ACCT 302 Financial Reporting II Lecture Slides

ACCT 302: Financial Reporting
Lecture 1
Theories of Reporting
LECTURER: C. AGYENIM-BOATENG (PhD, MSc, BSc, FCCA)

Topic Objectives
• Basic questions about financial reporting
• What is the purpose of financial reporting?

• What is ‘Public interest’ and what is its relationship to accounting?
• Do we need regulation of reporting? If so how should we regulate? Are there
major problems?
• Alternative theoretical perspectives
06/24/2024 2 DR C. AGYENIM-BOATENG
Learning Outcomes
At the end of the session, the student will be able to
• Understand the purpose of financial reporting
• Discuss the reasons for reporting financial performance
• Understand public interest and analyse its relationship to accounting
• Explain the need for regulation of reporting, how it should regulated, the major
problems and other alternative theoretical perspectives
Objective of financial reporting
• Provide financial information about the reporting entity that is useful to
existing and potential investors, lenders and other creditors in making
decisions about providing resources to the entity.
• The information provided about financial performance helps existing and
potential investors, lenders and other creditors to understand the return the
entity has produced on its economic resources.
• Decisions by investors about buying, selling or holding equity and debt
instruments depend on the returns that they expect from an investment in
those instruments
• eg dividends, principal and interest payments or market price increases
Objectives Cont.
• Decisions by lenders about providing or settling loans and other forms of
credit depend on the principal and interest payments or other returns that
they expect.
• Information must reflect the effect on performance of changes in market
prices and/or interest rates.
• Information about an entity’s financial performance in a period, reflected
by changes in economic resources (other than by obtaining additional
resources directly from investors or creditors) is useful in assessing the
entity’s past and future ability to generate net cash inflows.
Why Report Financial Performance?
• Changing Perspectives Over Time
• Stewardship and Monitoring
• Assurance for loan holders
• Decision Useful for investors, creditors
• Multiple performance assessment criteria – a wider stakeholder base
• Past or expected future performance?
• Are all stakeholders of equal priority?
• Does it matter if stakeholders do not read financial statements?
The Public Interest
• Baker, C.R. (2005), ‘What is the meaning of “the public interest”?’,
Accounting, Auditing and Accountability Journal, Vol.18. No. 5, pp 690-703.
Paper examines the rhetorical claims made by the American accounting
profession, which professes to act in the public interest.
• Starting point is to recognise that other researchers (e.g. Hopwood) were
beginning in the 1980s to see accounting as an interested endeavour, as
opposed to a neutral activity, which had been claimed for most of the 20 th
Century. That is, accounting is now perceived as being used to advance
particular interests.
• Context is the monopoly provision of audit services, and self regulation
Terminology in Baker Paper
• In simple terms, the following political ideologies may be summarised:
• Neo-liberal (US Republicans, UK Tories) – minimal government
intervention, free markets, economic growth filters down to poor
• Liberal social democratic (US democrats, UK New Labour) – economic
activity pursued by civil society with state regulation, socially essential
activities state controlled, commitment to social welfare benefits.
• Critical social democratic (UK Old Labour, Germany Social Democrats,
Green Party) – social change actively sought, some antagonism to business,
state based solutions to problems
The Accounting Profession and The Public
Interest
• AICPA – ‘the collective well-being of the community of people and
institutions the profession serves’
• Baker raises a series of questions and issues:
• How is well-being defined or measured?
• Who is included and who excluded in the community of people served?
• Potential conflict of interest with the US SEC, which is explicitly an investors’
advocate.
• Self-interest in promoting the need for audit.
Accounting Firm and The Public Interest
• PWC – interest in educating accounting students to serve ‘the public trust’
• Barker argues this means:
• Restoring the public’s trust in the viability of capital markets
• Choosing the right students – who understand the importance of creating economic value
through capital formation
• Quote – the role of university education – role of accounting in society
and the potential of accounting beyond current convention
FASB and the Public Interest
• Mission statement says:
• ‘Serving the investing public through transparent information resulting
from high quality financial reporting standards, developed in an
independent, private sector, open due process’
• Clear specification of interest, as opposed to accounting profession
Regulation of Reporting
• Competing Theoretical Perspectives:
• A spectrum of possibilities
• Agency Theory
• Free market
• Political Economy
• Legitimacy Theory
• Clearly associated with political ideology
Agency Theory
• Principals – owners
• Agents – managers
• Divorce of ownership and control creates:
• Asymmetry of information
• Potential for opportunistic behaviour
• Shareholders have a monitoring problem, which is also a management
problem since finance is needed
Agency Costs and Solutions
• Contractual arrangements – minimise conflict – but contracts are always
incomplete
• Payment schemes – to align interests
• Financial Reporting to enable monitoring and reduce agency cost
• But do we need regulation?
Capital Markets
• Received wisdom
• Depend upon good quality information
• Relevant, reliable, comparable
• Efficient allocation of resources
• Reduces the cost of capital
• Improves profitability
• So information is a ‘good’ (in the sense of a service) and demand will
match supply
Free Market
• 1970s Jensen and Meckling, Watts and Zimmerman – private incentives
for cos. to provide credible information to meet investor demands
• Companies seek to lower cost of capital
• Efficient/unbiased reaction to information
• Integrity checked - multiple sources
• So regulation unnecessary – market for managers and corporate takeovers
• Actual Market Failure? Public goods and free riders – under production of
information
Political Economy
• Society, politics and economics are inseparable and accounting
functions in that context
• Accounting – A Tool for legitimising existing economic arrangements
and institutions
• Financial Statements are Social, Political and Economic documents
• Proactive shaping of the agenda
Cooper and Sherer – Seminal Paper in 1984
• Use of Political Economy approach [PEA] in accounting research:
• Political Economy has 3 attributes
• Power and conflict in society
• Historical and institutional context – Domination of large corporations
operating in monopoly or oligopoly markets
• Potential of people to change and to reflect new interests and concerns
What Does PEA mean for Accounting
Regulation?
• Free market may provide information for share and debt holders
• Where is the corporate motivation to provide information for other
stakeholders?
• Political Economy implies need for regulation to protect other
interests.
Public Interest Theory
• Regulation is to benefit society as a whole – not vested interests
• Accepting a capitalist society – then society needs confidence in the
capital markets to allocate resources to efficient users
• Regulation provides that confidence
Capture Theory
• Can the regulator remain independent?
• Regulation - A control problem with incomplete information Laffont
1994 - Tacit regulator/ee compromises that affect third parties
adversely
• Some evidence suggests that regulated parties seek to control (capture)
the rules that govern their behaviour
• Zeff research into lobbying on accounting standards in US
Legitimacy Theory
• Companies operate with a societal mandate – they need to meet the
general expectations of society or their mandate may be withdrawn
• Assumption of Accountability – public interest and interests, so need to
manage public opinion
• Corporations may be reactive or proactive
• Closure of legitimacy gap – Lindblom 1994
• Educate stakeholders, Change perceptions about actual events, Distract
attention from matters of concern, Change expectations about performance
• Focus on Social and Environmental Disclosures
Legitimacy of the Banking Industry
• Breton and Cote paper written in 2006, argues that Canadian banks were
facing a legitimacy crisis – criticised for high levels of profit and the
associated commercial practices
• Authors argued that profit is at the heart of legitimacy controversies, and
that there is a notion of an acceptable profit range
• Conflict between company, which aims for profit and society, which does
not (necessarily)
• Article examines some of the actions the banks took to restore their
legitimacy (actions on profit, CEO compensation, customer satisfaction).
Based on education and information.
• Reconstruction – creation of monitors and watchdogs
Summary To Regulate Or Not?
• Dependent on political ideology / theoretical perspective:
• Small v institutional investors
• Shareholders v stakeholders
• Is the market efficient or does it fail?
• Can regulators be neutral?
Article by Leuz in ABR 2010
• Why do we regulate?
• A reasonable case for mandatory regulation
• Who do we regulate and what is the goal of reporting regulation?
• In well-functioning economies the reporting system should satisfy the informational and contracting
needs of key players
• Who should regulate and at what level?
• Key issue is firm’s potential responses and avoidance strategies
• What should be reported and how much discretion
• Purpose of reporting is key – cost of finance / fraud
• Discretion is a function of a country’s institutional infrastructure
• How are rules enforced?
• Enforcement may be more important to understanding differences across countries reporting than
formal legal rumes
How Should Regulation Be Achieved?
• National v International?
• Same rules for all companies regardless of size / sector?
• Who sits on regulatory bodies? Experts or representatives?
• Principles based or rules driven? Or is this a red herring. Principles based
often considered good but driving right / left example.
END
Thank you very much
Office: G13
email: yawcab72@yahoo.co.uk
mobile: 0266225129
WhatsApp: +447745808142
Lecture 2
IAS 8: Accounting Policies, Changes in accounting

