Plane Ship
Limited Limited
C C
Balance at 30 June 20X8 37 000 28 000
Dividends (11 000) (10 000)
Balance at 30 June 20X9 52 850 33 500

x At 1 July 20X7 the retained earnings of Ship Limited was C25 000.
x Plane Limited agreed with the estimated life of the plant of Ship Limited.
x Plane Limited and Ship Limited have not made any purchases or sales of plant and
machinery since acquisition date.
x The tax rate is 40%.
x The recoverable amount of goodwill is considered to be equal to its carrying amount.
Required:
equity of the group for the year ended 30 June 20X9, and the consolidated statement of
financial position at that date.
Question 30.4
Production Limited acquired Strike Limited on 30 June 20X0. Strike Limited owned a piece of
prime land that Production Limited wanted for expansion.
At 30 June 20X0 the land had a fair value of C125 000. The land is to be recovered through
sale and is measured using the cost model by both Strike Limited and the consolidated group.
At 30 June 20X0 (the date of acquisition ) the summarised statement of financial position of
Strike Limited was as follows:
STRIKE LIMITED
STATEMENT OF FINANCIAL POSITION AT 30 JUNE 20X0
20X0
ASSETS C
Non-current assets
Land 105 000
Current assets
Cash and cash equivalents 5 000
110 000
Long term loan 20 000
Current liabilities
110 000
368 Chapter 30
At 31 December 20X8 Strike Limited sold the land for C175 000. The after tax profit on sale
of C60 200 is transferred to a non-distributable reserve. No dividends have been paid by the
subsidiary.
At 30 June 20X9 the statement of financial position of each company was as follows:
STATEMENTS OF FINANCIAL POSITION AT 30 JUNE 20X9

Production Ltd Strike Ltd
ASSETS C C
Non-current assets
Land - 500 000
Plant and equipment 2 500 000 -
Investment in subsidiary 100 000 -
Loan to subsidiary 100 000 -
Current assets
Inventories 250 000 -
Accounts receivable 400 000 -
3 500 000 505 000

Share capital 2 000 000 50 000
Non-distributable reserve - 60 200
Long term loan 600 000 245 000
Current liabilities
3 500 000 505 000

The corporate tax rate is 28% and the CGT inclusion rate is 50%.
Required:
Prepare the consolidated statement of financial position of Production Limited and its
subsidiary at 30 June 20X9.
Question 30.5
Pepper Limited bought all the shares in Salt Limited on 1 January 20X3 and paid C342 500
for its investment. The retained earnings of Salt Limited at the date of acquisition amounted
to C80 000. All the assets were considered to be fairly valued except for the land. The land
is rented to a neighbouring restaurant to use as a parking lot. Salt’s land was valued by an
independent valuer at C50 000 above its cost price of C90 000. Pepper uses the revaluation
model according to IAS 16 and accordingly, instructed Salt to also adopt the revaluation
model in its accounting records. Salt intends to recover the land through sale.
Pepper Limited purchased all of its plant and equipment on 1 January 20X2. The useful life is
estimated to be ten years with no residual value.
The trial balances of Pepper Limited and Salt Limited at 31 December 20X4 are as follows:
Chapter 30 369
TRIAL BALANCE
AT 31 DECEMBER 20X4
Pepper Limited Salt Limited
C C
Non-distributable reserve 51 600
Deferred tax 8 400
Loan from Pepper Limited 50 000
Accumulated depreciation 45 000
Dividends payable 40 000
778 642 514 785
Land 150 000
Plant and equipment 150 000
Investment in Salt Limited 342 500
Loan to Salt Limited 50 000
Dividend receivable 40 000
Cash 54 500 263 500
Dividends declared 50 000 40 000
Taxation 27 642 19 285
778 642 514 785
During the year ended 31 December 20X3, Salt Limited earned a profit before taxation of
C46 428. Taxation expense amounted to C13 928. Salt Limited declared a dividend of
C40 000 during December 20X3.
In accordance with its policy of the revaluation model, the land of Salt Limited was revalued
during December 20X4 to an amount of C150 000. Salt Limited earned a profit before
taxation of C64 285 during the year ended 31 December 20X4. Taxation expense amounted
to C19 285. Salt Limited declared a dividend of C40 000 during December 20X4. The
dividend has been correctly recorded in the accounting records of both companies.
The loan from Pepper Limited to Salt Limited was advanced on 1 July 20X4. Interest at 9%
per annum has been paid by Salt Limited to Pepper Limited and is correctly included in the
profit before taxation of both companies.
The corporate tax rate is 28% and the CGT inclusion rate is 50%.
The goodwill is considered to be worth its carrying amount.
Required:
a) Prepare the pro-forma consolidating journal entries for the year ended
31 December 20X4.
b) Prepare the consolidated statement of changes in equity of the group for the year ended
31 December 20X4.
c) Prepare the assets section of the consolidated statement of financial position of the group
370 Chapter 30
GAAP: Graded Questions Partly owned subsidiaries
Chapter 31
Partly owned subsidiaries
Question Key issues
31.1 - Theory:
x Shortcomings of consolidated financial statements;
x Non-controlling interests
31.2 Penguin / Seal Consolidated financial statements involving:

