Module 1

Solution 1.1
The correct answer is A.
$
Income 2300
Expenses
Wages (600)
Supplies (960)
Profit 740

Solution 1.2
The correct answer is A.
Andrew's main concern is that he may be sued by a client for poor advice. Setting up as a company
will give him limited liability for the losses of the business. Andrew's losses would be limited to the
amount that he paid for shares in his company.
An alternative structure would be a sole trader business, with Angus working as an employee. This
structure would not, however, offer limited personal liability for the losses of the business. Andrew
could therefore be sued as an individual and so lose personal assets such as his house.
A partnership structure does not seem appropriate as there is no indication that Andrew wishes to
share ownership of the business with Angus. Once again, a partnership would not give Andrew
limited liability and so he could lose his house.

Solution 1.3
It would certainly be possible to define GAAP, and while many countries do not have a definition,
GAAP is taken to mean current acceptable accounting practice, that is the allowed accounting
treatment for particular transactions.
The difficulty in providing a guide to GAAP is that as a concept it is expected to evolve as
accounting practice evolves. Therefore, it is a fluid notion; as new accounting standards are issued
and adopted, they form part of GAAP and as old standards are replaced they cease to be part of
GAAP. The difficulty in defining and providing a guide to GAAP is that it would not remain current
for very long and would constantly need updating.

Solution 1.4
Disadvantages of regulation:
 Strict regulation could mean a lack of flexibility for some businesses. Sometimes
companies have differing business environments. These companies may have to adopt
accounting treatments that do not properly reflect their financial performance and position
and actually lessen the quality of the information that they provide. In this situation, it may
be impossible for users to make meaningful comparisons between companies.
 Companies may incur high costs in complying with the regulatory rules. This is a particular
disadvantage for smaller companies as the cost of providing the information required may
outweigh the benefits of that information.
 Detailed rules and regulations may mean that companies spend a great deal of time
'box-ticking' without considering the spirit of the regulation they are complying with.
Information is provided because it is required, even though it is of little value. Users
frequently complain about 'boiler plate' disclosures; general statements that could apply to
any company and tell the reader next to nothing.
 Regulation leads to financial statements that contain too much information and this can
obscure the overall picture that they present.

Answers to Module Learning Examples 3

 Solution 1.5
A rules-based approach to accounting, as the name suggests, provides rules for accounting for
particular transactions. Accounting standards have to be very detailed to provide the rules which
must be followed in accounting for a particular existing transaction and for each type of possible
new transaction.
In comparison, a principles-based approach sets out the accounting principles that must be
followed in accounting for particular types of transactions. For example, an accounting standard on
provisions would require that provisions are recognised when an entity has an obligation to transfer
economic benefit. An entity can then account for a provision if such an obligation exists. There is no
need for detailed rules as the principle within the standard can be followed. It is therefore less likely
that an accounting standard will be circumvented as the principle of the standard is set out clearly;
in the case of provisions, that they are recognised if there is an obligation and if no obligation exists
then they are not recognised.

Solution 1.6
(a) This is a change in accounting policy as the measurement of inventory has changed. This will
have an impact on the financial statements so must be dealt with so the financial statements
look as though the policy has always been followed.
(b) This is a change in accounting policy as the presentation of an item has changed. If this is
not dealt with as a change in policy the financial statements for the current year will not be
comparable as plant depreciation will be included in cost of sales but the comparative figure
will be in distribution costs. The comparatives must be restated.
(c) This is not a change in accounting policy as the company's accounting policy is to depreciate
assets over their useful lives. The method of depreciation is an accounting estimate. This
change must be applied prospectively.

Solution 1.7
As the fraud occurred in the previous accounting period, IAS 8 requires that this is dealt with as a
prior period error and is accounted for retrospectively. Therefore, there will be no effect on the
current accounting period.
The $12m to be written off will be debited to opening retained earnings, giving a balance of $253m.
The current year profit of $30m will not change. The prior period error will be disclosed in the
statement of changes in equity as follows:
Retained earnings
$m
Balance at 1 November 20X7 265
Correction of prior period error (12)
Restated balance 253
Total comprehensive income for the period 30
Balance at 31 October 20X8 283

Solution 1.8
(a) Management, staff and auditors need to be fully trained in IFRS. Even where IFRSs are
similar to national GAAP, there are likely to be many differences in the detail.
(b) Accounting systems and information systems may need to be upgraded to deal with more
complex or different reporting requirements.
(c) Management needs to communicate with investors, lenders and their advisors to prepare them
for the possible effect of the change on the entity's reported results and financial position.
(d) The change to IFRS affects reported profits and net assets. Management remuneration
schemes and covenants with lenders may need to be re-negotiated (as these are often based
on key figures within the financial statements).
(e) IFRS disclosure requirements may be far more onerous than those of national GAAP.
Preparers need to make sure that they have all the necessary information, bearing in mind
that they will need to present at least one set of comparative figures under IFRS, as well as
the figures for the current year.
(f) It may still be necessary to prepare accounts under national GAAP for the tax authorities.

4
Solution 1.9
The answer is no. Undoubtedly the business will receive future economic benefits as the result of
employing and training the staff (in the form of revenue from items which they develop and sell).
However, the staff are not controlled by the business. They may have contracted not to use certain
information outside the business (for example, they may be forbidden from disclosing information
about new products to competitors or others), but ultimately they are free to leave and work
elsewhere.

Solution 1.10
The answer is yes. The shop has an obligation as the result of a past event (communicating its
returns policy to customers and making sales) and the amount can be estimated reliably. If 10% of
each month's sales are returned, the shop has an obligation either to repay cash to its customers or
to issue a credit note to the value of the goods returned. A provision should be recognised for the
expected outlay in returns as 10% of total sales is likely to be material.

Solution 1.11
Current liabilities = 2  $2 000 = $4 000
Non-current liabilities = $20 000 – $4 000 = $16 000

Answers to Module Learning Examples 5