estimates and errors
IAS 10: Events after reporting Period

Session 1
IAS 8:
Accounting Policies, Changes in accounting

estimates and errors
Learning Outcomes
• Understand the differences among accounting policies, accounting estimates
and errors
• Account for changes in accounting policies, accounting estimates and prior
period errors
• Understand the disclosures related to accounting policies, accounting estimates
and prior period errors
Key Definitions
• Accounting policies are the specific principles, bases, conventions, rules and
practices applied by an entity in preparing and presenting financial statements.
• A change in accounting estimate is an adjustment of the carrying amount of
an asset or liability, or related expense, resulting from reassessing the expected
future benefits and obligations associated with that asset or liability.
• Prior period errors are omissions from, and misstatements in, an entity's
financial statements for one or more prior periods arising from a failure to use,
or misuse of, reliable information that was available and could reasonably be
expected to have been obtained and taken into account in preparing those
statements.
• Such errors result from mathematical mistakes, mistakes in applying accounting
policies, oversights
06/24/2024 31
or misinterpretationsDRof facts, and fraud
C. AGYENIM-BOATENG
Accounting Policies
When selecting an accounting policy, its appropriateness should be considered in the
context of producing information that is:
 Relevant to the economic decision-making needs of users;
 Reliable, in that the financial statements:
- represent faithfully the financial position, financial performance and the cash flows of
the entity;
- reflect the economic substance of transactions, other events and conditions and not
merely the legal form;
- are neutral, i.e. free from bias;
- are prudent;
- are complete in all material aspects.
Consistency of accounting policies
• An entity shall select and apply its accounting policies consistently for
similar transactions, other events and conditions
• Unless a Standard or an Interpretation specifically requires or permits
categorisation of items for which different policies may be appropriate.
• If a Standard or an Interpretation requires or permits such categorisation,
an appropriate accounting policy shall be selected and applied
consistently to each category.
Changes of Accounting Policies
• An entity is permitted to change an accounting policy only if the change:
• is required by a standard or interpretation;
• is neccessitated by legislation
• results in the financial statements providing reliable and more relevant
information about the effects of transactions, other events or conditions on the
entity's financial position, financial performance, or cash flows.
• Changes in accounting policies do not include applying an accounting

policy to a kind of transaction or event that did not occur previously or
were immaterial.
Accounting Treatment
• If a change in accounting policy is required by a new IASB standard or
interpretation, the change is accounted for as required by that new
pronouncement.
• If the new pronouncement does not include specific transition provisions,
then the change in accounting policy is applied retrospectively (i.e.
change current and previous years’ figures (exception: IAS 16 and IAS
38))
 Requires adjustment of retained earnings.
Disclosures relating to changes in
accounting policies
• The title of the standard or interpretation causing the change
• The nature of the change in accounting policy
• A description of the transitional provisions, including those that might have an
effect on future periods
• For the current period and each prior period presented, to the extent practicable,
the amount of the adjustment:
• The amount of the adjustment relating to periods before those presented, to the
extent practicable
• If retrospective application is impracticable, an explanation and description of
how the change in accounting policy was applied.
Example 1
• A limited company has been valuing its closing inventories under the
weighted-average cost method.
• In 2013, management decided to change its accounting policy relating
to the valuation of inventories to first in, first-out (FIFO) method since
it was considered to more accurately reflect the usage and flow of
inventories in the economic cycle.
• Is the change in accounting policy justified?
Changes in accounting estimates
• The effect of a change in an accounting estimate shall be recognised
prospectively by including it in profit or loss in:
• The period of the change, if the change affects that period only, or
• The period of the change and future periods, if the change affects both
• Eg. Depreciation method, method for provision for bad debt, bad debt,
determining net realisable value of inventory.
• However, to the extent that a change in an accounting estimate gives rise to
changes in assets and liabilities, or relates to an item of equity.
• It is recognised by adjusting the carrying amount of the related asset, liability, or
equity item in the period of the change.
Changes in accounting estimates
 No adjustment of retained earnings.
 These are changes being made at the end of the financial period
which have a current and prospective impact in future periods.
Disclosures relating to changes in
accounting estimates
• The nature and amount of a change in an accounting estimate that has an
effect in the current period or is expected to have an effect in future
periods
• If the amount of the effect in future periods is not disclosed because
estimating it is impracticable, an entity shall disclose that fact.
Prior period errors including both honest
mistakes and fraud
• Materiality
– Depends on the size and nature of the omission or misstatement.
• Criteria
– A failure to use, or misuse of, reliable information that was
– available when financial statements for those periods were authorised
for issue and could reasonably be expected to have been obtained and
taken into account when preparing the financial statements
Accounting Errors
• The general principle in IAS 8 is that an entity must correct all material prior
period errors retrospectively in the first set of financial statements authorised
for issue after their discovery by;
• restating the comparative amounts for the prior period(s) presented in which the error
occurred; or
• if the error occurred before the earliest prior period presented, restating the opening
balances of assets, liabilities and equity for the earliest prior period presented.
• It requires adjustment of retained earnings
Disclosures relating to prior period errors
• The nature of the prior period error for each prior period presented, to
the extent practicable, the amount of the correction:
• for each financial statement line item affected, and
• for basic and diluted earnings per share (only if the entity is applying IAS 33)
• The amount of the correction at the beginning of the earliest prior
period presented
• If retrospective restatement is impracticable, an explanation and
description of how the error has been corrected.
END
Thank you very much
Office: G13
mobile: 0266225129
WhatsApp: +447745808142
Session 2
IAS 10:
Events after reporting Period
Learning Outcomes
• Differentiate between adjusting events and non-adjusting events
• Understand how to determine the accounting treatment of events after the
reporting period
• Account for events after the reporting period in the financial statements
Key Definitions
• Event after the reporting period: An event, which could be
favourable or unfavourable, that occurs between the end of the
reporting period and the date that the financial statements are
authorised for issue.
• Adjusting event: An event after the reporting period that provides
further evidence of conditions that existed at the end of the reporting
period.
• Non-adjusting event: An event after the reporting period that is
indicative of a condition that arose after the end of the reporting
period.
Adjusting Events
• Before accounts are signed
• Evidence of conditions that existed at statement of financial position

date
• Material
• Change the accounts.
Examples of Adjusting events
• Events that indicate that the going concern assumption in relation to the whole or
part of the entity is not appropriate
• Settlement after reporting date of court cases that confirm the entity had a present
obligation at reporting date
• Bankruptcy of a customer that occurs after reporting date that confirms a loss
existed at reporting date on trade receivables
• Sales of inventories after reporting date that give evidence about their net
realisable value at reporting date
• Determination after reporting date of cost of assets purchased or proceeds from
assets sold, before reporting date
• Discovery of fraud or errors that show the financial statements are incorrect.
Non-Adjusting Events
• Concern conditions that did not exist at statement of financial
position date
• Non-material
• Non-disclosure does not affect ability to understand
• Disclose by way of note.
Examples of Non-Adjusting Events
• Major business combinations or disposal of a subsidiary
• Major purchase or disposal of assets, classification of assets as held for
sale or expropriation of major assets by government
• Destruction of a major production plant by fire after reporting date
• Announcing a plan to discontinue operations
• Announcing a major restructuring after reporting date
• Major ordinary share transactions
• Changes in tax rates or tax law
• Entering into major commitments such as guarantees
END
Thank you very much
Office: G13
mobile: 0266225129
WhatsApp: +447745808142
Lecture 3
IFRS 8: Operating Segments