x Goodwill on acquisition;
x Parent had impaired its investment;
x Remeasurement of non-depreciable asset;
x Remeasured non-depreciable asset is sold in current year;
x Intragroup dividends.
31.3 Pumpkin / Consolidated financial statements involving:

Sesame / x 2 subsidiaries
Sunflower x Other comprehensive income in current year
x Subsidiary 1:
Remeasurement of depreciable asset at acquisition
Remeasured depreciable asset is sold in current year
Intragroup dividends
x Subsidiary 2:
Revaluation surplus on acquisition
Further revaluation since acquisition
31.4 Petunia / Consolidated financial statements involving:

Sweetpea / x 2 subsidiaries
Snapdragon x Other comprehensive income in current year
x Subsidiary 1:
Revaluation surplus on acquisition
Further revaluation since acquisition
Sale of remeasured depreciable asset in current year
Sale of remeasured depreciable asset in prior year
x Subsidiary 2:
Remeasurement of depreciable asset at acquisition
Remeasured depreciable asset is sold in current year
31.5 Pie / Sky Consolidated financial statements involving:

x 1 subsidiary
x Other comprehensive income in current year
x Remeasurement at acquisition of:
depreciable asset; and
non-depreciable asset
x Subsequent sale of the remeasured depreciable asset in the
current year (and in prior year – see part (e))
x Subsequent revaluation of the remeasured non- depreciable
asset in the current year
x Intragroup dividends
Chapter 31 371
Questions continued ... Key issues
31.6 Max / Lisa / Ape Consolidated financial statements involving:

x 2 subsidiaries
x Subsidiary 1:
Remeasurement of non-depreciable asset at acquisition
Subsequent revaluation of the remeasured non-
depreciable asset
Intragroup transactions: dividends
Intragroup balances: unpaid dividends
Transfers from one equity account to another
x Subsidiary 2:
Subsidiary makes a loss since acquisition (before the
current year)
P impairs its investment in S since acquisition and
reverses the impairment in the current year
Intragroup transactions: interest
Intragroup balances: loans
31.7 Poland / Slovenia Consolidated financial statements involving:

x Remeasurement of depreciable but non-deductible asset at
acquisition
x Preference shares – parent has invested in these shares
x Intragroup transactions:
Interest,
Dividends (ordinary and preference)
x Intragroup balances:
Loans
Debentures
Unpaid dividends
Preference shares (equity)
31.8 Phone / Skype Consolidated financial statements involving:

x Revaluation of depreciable asset at acquisition
x Subsequent revaluation of revalued depreciable asset in the
current year
x Preference shares – parent has not invested in these shares
x Intragroup transactions:
Interest,
Dividends (ordinary and preference)
x Intragroup balances:
Loans
Unpaid dividends
Preference shares (equity)
372 Chapter 31
Question 31.1
a) Discuss the shortcomings of consolidated financial statements.

b) Discuss the treatment of non-controlling interests where:
x goodwill is paid by the parent company on acquisition of 80% of the subsidiary's shares
x the parent company pays a premium on acquisition of 80% of the subsidiary due to plant
being undervalued in the subsidiary's books
x the subsidiary sells goods at a profit to the parent company which owns 70% of the
subsidiary's shares
x the subsidiary pays interest to the parent company (which owns 65% of the subsidiary)
on a loan made by the parent company to the subsidiary.
Question 31.2
Penguin Limited bought 80% of the shares in Seal Limited on 1 August 20X5 for C120 000.
The land of Seal Limited has a fair value of C145 000 at that date. The summarised
statement of financial position of Seal Limited at the date of acquisition was as follows:
SEAL LIMITED
SUMMARISED STATEMENT OF FINANCIAL POSITION
AT 1 AUGUST 20X5
C
130 000
Land, at cost 125 000

Net current assets 5 000
130 000
The trial balances of Penguin Limited and Seal Limited at 31 December 20X7 are shown
below:
TRIAL BALANCES AT 31 DECEMBER 20X7

PENGUIN LIMITED SEAL LIMITED
Land 220 000 -
Investment in Seal Limited 117 600 -
Shareholders for dividend 9 000 3 000
Dividend income 16 000 -
Rental income 62 400 26 000
Profit on sale of land 17 000
Operating expenses 7 600 10 300
Impairment of investment 2 400 -
Dividends paid and declared 9 000 20 000
469 400 469 400 215 060 215 060
z Seal Limited sold its land on 30 September 20X7 for C142 000 and immediately paid the
full profit as a dividend. The final dividend was declared on 30 December 20X7. The
land is not depreciated.
Chapter 31 373
z The income tax expense has been correctly calculated. The corporate tax rate is 30%
and the CGT inclusion rate is 50%.
z The non-controlling interests are measured at their proportionate share of the acquiree’s
identifiable assets.
z There are no components of other comprehensive income.
Required:
a) Prepare the ledger account for the ‘Investment in Seal Limited’ in the ledger of Penguin
Limited.
b) Prepare all the pro-forma consolidating journal entries to consolidate Penguin Limited and
its subsidiary Seal Limited at 31 December 20X7.
c) Prepare the consolidated statement of comprehensive income of Penguin Limited and its
subsidiary for the year ended 31 December 20X7.
Comparative figures and notes to the financial statements are not required.
Question 31.3
The Seed Group consists of the parent company, Pumpkin Limited and its subsidiary
companies, Sesame Limited and Sunflower Limited.
The following information is relevant to Sesame Limited:
Pumpkin Limited purchased 80% of the shares in Sesame Limited for C1 500 000 on
1 July 20X5. The investment was paid for in cash.
x The balance on retained earnings of Sesame Limited at the date of acquisition amounted
to C550 000.
x The fair value of the plant of Sesame Limited at the date of acquisition was assessed at
C2 140 000, while all other assets and liabilities were considered to be fairly valued. The
future benefits will be recovered through use of the asset.
x The directors of Pumpkin Limited agreed with Sesame Limited’s estimated useful life of
the plant.
x No entry was recorded in the accounting records of Sesame Limited in respect of the fair
value of the plant.
x The plant of Sesame Limited was purchased on 1 July 20X4 at a cost of C2 300 000.
x The plant is depreciated on a straight line basis over its estimated useful life of five years
with no residual value. This equates to the tax allowances granted by the taxation
authorities.
x This item of plant was sold on 30 June 20X8 for an amount of C500 000. The sale of the
plant has been correctly recognised in the financial statements of Sesame Limited.
Sesame Limited has placed an order for a new item of plant that will be delivered on
1 July 20X8.
The following information is relevant to Sunflower Limited:
Pumpkin Limited purchased 80% of the shares in Sunflower Limited for C516 800 on
1 July 20X6. The investment was paid for in cash.
x The balance on retained earnings of Sunflower Limited at the date of acquisition
amounted to C60 000.
374 Chapter 31
x The fair value of the land of Sunflower Limited at the date of acquisition was assessed at
C100 000 above its cost price of C500 000, while all other assets and liabilities were
considered to be fairly valued.
x The future benefits will be recovered through sale of the asset.
x Sunflower Limited recorded the fair value of the land in its accounting records.
x The land of Sunflower Limited was revalued again at 30 June 20X8 to a fair value of
C650 000.
x The land is not depreciated and there are no tax allowances.
The following information is relevant to the parent and both subsidiaries:

x The share capital has remained unchanged since incorporation.
x The non-controlling interests are measured at their proportionate share of the acquiree’s
identifiable net assets.
x The recoverable amount of goodwill is the same as its carrying amount.
x The corporate tax rate is 28% and the CGT inclusion rate is 50%.
The following are the trial balances of the companies at 30 June 20X8:
Pumpkin Limited Sesame Limited Sunflower Limited