IAS 24: Related Party Transactions

Session 1
IFRS 8:
Operating Segments
Learning Outcomes
• Understand the meaning of operating segment
• To identify reportable segments in accordance with IFRS 8 Operating
Segments;
• To know the disclosure requirements in relation to reportable segments
• To appreciate the managerial concerns in applying IFRS 8
Scope of IFRS 8
• IFRS 8 applies to the separate or individual financial statements of an
entity (and to the consolidated financial statements of a group with a
parent):
• whose debt or equity instruments are traded in a public market or
• that files, or is in the process of filing, its (consolidated) financial statements with
a securities commission or other regulatory organisation for the purpose of issuing
any class of instruments in a public market
Definition of Operating Segment
An operating segment is a component of an entity

a) that engages in business activities from which it may earn revenues and
incur expenses;
b) whose operating results are regularly reviewed by the entity’s chief
operating decision maker (CODM) to make decisions about resources and
assesses its performance; and
c) discrete financial information has to be available.
In general, IFRS 8 has a management approach to identification of operating
segments and its aim is to enable the users to see an entity through the eyes of
management
The chief operating decision maker
• The ‘chief operating decision maker’ may be an individual or a group of

directors or others. The key identifying factors will be those of
performance assessment and resource allocation.
• Some organisations may have overlapping sets of components for which
managers are responsible, e.g. some managers may be responsible for
specific geographic areas and others for products worldwide.
• If the CODM reviews the operating results of both sets of components,
the entity shall determine which constitutes the operating segments using
the quantitative thresholds required by IFRS 8.
Reportable segment
Not every single identified segment is reportable.
Two or more operating segments may be aggregated into a single
operating segment
• Where two or more operating segments have similar economic characteristics,
they may be combined for reporting purposes
• The entity reviews certain aspects when making this assessment:
• Nature of products/services
• Nature of the production processes
• Type of customer
• Distribution methods
• Nature of the regulatory environment
A reportable segment is one that meets any of following criteria
[Quantitative thresholds]
The following criteria are

(a) its reported revenue, from internal and external customers, is 10% or
more of the combined revenue (internal and external) of all operating
segments; or
(b) its reported profit or loss is 10% or more of the greater of
(i) the combined profit of all operating segments that did not report a
loss (eg. 100); and
(ii) the combined reported loss of all operating segments that reported a
loss; (eg.120). Therefore choose (10%*120) or
(c) its assets are 10% or more of the combined assets of all operating
segments.
The 75% test
• If the total external revenue of the reportable operating segments is less

than 75% of the entity’s revenue, additional operating segments have to be
identified as reportable segments (even if they don’t meet the criteria in
(a)–(c) above) until 75% of the entity’s revenue is included.
• Information about other business activities and operating segments that are
not reportable shall be combined and disclosed in an "all other
segments" category.
• If the number of reported segments exceeds 10, then the entity should
assess whether it is practical to report them all separately and whether the
information is too detailed
Which divisions are reportable segments? Class
assignment!
Divisions Revenue
GH¢000
• Exam-based Training 360
• E-Learning 60
• Corporate Training 125
• Print Media 232
• Online Publishing 124
• Cable TV 70
974
Disclosures – reportable segments
• Factors used to identify the entity’s operating.

• Judgements used in applying the aggregation criteria
• Types of products and services from which each reportable segment
derives its revenues.
• Profit or loss for each reportable segment.
• Liabilities for each reportable segment.
Disclosures – reportable segments (Continued)
The following items if reviewed by the chief operating decision maker:

• Revenues from external customers and other operating segments; interest
revenue and interest expense; depreciation and amortisation; ‘exceptional’
items; income tax income or expense.
• Total assets and amounts of any additions.
• Reconciliations of profit or loss to the group totals for the entity.
• Reliance on major customers.
• Revenues from a single external customer are 10% or more of the entity’s
total revenue.
• It need not disclose the identity of the major customer or the amount of the
revenue.
Continuing concerns about directors’ discretion
• Discretion as to the definition of each segment.
• Discretion as to the allocation of common costs to segments.
• Discretion as to the definition of some of the items to be disclosed e.g.

net assets.
Questions directors should ask themselves
• What are the key operating decisions made in running the business?
• Who makes the key operating decisions?
• Who are the segment managers and who do they report to?
• How are the group’s activities reported in the information used by
management?
• Have the reported segment amounts been reconciled to the IFRS aggregate
amounts?
• Do the reported segments appear consistent with their internal reporting?
Session 2
IAS 24:
Related Party Transactions
Learning Outcomes
• Understand the meaning of related party
• explain how to identify key personnel for the purposes of IAS 24 Related
Party Disclosures and why this is considered to be important.
• draw attention to how the financial statements can be affected by transactions
with related parties.
Related Parties
Related parties as defined by IAS 24
• where one party has direct or indirect control of the other party; or
• the parties are subject to common control; or
• one party has such influence over the financial and operating policies
of the other party that the other party might be inhibited from
pursuing its own separate interests; or
• the parties entering into a transaction are subject to such influence
from the same source that one party has subordinated its own separate
interests.
A person as a related party
• A person or a close member of that person's family is related to a
reporting entity if that person:
(i) has control or joint control over the reporting entity;
(ii) has significant influence over the reporting entity; or
(iii) is a member of the key management personnel of the reporting entity
or of a parent of the reporting entity.
• It includes but not limited to children, spouse and dependents.
An entity as a related party
• The entity and the reporting entity are members of the same group
• One entity is an associate or joint venture of the other entity (or an associate or
joint venture of a member of a group of which the other entity is a member).
• Both entities are joint ventures of the same third party.
• One entity is a joint venture of a third entity and the other entity is an associate
of the third entity.
• The entity is a post-employment defined benefit plan for the benefit of
employees of either the reporting entity or an entity related to the reporting
entity. If the reporting entity is itself such a plan, the sponsoring employers are
also related to the reporting entity.
IAS 24 – not deemed to be related parties
• Two companies with a director in common
• however consider extent of his interest.
• Providers of finance, unions and government when in course of

normal dealings with the entity.
• Single customer, supplier simply based on volume of business.
• A related party transaction is a transfer of resources, services, or
obligations between related parties, regardless of whether a price is
charged
Arm’s length transactions test!
• Related party relationships may mean transactions have not been entered
into on an arm’s length basis.
• Purchase/sale of goods or property
• Providing/receiving services
• Agency and leasing arrangements.
• Loans and guarantees
• Management contracts
Disclosures
• Disclose relationships – even if no transactions.
• Disclose if there have been transactions
• Nature of relationship
• Types of transactions
• Commercial detail – volumes, pricing policy.