Debit Credit Debit Credit Debit Credit
Share capital 1 000 000 1 000 000 500 000
Revaluation surplus 1 400 000 - 129 000
Retained earnings 3 405 000 930 000 72 500
Long term loan 1 500 000 900 000 50 000
Deferred tax - - 21 000
Acc dep - Buildings 1 250 000 - -
Acc dep - Plant 1 400 000 0 -
Profit before tax 2 887 500 300 000 65 000
Accounts payable 182 500 167 250 27 285
Shareholders for dividend 75 000 15 000 0
13 100 000 3 312 250 864 785
Land 1 417 000 - 650 000
Buildings 5 000 000 - -
Plant 2 950 000 - -
Inventory 84 705 107 988 -
Bank 508 805 2 027 462 110 585
Dividends receivable 12 000 - -
Investment in Sesame 1 500 000 - -
Limited
Investment in 516 800 - -
Sunflower Limited
Income tax expense 806 440 86 500 22 200
Dividends - interim 50 000 10 000 40 000
Dividends - final 75 000 15 000 0
13 100 000 3 312 250 864 785
Required:
a) Prepare an extract from the consolidated statement of comprehensive income of The
Seed Group for the year ended 30 June 20X8, in so far as the information is available.
b) Prepare the consolidated statement of changes in equity of The Seed Group for the year
ended 30 June 20X8.
Chapter 31 375
Question 31.4
The Garden Group consists of the parent company, Petunia Limited and its subsidiary
companies, Sweetpea Limited and Snapdragon Limited.
The following are the trial balances of the companies at 30 June 20X9:
Petunia Limited Sweetpea Limited Snapdragon Limited

Debit Credit Debit Credit Debit Credit
Share capital 1 000 000 500 000 100 000
Revaluation surplus 1 400 000 215 000 -
Retained earnings 3 405 000 72 500 73 000
Deferred tax - 35 000 -
Accumulated 1 250 000 - -
depreciation - Buildings
Profit before tax 2 887 500 65 000 168 000
Profit on sale of plant - - 28 000
Shareholders for dividend 75 000 40 000 -
10 200 000 989 785 477 200
Land 1 500 000 650 000 -
Buildings 5 500 000 - -
Inventory 230 000 30 000 88 000
Bank 1 021 710 155 585 100 520
Investment in 100 000 - -
Snapdragon Limited
Investment in Sweetpea 600 000 - -
Limited
Income tax expense 812 040 22 200 54 880
Dividends 125 000 40 000 -
10 200 000 989 785 477 200
The following information is relevant to Sweetpea Limited:

x Petunia Limited purchased 80% of the shares in Sweetpea Limited for C600 000 on
1 July 20X7. The investment was paid for in cash. The balance on retained earnings of
Sweetpea Limited at the date of acquisition amounted to C60 000.
x The fair value of the land of Sweetpea Limited at the date of acquisition was assessed at
C150 000 above its cost price of C400 000, while all other assets and liabilities were
considered to be fairly valued. The future benefits will be recovered through sale of the
asset. Petunia Limited uses the revaluation model to measure its property and thus
instructed Sweetpea Limited to change its accounting policy to the revaluation model.
Sweetpea recorded the fair value of the land in its accounting records at acquisition. The
land is not depreciated and there are no tax allowances.
x There was no change in the value of the land at 30 June 20X8. The land of Sweetpea
Limited was revalued at 30 June 20X9 to a fair value of C650 000.
x The directors of Sweetpea Limited declared a dividend of C40 000 on 30 June 20X9.
The following information is relevant to Snapdragon Limited:

x Petunia Limited purchased 75% of the shares in Snapdragon Limited on 1 July 20X6 for
C100 000. The investment was paid for in cash. The balance on retained earnings of
Snapdragon Limited at the date of acquisition amounted to C12 000.
x At acquisition date, all the identifiable assets and liabilities of Snapdragon Limited were
considered to be fairly valued, except for the plant. Snapdragon Limited purchased all of
its plant on 1 July 20X1 at a cost of C160 000. The plant is depreciated on a straight-line
376 Chapter 31
basis over its useful life of ten years to a zero residual value. The tax authorities grant a
tax allowance of 10% per annum on the straight line basis.
x The fair value of the plant on 1 July 20X6 was assessed at C120 000. The total useful life
and residual value remained unchanged. The future benefits will be recovered through
the use of the asset. No entry was recorded in the accounting records of Snapdragon
Limited in respect of the fair value of the plant.
x Snapdragon Limited sold all of its plant on 30 June 20X9 for an amount of C60 000. The
directors have contracted to purchase additional plant early in the new financial year.
The following information is relevant to the parent and both subsidiaries:

x The share capital has remained unchanged since incorporation.
x The recoverable amount of goodwill is the same as its carrying amount.
x The corporate tax rate is 28% and the CGT inclusion rate is 50%. Dividends tax has been
correctly calculated, paid and recorded by all three companies.
Required:
For parts a) to c), ignore comparatives.
a) Prepare the consolidated statement of comprehensive income of The Garden Group for
the year ended 30 June 20X9, in so far as the information is available.
b) Prepare the consolidated statement of changes in equity of The Garden Group for the
year ended 30 June 20X9.
The total column is not required.
c) Prepare an extract from the consolidated statement of financial position of the Garden
Group at 30 June 20X9, showing the non-current assets section only.
d) Prepare the pro-forma consolidating entries relating to the dividends of Sweetpea Limited
for the year ended 30 June 20X9.
e) Prepare the pro-forma consolidating entry at the beginning of the year relating to the plant
of Snapdragon for the year ended 30 June 20X10.
The relevant ‘at acquisition’ entries are correctly processed and are not required.
Question 31.5
Pie Limited bought 80% of the share capital of Sky Limited on 1 October 20X3 for
C1 800 000. The group is known as Pie in the Sky. The abridged trial balance of Sky Limited
at the date of acquisition appeared as follows:
SKY LIMITED
ABRIDGED TRIAL BALANCE AT 1 OCTOBER 20X3
Debit Credit
Long-term borrowings 300 000
Property 750 000
Equipment - cost 1 000 000
Equipment - accumulated depreciation 400 000
Current assets 254 000
Current liabilities 84 000
2 004 000 2 004 000
Chapter 31 377
At acquisition, the directors of Pie Limited placed a value of C950 000 on the property and
C750 000 on the equipment of Sky Limited. The property consists of vacant land that will be
used as owner-occupied property and is not depreciated. Sky Limited depreciates its
equipment at 10% per annum on the straight line basis with a zero residual value. The
directors of Pie Limited agree with the estimated useful life of the equipment. All other assets
and liabilities are considered to be fairly valued. No adjustments were made to the
accounting records of Sky Limited.
The trial balances of Pie Limited and Sky Limited at 30 September 20X5 are shown below:
TRIAL BALANCE AT 30 SEPTEMBER 20X5

PIE LIMITED SKY LIMITED
Revaluation surplus 250 000
Operating profit before tax 320 000 280 000
Dividend income 9 600 31 000
Property 1 000 000
Equipment - cost 800 000 -
Investment in Sky 1 800 000
Listed investments 350 000
Dividends 16 000 12 000
Dividends receivable 6 400
2 887 200 2 887 200 2 043 000 2 043 000
x On 31 March 20X5, Sky Limited revalued its property to a fair value of C1 000 000. The
company has always intended to keep the property.
x On 30 September 20X5, Sky Limited sold its equipment for C440 000. The operating
profit before tax of C280 000 includes the profit on the sale of the equipment. The
directors of Pie Limited are satisfied that the investment in Sky Limited is worth its
carrying amount.
x The directors of Sky Limited declared an interim dividend of C4 000 on 25 March 20X5
and paid this amount to shareholders during April 20X5. The directors declared a final
dividend of C8 000 on 25 September 20X5, payable during October 20X5.
x The listed investments on Sky Limited’s trial balance all comprise minority shareholdings.
x The income tax expense has been correctly calculated for both companies at the
company tax rate of 29%. The capital gains inclusion rate is 50%.
Required:
For parts c) and d), ignore comparatives.
a) Prepare all the pro-forma consolidation journal entries relating to the equipment of Sky
Limited for the year ended 30 September 20X5.
b) Prepare all the pro-forma consolidation adjusting entries relating to the dividends declared
by Sky Limited for the year ended 30 September 20X5.
c) Prepare the statement of comprehensive income of the Pie in the Sky group for the year
ended 30 September 20X5.
d) Prepare the statement of changes in equity of the Pie in the Sky group for the year ended
30 September 20X5.
378 Chapter 31
e) In so far as the information is available, prepare all the pro-forma consolidation journal
entries relating to the property and the equipment of Sky Limited for the year ended
30 September 20X6.
Question 31.6
The following balances were extracted from the records of Max Limited and its subsidiaries:
TRIAL BALANCES AT 31 OCTOBER 20X7