• .
Examples
• During the year ended 31st December, 2020, Dild ltd (DL) carried out several
transactions with the following individuals/entities:
• Which of the following can be seen as related party transaction?
i. BL associates provides information technology services to DL. One of the
directors of DL is also the partner in BL associates.
ii. LL bank ltd is the main lender. By virtue of an agreement it has appointed a
nominee director on the board of DL.
iii. Mr Bee who supplies raw materials to DL is a brother of the CEO of the
company
iv. JB ltd is the general distributor of DL’s products and have exclusive distribution
rights for the Ashanti region
Cont.
v. Mr Tee is the general manger- marketing of DL and is responsible for
all major decisions made in respect of sales prices and discounts
vi. DL’s gratuity is administered by the Trustees appointed by the
company
vii. MM ltd is the leading supplier of DL and supplies 60% of DL’s raw
materials
viii. Ms Fee who conducted various training programmes for the
employees of the company is the wife of DL’s CEO.
END
Thank you very much
Office: G13
mobile: 0266225129
WhatsApp: +447745808142
Lecture 4 & 5
IAS 12: Income Taxes

Why is this topical?
• Conceptually challenging for preparers and auditors
• Can be difficult to apply the principles in IAS 12
• Controversial – differences between national preferences
• Yet another topic constantly under review
Learning Outcomes
By the end of this lecture you should be able to…
Explain current tax and how it is accounted for under IAS 12 Income
Taxes
Explain the need for deferred tax
Describe the arguments for and against providing for deferred tax
Identify several possible methods of accounting for deferred tax
Identify the requirements of IAS 12 regarding deferred tax
Identify the possible amendments to IAS 12
Session 1
Current tax
It is straightforward and should present no problems

when dealing with it!!!!
Current tax: definition
• The amount of income taxes payable (recoverable) in respect of
taxable profit (tax loss) for a period
• Taxable profit or tax loss is the profit or loss for a period determined
in accordance with the TAX rules
Current tax: Components [Income Statement
disclosure]
• Current tax expense (or income) for a period
• Effect of over/underprovisions from prior period – [remember IAS 8: Accounting
Policies, Changes in accounting estimates and errors]
• Benefits from unrecognised tax losses/credits now being used to reduce tax expense
• Tax expense or income due to change in accounting policy or correction of prior
period error – [again remember IAS 8:Accounting Policies, Changes in accounting
estimates and errors]
• Deferred tax expense (+)/(income(-)) relating to:
- Origination and reversal of temporary differences
- Reduction in tax rate
• Share of tax of associates
Statement of Financial Position [SoFP]
In SoFP
• Recognise a liability for amount unpaid relating to current and prior
periods
• Recognise an assets for amounts overpaid
Disclosure
• Current tax liability (or asset) must be presented separately from other
liabilities or assets on the face of the Statement of Financial Position
• Can only offset current tax liabilities and assets arising in the same period
if you have a legal right to do so and they relate to same tax authority
• Notes disclosure of the components of the current tax expense (or income)
Current tax: example
• On 1 January 2020, Afia-Yaw-Kofi Ltd had an opening balance of GH¢15,000
on its tax account, which represented the balance on the account after settling
its tax liability for the previous year. This balance arose from an overestimate
of the tax due charged to the previous year’s income statement
(OVERPROVISION)
• The company has been advised that it should expect to pay GH¢700,000 tax on
its trading profits for the year ended 31 December 2020.
• What will be the effect of this information on the income statement and balance
sheet?
Suggested Solution
• Last year [31/12/2019], GH¢15,000 too much of tax was charged to the income statement of Afia-Yaw-
Kofi Ltd. At the moment there is a liability which doesn’t exist! We don’t reopen last year’s financial
statements, so we have to correct the GH¢15,000 this year [31/12/2020]
• We release the GH¢15,000, that is, we reduce the amount provided on the balance sheet and we also
reduce the amount to be charged on the income statement (Dr Tax Liability [Balance sheet item], Cr
Income Tax [Income statement item]
• This year’s income statement will show:

Income tax charge (700,000-15,000) = GH¢685,000
• This year’s balance sheet will show

Income tax payable (current liability) GH¢700,000
(15,000-15,000+700,000)
Session 2
Deferred Tax
A problem
• In most places (but not everywhere!)
The tax charged to I/S is often different from tax rate times the profit before tax figure
because of the differences which exist between tax rules and financial accounting principles.
Accounting profit ≠Taxable profit
Tax Rules
(IFRS/IAS)
• Differences – permanent and temporary

90
Permanent and Temporary differences
Permanent differences arise where certain items in the Income
Statement are either not taxable or not allowable
 Temporary differences arise where items are taxable/allowable but

are dealt with in the tax computation in periods different from those in
which they are included in the financial statements
Temporary difference is a problem!!!! that needs to be dealt with
Consequences of this problem
An asset attracting 25% tax allowances per annum costs Afia-Yaw-Kofi Ltd
GH¢100. It has an expected life of five years at the end of which it is
estimated it can be sold for GH¢25. Taxation is payable at the rate of 33%.
Assume accounting profit of GH¢100.
Accounting: Depreciate straight line over 5 years – charge is (GH¢100-25)/5 =

GH¢15 per year
Tax: Depreciation is too subjective! So apply tax (capital) allowances (tax

depreciation) instead at 25% reducing balance
Year 1 2 3 4 5
Accounting profit 100 100 100 100 100
Depreciation: Add back as taxman disallows 15 15 15 15 15
Tax allowance (25% reducing balance): 25 18 14 11 8
Deduct as taxman allows
Taxable profit 90 97 101 104 107
Taxation charge (33% taxable profit) 30 32 33 34 36
Profit after tax – volatile (because of the 70 68 67 66 64
taxman’s rules, not because of underlying
performance)
Profit before tax 100 100 100 100 100
Taxation charge if calculated on accounting 33 33 33 33 33
profit (33% of accounting profit)
Profit after accounting tax – stable (and 67 67 67 67 67
reflecting stable performance)
93
Reviewing the results
• Total tax charge using taxman’s rules = 30+32+33+34+36 = GH¢165
• Total tax charge using accounting rules = 5 x 33 = GH¢165
• It’s the timing of the charge between years that differs
• Difference between tax allowance and depreciation charge each year = timing
difference (temporary difference)
• In year 1, tax charge of GH¢30 but eventually will pay the other GH¢3 – liability?
Bridging the gap: Deferred tax
Approaches to accounting for deferred tax
Basis of provision/accounting
 Nil provision – no provision – ignoring timing differences altogether
 Full provision – temporary differences provided for in full, whether or
not likely to reverse
 Partial Provision – accounted for only to the extent that it is probable
that a liability or asset will crystalise – timing differences that will reverse
Bridging the gap: Deferred tax
• Set up a deferred tax liability (provision) account for the deferred tax expense
every year
• Deferred tax effect of temporary difference = difference x tax rate
Year 1 2 3 4 5
Depreciation 15 15 15 15 15
Tax allowance 25 18 14 11 8
Difference 10 3 (1) (4) (7)
Deferred tax expense (difference at 33% 3 1 0 (1) (3)
-rounded)
Deferred tax liability balance 3 4 4 3 0
96
What’s the big deal?
• Arguments FOR deferred tax
• Including it gives a profit after tax that reflects the stable performance
of the company
• There is tax to pay in future (in years 1 & 2) as a result of owning the
asset (past event) – meets recognition criteria for a provision (which
were examined in an earlier lecture)
• Not altering total tax payable over the 5 years, just making situation
more realistic at end of each period
What’s the big deal?
• Arguments AGAINST deferred tax
• If lots of assets, and keep buying assets, the differences will keep on
getting bigger (and so will the deferred tax liability)
• If it doesn’t get paid off, does it really represent an obligation? Might
not be a legal obligation until you get a tax demand but what about
substance-over-form?
• Income smoothing?
• Arguments ‘for’ have won – but there is continuing debate about the
details of accounting for deferred tax
Temporary Differences
Deferred tax is calculated by reference to the differences between the carrying
value for accounting purposes and tax base [value attributed for tax purposes]
The tax base of an asset or liability is the amount attributed to that asset or
liability for tax purposes
• Temporary Differences: Differences between the carrying amount of an asset or
liability in the statement of financial position and its tax bases
There are two types of temporary differences:

 Taxable temporary differences and
 Deductible temporary differences
Taxable temporary differences
Taxable temporary differences result in [higher] taxable profits in the future
giving rise to a deferred tax liability! Examples:
 Interest revenue accrued for accounting purposes but taxed when received
 Accelerated tax depreciation where tax [or capital] allowances are
received at a rate higher than the accounting depreciation rate
 Development costs which are a deferred expense [capitalised]for
accounting purposes, but receive a tax deduction when paid
 Revaluations: the gain will be taxable in the future either on sale or if not
sold, by generating taxable income in excess of tax depreciation, the
timing differences is the estimated chargeable gain
Taxable temporary differences
• There are other examples that will be dealt with under group accounting
 Intragroup profits in inventory

 Fair value adjustments in business combinations: similar to revaluation
[detailed examination under group accounting]
 Unremitted earnings of subsidiaries
Investments in associates

Illustration
• A non-current asset costing GHc2,000 was acquired at the start of year
1. It is being depreciated straight line over four years, resulting in
annual depreciation charges of GHc500. Thus a total of $2,000 of
depreciation is being charged.
• However, capital allowance is granted as follows
• Year 1 800
• Year 2 600
• Year 3 360
• Year 4 240

Consequences
Year Carrying Tax Base

Amount
1 1,500 1,200
2 1,000 600
3 500 240
4 Nil Nil
Consequences
• When the capital allowances are greater than the depreciation expense in
years 1 and 2, the entity has received tax relief early. This is good for cash
flow in that it delays (ie defers) the payment of tax.
• However, the difference is only a temporary difference and so the tax will
have to be paid in the future.
• In years 3 and 4, when the capital allowances for the year are less than the
depreciation charged, the entity is being charged additional tax and the
temporary difference is reversing.
• Hence the temporary differences can be said to be taxable temporary
differences.
• Prudence Concept!!!!!!!!
Deductible temporary differences
Deductible temporary differences result in tax deductible amounts [lesser
taxable profit] in the future giving rise to a deferred tax asset!
Examples
 Accrued expenses/provisions which are not deducted for tax purposes
until paid – paying more taxes when expenses are not paid and less when
expenses paid later
 Downward revaluations where no adjustment is made for tax purposes
and hence the tax base exceeds the carrying value
The carryforward of unused tax losses, and
The carryforward of unused tax credits
Deferred tax assets
• Can only recognise if probable (more likely than not) that you will have
taxable profits against which to offset the tax deduction in future years
• Examples:
• Write down inventory – affects cost of sales (accounting profit) but not
taxable profit, until sold next year
• Impair/revalue downwards/fair value adjustment in a business
combination (PPE) but no tax effect, so tax base higher than accounting
NBV

Methods of Calculating Deferred Tax liability
• Two methods of calculating future tax liability:
Deferred tax liability IAS 12
Deferral method Liability method

Apply tax rate when Apply tax rate when tax will
timing difference originated become payable
107
Deferral Method
• In this method, the deferred income tax amount is based on tax rates in
effect when the temporary differences originated
• Calculate net timing difference each year
• Tax effect is debited or credited to the tax charge
• Double entry is effected by making an entry to the deferred tax account
• In case tax rate changes, ignore the effect of changing tax rates on timing
differences from earlier periods.
• Emphasis on the income statement

Liability Method
• In the this method, deferred income tax amount is based on the expected
tax rates for the periods in which the temporary differences reverse.
• Calculate the total timing differences anew each period (Carrying Amount
and Tax base)
• Apply the current tax rate to net total timing difference each year.
• Emphasis is on the statement of financial position
• Record the statement of financial position movement from period to
period in the income statement
• In case of revaluation and other OCI items, record the tax related to OCI
items in OCI and not income statement
Comparison between deferral and liability
methods
• Non current asset purchased for GH¢500,000 on 1.1.2019
• Straight line accounting depreciation over 5 years [assume no residual
value]
• Tax allowances of GH¢200,000 in 2019 and GH¢150,000 in 2020
• Tax rate 30% in 2019 and 25% in 2020

2019 GH¢ 2020 GH¢
Depreciation charge 100 000 100 000

Tax allowance 200 000 150 000
Timing difference 100 000 50 000
Deferred tax provided
Deferral method Liability method
2019 2020 2019 2020
30% 25% 30% 25%
Deferred tax charge 30 000 12 500 30 000 12 500
30 000 (5 000)* change

Deferred tax balance 30 000 42 500
in tax rates
* 5% X 100,000 [2019 amount] = 37 500 final

5000 2020 balance
111
Method 2 for the Liability Method
Year Carrying Tax base Temporary Deferred
Amount Difference Tax
2019 400,000 300,000 100,000 30,000
(30%)
2020 300,000 150,000 150,000 37,500
(25%)

Example: Balance sheet vs income statement method
An enterprise buys an asset for €100 depreciated over five years on a straight line
basis (i.e. €20 per year). Tax allowances on capital assets are 50% in the first year and
tax rate is 30%.
End of year 1: same result from either method
Income statement approach € Balance sheet approach €
Tax allowance 50 Carrying amount of asset 80
Depreciation charge 20 Tax base of asset 50
TTD 30 TTD 30
Deferred tax liability (TTD x 9 Deferred tax liability (TTD x 30%) 9
30%)
113
But…
If the asset had been revalued to €200 at the end of year 1, then only the balance sheet calculation
would change, as the revaluation is ignored by the taxman so creates a TTD between tax base and
carrying amount BUT the revaluation does not affect the income statement so doesn’t show up in
income statement approach
Balance sheet approach €
Carrying amount 200
Tax base 50
TTD 150
Deferred tax liability 45
9 is an expense in I/S, other 36 goes to SOCI

Conclusion – balance sheet approach is the more comprehensive one
114
Summary
Taxable temporary differences deferred tax liability
Deductible temporary differences deferred tax asset
115
Summary of Temporary Differences
When recorded When recorded Deferred

Transaction
in books on tax return tax effect
Revenue
Earlier Later Liability
or Gain
Revenue
Later Earlier Asset
or Gain
Expense
Earlier Later Asset
or Loss
Expense
Later Earlier Liability
or Loss
Summary of Permanent Differences
Sources of PERMANENT DIFFERENCES
Some items are recorded but NEVER

in Books on tax return
are NEVER but recorded

Other items
recorded in books on tax return
No future tax effects

for permanent differences
Summary
Future Tax Asset and
Future Tax Liability - Sources may be a:
• Future tax liability, or
• Future tax asset
• Future tax liability arises due to net taxable amounts in the future
• Future tax asset arises due to net deductible amounts in the future
IAS 12 approach
• Full provision, liability method
• Focuses on balance sheet (but UK GAAP focuses on income
statement approach)
• Compare tax base of assets/liabilities on balance sheet (‘value’ of
asset/liability for tax purposes) with accounting carrying value
• Difference x tax rate = deferred tax asset/liability
• Movement in deferred tax asset/liability accounted for in income
statement (where relates to expenses such as depreciation) or other
comprehensive income (e.g. for revaluation gains)
119
IAS 12: deferred tax disclosures
• Must be disclosed separately from current tax (in income statement tax expense
note and separate asset/liability for deferred tax on face of balance sheet)
• Deferred tax liabilities – non-current
• Offsetting restricted as for current tax assets/liabilities
• Detailed notes disclosures on temporary differences and how the deferred tax
charge or credit is comprised
• No discounting of deferred tax liabilities (unless relates to a pre-tax amount that
is discounted itself)