MAX LISA APE
LIMITED LIMITED LIMITED
Share capital 300 000 100 000 100 000
Revaluation surplus 17 200 12 900 -
Deferred tax 2 800 2 100
Asset replacement reserve - 6 000 -
Retained earnings / (accumulated loss) 30 000 16 000 (7 000)
Plant and equipment – accumulated depreciation 50 000 33 000 -
Net operating profit 52 200 50 000 5 000
Long term liability 60 000 80 000 30 000
Bank overdraft 5 000 - 3 000
Shareholders for dividends 15 000 10 000 -
547 200 320 000 135 000
Land 130 000 125 000 130 000

Plant and equipment – cost 180 000 130 000 -
Investment in subsidiaries - Shares in Lisa Limited 68 800
- Shares in Ape Limited 78 300
- 10% loan (Lisa) 20 000 - -
Inventories 9 000 9 000 -
Cash - 5 000 -
Interest paid 7 000 11 000 -
Transfer to asset replacement reserve - 6 000 -
Dividends declared 15 000 10 000 -
Income tax expense 18 000 12 000 -
547 200 320 000 135 000
x The revaluation surplus in both companies arose on 31 October 20X6 when the
companies revalued their respective land.
x Investment in Lisa Limited: Max Limited purchased 60% of the shares in Lisa Limited in
20X4 for C68 800 when the only reserve in Lisa Limited was retained earnings of C5 000.
At acquisition, the fair value of the land was C10 000 above its carrying amount. All other
assets and liabilities were fairly valued. The interest due by Lisa Limited to Max Limited
had been paid by year end.
x Investment in Ape Limited: Max Limited purchased 80% of the shares in Ape Limited on
1 January 20X3 for C81 100 when Ape Limited’s retained earnings was C1 500. All assets
and liabilities were fairly valued.
An impairment in respect of the investment in Ape Limited amounting to C6 800 was
recognised at 31 October 20X6. A reversal of the impairment amounting to C4 000 was
recognised at 31 October 20X7.
Chapter 31 379

Required:

equity of Max Limited and its subsidiary companies for the year ended 31 October 20X7 and
the consolidated statement of financial position at that date in compliance with the
requirements of the Companies Act and International Financial Reporting Standards.
Comparatives and notes to the financial statements are not required.
Question 31.7
The following are the trial balances of Poland Limited and its subsidiary Slovenia Limited at
31 August 20X1:
TRIAL BALANCES AT 31 AUGUST 20X1