Example disclosures
121
Taxation charge
2009 2008
GH¢m GH¢m
Current tax
UK corporation tax at 28% (last year 30%)
– current year 127.4 123
– prior years -10.7 -13.1
116.7 109.9
Overseas current taxation 5.1 7.5
Total current taxation 121.8 117.4
Deferred tax (see note 24)
– current year 70.1 184
– prior years 7.5 6.7
Total deferred taxation 77.6 190.7
Total income tax expense 199.4 308.1
122
Taxation reconciliation
2009 2008
GH¢m GH¢m
Profit before tax 706.2 1,129.10
Taxation at the standard UK corporation tax rate
of 28% (last year 30%) 197.7 338.7
Depreciation, charges and other amounts on non-
qualifying fixed assets -4 0.6
Other income and expenses not taxable or
deductible 2.9 -1.3
Exceptional costs 7.5 –
Overseas profits taxed at lower rates -1.5 -6.8
Impact of change in UK corporation tax rate – -16.7
Adjustments to tax charge in respect of prior
periods -3.2 -6.4
Total income tax expense 199.4 308.1 123
Deferred tax assets/(liabilities)
Fixed Accelerated Pension Other Total Overseas Total

assets capital temporary short-term UK deferred tax GH¢m
temporary allowances differences temporary deferred GH¢m
differences GH¢m GH¢m differences tax
GH¢m GH¢m GH¢m
At 1 April 2007 -90.6 -103.2 183.5 21.9 11.6 -7.3 4.3
Credited/(charged) to the
income statement 13.7 -41.4 -150.5 -12.9 -191.1 0.4 -190.7
Credited/(charged) to
equity – – -172.4 -15.1 -187.5 1.8 -185.7
At 29 March 2008 -76.9 -144.6 -139.4 -6.1 -367 -5.1 -372.1
At 30 March 2008 -76.9 -144.6 -139.4 -6.1 -367 -5.1 -372.1
Credited/(charged) to the
income statement -2 17.3 -87 -5.7 -77.4 -0.2 -77.6
Credited/(charged) to
equity – – 254.9 -29.5 225.4 0.4 225.8
124
At 28 March 2009 -78.9 -127.3 28.5 -41.3 -219 -4.9 -223.9
Future developments
• 31 March 2009: Exposure Draft ED/2009/2 Income Tax published
• 20 December 2010: Amended by Deferred Tax: Recovery of Underlying Assets
• 19 January 2016: Amended by Recognition of Deferred Tax Assets for
Unrealised Losses
• 7 June 2017IFRIC 23 Uncertainty over Income Tax Treatments issued
• 7 May 2021: Amended by Deferred Tax related to Assets and Liabilities arising
from a Single Transaction: eg. leases and decommissioning obligations
• Significant gaps between GAAP recognition and IAS recognition. Further amendment
expected

END
Thank you very much
Office: G13
mobile: 0266225129
WhatsApp: +447745808142
Lecture 6
IFRS 16: Accounting for Leases

Learning Outcomes
By the end of this lecture you should be able to…
Explain and identify lease transactions
Account for lease transactions in the records of the leasee.
Account for covid-19 related rent concessions
Account for finance and operating leases in the records of the lessor
Account for sale and leaseback transactions
Identify the requirements of IFRS 16 regarding lease transactions
Identify the possible amendments to IFRS 16

Scope of IFRS 16
• IFRS 16 applies to all leases, including subleases, except for:
• leases to explore for or use minerals, oil, natural gas and similar non-regenerative
resources;
• leases of biological assets held by a lessee (see IAS 41 Agriculture);
• service concession arrangements (see IFRIC 12 Service Concession
Arrangements);
• licences of intellectual property granted by a lessor (see IFRS 15 Revenue from
Contracts with Customers);
• and rights held by a lessee under licensing agreements for items such as films,
videos, plays, manuscripts, patents and copyrights within the scope of IAS 38
Intangible Assets

Lease Transactions
• A lease is a contract that conveys the right to the use of an identified
asset for a period of time in exchange for consideration (IFRS 16, para.
9)
• Simply put, a lease is a way of obtaining the use of an asset without
purchasing it outright.
• The lessee (user of the asset) agrees to make a series of payments to the
lessor (owner of the asset) for a specified period of time.
• Control is transferred where the customer has both the right to direct the
identified asset’s use and to obtain substantially all the economic benefits
from that use.
Identifying a lease
Right to Control Identified Asset Period of Use
The business must • Period of use

• Stated in the in time or in
have the right to:
• Obtain substantially all
contract units produced
economic benefits from • May be part of a • Lease may only
the use of the asset; larger asset be for a
and • The lessor has no portion of the
• Direct the use of the substitution right term of the
asset contract
Identifying a lease
• An asset is typically identified by being explicitly specified in a contract.
• An asset can also be identified by being implicitly specified at the time it is
made available for use by the customer.
• However, where a supplier has a substantive right of substitution throughout
the period of use, a customer does not have a right to use an identified asset.
• Substantive here means the supplier has both the practical ability to
substitute alternative assets throughout the period of use and they would
economically benefit from substitution.
• A capacity portion of an asset is an identified asset if it is physically distinct
(e.g. a floor of a building).
Identifying a Lease
• A capacity portion of an asset that is not physically distinct (e.g. a
capacity portion of a fibre optic cable) is not an identified asset
• Unless it represents substantially all the capacity such that the customer obtains
substantially all the economic benefits from using the asset.
• For a contract that contains a lease component and non-lease components,
such as the lease of an asset and the provision of a maintenance service
• Lessees shall allocate the consideration payable on the basis of the relative stand-
alone prices, which shall be estimated if observable prices are not readily
available.
• As a practical expedient, a lessee may elect, by class of underlying asset, not to
separate non-lease components from lease components and instead account for all
components as a lease
Illustration 1
• Allswell Company has entered into a three year contract with
Fastcoach Company for the use of one its coaches for the purpose of
transporting tourists outside the city. The coach must seat 50 people,
but Fastcoach can use any of its 50 seater coached when required.
• Required
• Does this contract contain a lease?

Illustration 2
• UGBS has a contract with Toyota Ghana Ltd for the use of 5 buses for a
period of 5 years. According to the terms of the contract, UGBS can use the
buses for purposes other than transporting students from one location to
another.
• The contract further indicates that when the buses are not in use, they are
kept at the premises of UGBS and cannot be retrieved by Toyota unless
UGBS defaults on payments.
• If a particular bus needs to be serviced or repaired, Toyota must provide a
substitute bus.
Required
• Does the contract 135contain a lease under
06/24/2024
IFRS 16?
DR C. AGYENIM-BOATENG
KEY DEFINITIONS
• Lease Term: Non-cancellable period for which a lessee has the right
to use an underlying asset, together with both:
• Periods covered by an option to extend the lease if the lessee is reasonably certain to
exercise that option
• Periods covered by an option to terminate the lease if the lessee is reasonably certain not
to
• Lease Payment: Payments that the lessee expects to make over a
lease term or to the receipts that a lessor expects over the economic
life of the asset.
• Residual Value: The values of the asset at the end of the lease

KEY DEFINITIONS
• Implicit Interest Rate: The interest rate that causes the i) present value of the
lease payments and ii) the unguaranteed residual value to equal the sum of i)
the fair value of the underlying asset and ii) any initial direct costs of the lessor.
• Incremental borrowing rate: The rate of interest that a lessee would have to
pay to borrow over a similar term, and with a similar security, the funds
necessary to obtain an asset of a similar value to the right-of-use asset in a
similar economic environment.
• Lessor: This is the entity that provides the right to use an underlying asset in
exchange for consideration.
• Lessee: This is the entity that obtains the right to use an underlying asset in
exchange for consideration.
Recognition exemptions
• Instead of applying the recognition requirements of IFRS 16, a lessee may

elect to account for lease payments as an expense on a straight-line basis over
the lease term or another systematic basis for the following two types of
leases:
• leases with a lease term of 12 months or less and containing no purchase options – this
election is made by class of underlying asset; and
• leases where the underlying asset has a low value when new (such as personal
computers or small items of office furniture) – this election can be made on a lease-by-
lease basis.
• The accounting for low value or short-term leases is done by recognizing the
rental charges as an expense on a straight-line basis over the lease term.
SHORT-LIFE AND LOW VALUE ASSETS
• If the lease is short-term (less than 12 months at the inception date) or of a
low value, then a simplified treatment is allowed.
• In these cases, the lessee can choose to recognize the lease payments in
profit or loss on a straight line basis. No lease liability or right-of-use asset
would therefore be recognized.
• IFRS 16 Leases does not specify a particular monetary amount below
which an asset would be considered ‘low value’.
• The standard gives the following examples of low value assets: tablets ,
small personal computers ,telephones and small items of furniture

Lessee Accounting
• Initial Recognition
• At the commencement of a lease, a lessee recognises a Right-of-use
Asset and a Lease Liability
• Dr CR
• Right-of-use-Asset xx
• Lease Liability xx

Right-of-use Asset
• The right-of-use asset is initially measured at the amount of the lease liability
plus any initial direct costs incurred by the lessee.
• Adjustments may also be required for lease incentives, payments at or prior to
commencement and restoration obligations.
• After lease commencement, a lessee shall measure the right-of-use asset using
a cost model, unless:
• an investment property and the lessee fair values its investment property under IAS 4
• a class of PPE to which the lessee applies IAS 16’s revaluation model, in which case all
right-of-use assets relating to that class of PPE can be revalued.
• Under the cost model a right-of-use asset is measured at cost less accumulated
depreciation and accumulated impairment.
Lease Liability
• The lease liability is initially measured at the present value of the lease
payments payable over the lease term, discounted at the rate implicit in
the lease if that can be readily determined.
• If that rate cannot be readily determined, the lessee shall use their
incremental borrowing rate.
• Variable lease payments that depend on an index or a rate are included
in the initial measurement of the lease liability and are initially
measured using the index or rate as at the commencement date.
• Amounts expected to be payable by the lessee under residual value
guarantees are also included.
Lease Liability
• Variable lease payments that are not included in the measurement of the lease
liability are recognised in profit or loss in the period in which the event or
condition that triggers payment occurs.
• The lease liability is subsequently remeasured to reflect changes in:
• the lease term (using a revised discount rate);
• the assessment of a purchase option (using a revised discount rate);
• the amounts expected to be payable under residual value guarantees (using an
unchanged discount rate); or
• future lease payments resulting from a change in an index or a rate used to determine
those payments (using an unchanged discount rate).
• The remeasurements are treated as adjustments to the right-of-use asset.
• Lease modifications may also prompt remeasurement of the lease liability
unless they are to
06/24/2024 143 be treated as separate
DR C.leases.
AGYENIM-BOATENG
Subsequent Measurement
Right of Use Asset Lease Liability
Cost less accumulated depreciation Financial liability at amortised cost
Note: Depreciation is based on the earlier of the useful

life and lease term, unless ownership transfers, in which
case use the useful life
Covid-19-related rent concessions
• A lessee may elect not to assess whether a COVID-19-related rent
concession is a lease modification.
• A lessee that applies the exemption accounts for COVID-19-related rent
concessions as if they were not lease modifications.

Illustration 1
On 1 January 2015, Lukaku entered into a five year lease of machinery. The
machinery has a useful life of six years. The annual lease payments are
GH₵5,000 per annum, with the first payment made at the end of the year. To
obtain the lease, Lukaku incurs initial direct costs of GH₵1,000 in relation to
the arrangement of the lease but the lessor agrees to reimburse him GH₵500
towards the costs of the lease. The rate implicit in the lease is 5%. The
present value of the minimum lease payments is GH₵21,647.38.
Required
Demonstrate how the lease will be accounted for in the financial statements
over the five year period.
What if the payment was made on 1 January 2015?
Suggested solution
Initial recognition
Record the right of use asset and lease liability
DR Right-of-use asset GH₵ 21,647
CR Lease liability GH₵21,647
Record the initial direct costs
DR Right-of-use asset GH₵ 1,000
CR Cash GH₵ 1,000

Cont.
Record the incentive payments received
DR Cash GH₵ 500
CR Right-of-use asset GH₵ 500
Right-of-use asset = 21,647 + 1,000 – 500 = 22,147
Subsequent measurement
 Depreciate the asset over the earlier lease term of five years.
Expense (p.a.) = = GH₵ 4,429
• Record finance lease payments and interest using the rate implicit in the lease.
Payment made in arrears

Cont
Statement of profit and loss
Year: 1 2 3 4 5
Finance cost: 1082 886 681 465 238
Depreciation : 4429 4429 4429 4429 4429
Statement of Financial Position
Non-Current Assets
Asset-in-use: 17,718 13,289 8,860 4,429 0
Non-C Liability: 13,615 9296 4761

Current Liability: 4114 4319 4535 4761 0
Payment made in advance (PV=22,730)
YEAR BEGINNING PAYMENT CAPITAL FINANCE CLOSING

BALANCE BALANCE COST(5%) BALANCE
1 22,730 (5,000) 17,730 887 18,617
2 18,617 (5,000) 13,617 681 14,298
3 14,298 (5,000) 9,298 465 9,763
4 9,763 (5,000) 4,763 237 5,000
5 5,000 (5,000) - - -
Try Question
• XYZ Ltd entered into a 5 year lease of a machine on 1 st January, 2014.
Annual payment is GH₵100,000 in arrears. The lease liability at the
commencement of the lease was GH₵426,494. The company incurred
initial direct cost of GH₵5,000 while arranging the lease. The interest
rate implicit in the lease is 8%. The company has guaranteed the
residual value of the asset at the end of the lease term at GH₵40,000.

Lessor Accounting
• Lessors shall classify each lease as an operating lease or a finance lease
• A lease is classified as a finance lease if it transfers substantially all the
risks and rewards incidental to ownership of an underlying asset.
• Otherwise a lease is classified as an operating lease

Conditions for a finance lease (individually or
in combination)
• The lease transfers ownership of the asset to the lessee by the end of the lease
term
• The lessee has the option to purchase the asset at a price which is expected to be
sufficiently lower than fair value at the date the option becomes exercisable that,
at the inception of the lease, it is reasonably certain that the option will be
exercised
• The lease term is for the major part of the economic life of the asset, even if title
is not transferred at the inception of the lease,
• The present value of the minimum lease payments amounts to at least
substantially all of the fair value of the leased asset
• the leased assets are of a specialised nature such that only the lessee can use them
without major modifications being made
Recognition
• Upon lease commencement, a lessor shall recognise assets held under a finance
lease as a receivable at an amount equal to the net investment in the lease
• A lessor recognises finance income over the lease term of a finance lease, based
on a pattern reflecting a constant periodic rate of return on the net investment.
• At the commencement date, a manufacturer or dealer lessor recognises selling
profit or loss in accordance with its policy for outright sales to which IFRS 15
applies
• A lessor recognises operating lease payments as income on a straight-line basis
or, if more representative of the pattern in which benefit from use of the
underlying asset is diminished, another systematic basis