POLAND SLOVENIA
LIMITED LIMITED
Preference share capital (12% shares) - 50 000
Asset replacement reserve 35 000 10 000
Retained earnings - 1 September 20X0 40 000 24 000
Profit before tax, interest and dividend 57 300 31 000
Dividend income 6 900
Interest received 3 600 4 200
9% loan from Poland Limited - 40 000
14% debentures of C100 each 45 000 -
Shareholders for dividends - preference - 3 000
Shareholders for dividends - ordinary 15 000 6 000
361 700 272 000
Buildings 130 000 60 000
- Cost 325 000 400 000
- Accumulated depreciation (195 000) (340 000)
Shares in Slovenia Limited
75 000 ordinary shares 105 000 -
20 000 preference shares 20 000 -
9% loan to Slovenia Limited 40 000 -
300 debentures in Poland Limited - 30 000
Dividends receivable 5 700
Cash 23 320 156 920
Interest paid - debentures 6 300 -
Interest paid - loan Poland Limited - 3 600
Preference dividends - paid - 3 000
Preference dividends - declared - 3 000
Ordinary dividends - declared 15 000 6 000
361 700 272 000
x Poland Limited purchased its ordinary shares in Slovenia Limited, a property company
with an issued share capital of 100 000 ordinary shares and 50 000 preference shares, on
1 September 20W4 when its asset replacement reserve was C4 000 and retained
earnings C16 000.
x The fair value of the building of Slovenia Limited at acquisition was C20 000 above its
carrying amount of C200 000. Slovenia Limited provides for depreciation on this property
380 Chapter 31
at 5% per annum on the straight line basis. The property is an administration building and
no tax allowances are provided by the tax authorities.
x Poland Limited purchased its preference shares in Slovenia Limited on
1 September 20W7. The preference dividend has never been in arrears.
x Slovenia Limited purchased the debentures in Poland Limited on 1 September 20W9.
x Both companies declared their respective ordinary dividends on 31 August 20X1.
Required:
Prepare the consolidated statement of comprehensive income and consolidated statement of
changes in equity of Poland Limited and its subsidiary company for the year ended 31 August
20X1 and the consolidated statement of financial position at that date.
Question 31.8
Phone Limited bought 80% of the ordinary share capital of Skype Limited on 1 October 20X5
for C1 100 000. The group is known as Talk for Ever. Phone Limited does not own any of
the preference share capital of Skype Limited. The abridged trial balance of Skype Limited at
30 September 20X5 appeared as follows:
SKYPE LIMITED
ABRIDGED TRIAL BALANCE AT 30 SEPTEMBER 20X5
Debit Credit
8% Preference share capital 100 000
Equipment - cost 1 000 000
Current assets 724 000
Current liabilities 184 000
1 724 000 1 724 000
Phone Limited uses the revaluation model to measure its equipment and, at acquisition,
instructed Skype Limited to also use the revaluation model in its company accounting records.
The fair value of Skype Limited’s equipment was estimated at C750 000, with no change in
the estimated useful life. Skype Limited recorded the revaluation in its accounting records on
1 October 20X5, using the net replacement value method. The revaluation surplus will be
transferred to retained earnings only on disposal of the asset.
Skype Limited depreciates the equipment over its useful life of ten years with a zero residual
value. The tax authority grants a tax allowance of 10% per annum.
All other assets and liabilities are considered to be fairly valued.
The trial balances of both companies at 30 September 20X7 are shown below:
Chapter 31 381
TRIAL BALANCES AT 30 SEPTEMBER 20X7

PHONE LIMITED SKYPE LIMITED
8% Preference share capital - 100 000
Revaluation surplus 213 000 177 500
Non-current borrowings - 180 000
Profit before interest expense and tax 383 600 289 600
Interest expense - 18 000
Property – cost - 1 000 000
Property – accumulated depreciation - 75 000
Equipment – fair value 1 200 000 600 000
Equipment – accumulated depreciation 0 0
Deferred taxation 65 250 58 000
Investment in Skype 1 100 000
Loan to Skype 120 000
Other investments - 120 000
Dividends - ordinary 20 000 16 000
Dividends - preference - 8 000
2 784 850 2 784 850 2 320 100 2 320 100

x Immediately after acquisition in October 20X5, Skype Limited declared and paid a
dividend of C50 000.
x The preference shares of Skype Limited are redeemable at the option of the company.
x On 30 September 20X7, the fair value of Skype Limited’s equipment was estimated at
C600 000. The revaluation was recorded in the accounting records on that date and is
incorporated in the trial balance at 30 September 20X7.
x The property of Skype Limited as shown on the trial balance was purchased during the
year ended 30 September 20X6.
x The revaluation reserve on Phone Limited’s trial balance arose from the revaluation of
Phone Limited’s equipment at 30 September 20X5. On 30 September 20X7, the fair
value of Phone Limited’s equipment was estimated to be equal to its carrying amount.
The initial revaluation was recorded in the accounting records on that date and is
incorporated in the trial balance at 30 September 20X7.
x The non-current borrowings of Skype Limited comprise:
- A loan from Phone Limited of C120 000, advanced on 1 October 20X5, at an interest
rate of 9% per annum.
- A loan from Investors Bank of C60 000, advanced on 1 October 20X6, at an interest
rate of 12% per annum.
x The directors of Skype Limited declared and paid the preference dividend for the year on
20 September 20X7. The directors declared an ordinary dividend of C16 000 on
25 September 20X7, payable during October 20X7. The dividend has been correctly
recorded in the accounting records of both companies.
382 Chapter 31
x The income tax expense has been correctly calculated for both companies at the
company tax rate of 29%.
Required:
a) Prepare all the journal entries in the accounting records of Skype Limited relating to the
equipment of Skype Limited, including tax consequences, for the year ended
30 September 20X7.
b) Prepare the at-acquisition, pro-forma consolidation adjusting entry relating to the ordinary
share capital of Skype Limited for the year ended 30 September 20X7.
c) Prepare the at-acquisition and current year pro-forma consolidation adjusting entries
relating to the preference share capital and preference dividends of Skype Limited for the
year ended 30 September 20X7.
d) Prepare the journal entry in the accounting records of Phone Limited and the pro-forma
consolidation adjusting entries relating to the ordinary dividends declared by Skype
Limited for the year ended 30 September 20X7.
e) Prepare the statement of comprehensive income of the Talk for Ever group for the year
ended 30 September 20X7.
f) Prepare the statement of changes in equity of the Talk for Ever group for the year ended
30 September 20X7.
Ignore comparatives for parts e) and f).
Chapter 31 383

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First edition 2002

ISBN softback 978 0 6390 0120 3

Gordon Adams (University of the Western Cape)

Thank you for your advice and support.

Changes made for the 2019 (eighteenth) edition

We have a Facebook page, called ‘Accounting

Assumptions for international students

Students may assume that taxable profits are calculated as:

Profit before tax (accounting profits) adjusted for:

Currency has been denoted by the symbol ‘C’.

Facebook page: Accounting 911 by Kolitz and Service

Publisher’s webpages www.myacademic.co.za

Publisher’s email address: administrator@myacademic.co.za

Question Key issues

1.1 Short questions Core concepts

1.2 - Meaning of IFRS, standards, interpretations.

1.3 - Compliance with IFRS

1.4 - Convergence and adoption

1.5 - Development of an IFRS standard

1.6 - IFRS Foundation governance

1.8 BitsyBusiness Differential reporting: IFRSs for SMEs

1.10 AccPubs Reporting frameworks in South Africa

The IFRS Foundation is a not-for-profit, public interest organisation established to develop a

The IFRS Foundation has a three-tier governance structure, based on an independent

AccPubs Limited is a publisher of accounting text books. As part of an initiative to promote

The Conceptual Framework for Financial Reporting

Question Key issues

a) What is the purpose the Conceptual Framework?

The following issues need to be considered:

a) In preparing the description of a very complex transaction he has two options:

Provide an answer, based on the Conceptual Framework, to each of the accountant’s

Question Key issues

Ace Accountancy is a national tuition provider. As part of their ongoing development of

Option A: Declare a dividend of C50 000 on 20 December 20X2, payable on

The following is the trial balance of Eskimo Limited at 31 December 20X8:

c) Prepare the statement of financial position of Eskimo Limited at 31 December 20X8 in

The following information is relevant:

THE BOATYARD LIMITED

Question Key issues

4.1 Short questions Core concepts:

4.2 Apple, Oranges, Calculating the transaction price involving:

4.3 Multiply TP: involving a settlement discount (settlement discount is forfeited)

4.5 Mars Cancellable contract: variable consideration: discount: granted/not granted

4.6 Gold Customer A:

4.7 Macrobyte Collectability issues and expected credit losses

4.8 Luthor a) Identification of performance obligations

4.9 Alphabet Contract involves services over a 3-year period

Continued on the next page…

Question Key issues continued …

4.10 Boutique Sale of goods involving:

4.12 Marleybone TP: allocation of a discounted TP to POs in a bundle

4.14 Mocca Discussion, calculation and journals: Contract definition, identification of

4.16 TeraDrive Identification of performance obligations

4.17 Tech-People Advance payment

4.18 Supasave Customer loyalty programme – over one-year period

4.19 Nu-Kinekor Customer loyalty programme – over two-year period

4.20 BlackRock Multiple performance obligations involving goods and services

4.21 Defender Instalment sale transaction with significant financing component

4.22 Network TV Allocation of discounted TP to multiple performance obligations

4.23 Grincor Construction contract with advance payments

Part A – Definitions and overview of the process

c) List the 5 steps involved when recognising and measuring revenue.