Operating Lease
1.Account for income receipts as income through profit or loss on a straight
line basis.
2. Depreciation on the asset continues over its useful life
• Illustrations
• Banana leases out a machine to Pear under a four year operating lease. The
terms of the lease are that the annual lease rentals are GHc2000 payable in
arrears. As an incentive, Banana grants Pear a rent free period in the first
year.
• Explain how Banana will account for this lease in the financial statements.
Cont.
• Annual Income =
• Year 1
• Dr Accrual Income 1500
• CR Rent Income 1500
• Year 2 3 4
• Dr Bank 2000 2000 2000
• CR Rent Income 1500 1500 1500
• CR Accrual Income 500 500 500
Cont.
• Statement of profit or loss
• Year 1 2 3 4
• Rent Income 1500 1500 1500 1500
• Statement of Financial Position

• Accrued Income 1500 1000 500 Nil
Finance Lease
1. Derecognize asset and record a receivable (@net investment in the
lease)
2. Record finance lease receipts as a reduction in the receivable
3. Record interest income on the receivable
Net investment in the lease = Gross investment in the lease discounted

at the implicit rate of interest
Gross investment = Minimum lease payment receivable plus any
unguaranteed residual value
Example
• Henry leases out an item of property, plant and equipment under a 5
year lease. The lease commenced on 1 January 2015 and the rate
implicit in the lease is 4%. The annual lease rentals of GHc5000 are
paid at the start of the lease period.
• Henry estimates that the estimated residual value of the item of PPE is
GHc2000 and the guaranteed residual value of GHc1600.
• Calculate Henry’s net investment in the lease
• Show how it will be accounted for in the financial statements
Solution
• Gross investment = Minimum lease payment receivable plus any
unguaranteed residual value
• Unguaranteed residual value = Estimated value – guaranteed value
• Unguaranteed value = 2000 – 1600 = 400
• Gross investment = (5*5000) + 400 = 25400
• Net investment = PV(lease payment) + PV(unguaranteed value)
Sale and leaseback transactions
• A sale and leaseback transaction is one where an entity (the seller-
lessee) transfers an asset to another entity(the buyer-lessor) for
consideration and leases that asset back from the buyer-lessor.
• To determine whether the transfer of an asset is a sale and leaseback
transaction, both the seller and the buyer must first determine whether
transfer qualifies as a sale
• This is based on the requirements for satisfying a performance
obligation under IFRS 15.

Transfer of the Asset is a Sale-Lessee
• If an asset transfer satisfies IFRS 15, the seller measures the right-of-use
asset at the proportion of the previous carrying amount that relates to the
right of use retained.
• Accordingly, the seller only recognises the amount of gain or loss that
relates to the rights transferred to the buyer
• If the fair value of the sale consideration does not equal the asset’s fair
value, or if the lease payments are not market rates, the sales proceeds are
adjusted to fair value, either by accounting for prepayments or additional
financing
• The leaseback itself is then accounted for under the lessee accounting
model
Transfer of the Asset is a Sale-Lessor
• The buyer accounts for the purchases in accordance with the
applicable standards.
• The lease is then accounted for as either a finance lease or an
operating lease using IFRS 16’s lessor accounting requirements

Transfer of the asset is not a sale
• If the transfer does not qualify as a sale, the parties account for it as a
financing transaction.
• The seller continues to recognize the asset as if there is no sale
• The seller accounts for proceeds from the sale and leaseback as a
financial liability in accordance with IFRS 9
• This arrangement is similar to a loan secured over the underlying asset
• The buyer has not purchased the underlying asset and does not
recognize the transferred asset on its balance sheet
• The buyer accounts for the amounts paid to the seller as a financial asset
in accordance with IFRS 9
illustration
• SellCo sells a building to BuyCo for cash of GH₵1,800,000, which is its fair
value at that date. The previous carrying value of the building is
GH₵1,000,000. At the same time, SellCo enters into a lease with BuyCo
conveying back the right to use the building for 18 years. Annual payments
are GH₵120,000 payable at the end of each year, which is a market rate. The
transfer qualifies as a sale based on the guidance on satisfying a performance
obligation under IFRS 15. The rate implicit in the lease is 4.5% which is
readily determined by SellCo.
• Required
• How will you account for this transaction in the books of both SellCo and
BuyCo.
Suggested solution
• Find the Present value of the annual payments (18 payments of GH₵120,000 discounted at
4.5%) = GH₵1,459,200
• Right-of-use Asset 810,667
(GH₵1,000,000 * (GH₵1,459,200/ GH₵1,800,000)
• Total gain on sale of building 800,000
(GH₵1,800,000- GH₵1,000,000)
• Split the total gain into
• The portion relating to the right of use building retained by SellCo
(800,000*(1,459,000/1,800,000) is 648,533
• The portion relating to BuyCo right in the underlying asset at the end of the leaseback
(800,000*(1,800,000-1,459,200)/1800,000) is 151,147
Accounting entries
Lessee Accounting
DR CR
Cash 1,800,000
Right-of-use Asset 810,667
Building 1,000,000
Gain on Sale 151,467
Lease liability 1,459,200
Lessor Accounting
Building 1,800,0000
Cash 1,800,000
END
Thank you very much
Office: G13
mobile: 0266225129
WhatsApp: +447745808142
Lecture 7&8
IFRS 9 and 7: Financial Instruments

Session 1
IFRS 9:
FINANCIAL INSTRUMENTS

Learning outcomes
By the end of session lecture you should be able to….
 Understand how accounting standards have developed in this area
 Define and describe financial instruments
 Define the scope of international accounting standards regarding
financial instruments (IFRS 9 & IFRS 7)
 Identify and explain the main requirements of the international
standards for financial instruments
 Understand why there is a debate about current requirements and
describe possible future changes to the requirements

Context: the history
1990 IASC issues exposure draft discussing fair value measurement for some financial instruments
1993 FRS 4 Capital Instruments issued by ASB in UK
1994 IASC decision to deal with presentation and disclosure of financial instruments first, then move on to
more difficult recognition and measurement
1995 IAS 32 Financial Instruments: Disclosure and presentation
1999 IAS 39 Financial Instruments: Recognition and measurement
2005 After much debate, EU adopts a ‘carved out’ version of IAS 39 for use in the EU. One of the choices
regarding classification in the IASC version will not apply in the EU
2005 IFRS 7 Financial Instruments: Disclosure issued by IASB. IAS 32 amended to cover presentation only
2008 IASB allows ‘fast-tracked’ amendments to IAS 39 to allow some more flexibility in reclassifying financial
instruments (response to credit crisis and US GAAP)
2009 Start of replacement of IAS 39: Phase 1 Classification and Measurement: IFRS 9 Financial Instruments;
Phase 2 Impairment methodology: Exposure Draft Amortised Cost and Impairment
2010 Phase 3 Hedge Accounting: Exposure Draft issued December 2010

173
2012 Exposure Draft ED/2012/4 Classification and Measurement: Limited Amendments to IFRS 9 (proposed
amendments to IFRS 9 (2010)) published
2013 IASB issues IFRS 9 Financial Instruments (Hedge Accounting and amendments to IFRS 9, IFRS 7 and
IAS 39)
2014 IASB issues complete version of IFRS 9 Financial Instruments
2016 IASB issues Applying IFRS 9 'Financial Instruments' with IFRS 4 'Insurance Contracts'
2017 IASB issues Prepayment Features with Negative Compensation (Amendments to IFRS 9) to address the
concerns about how IFRS 9 classifies particular prepayable financial assets
2020 Amended by Annual Improvements to IFRS Standards 2018–2020 (fees in the ‘10 per cent’ test for
derecognition of financial liabilities
174
Why is this area so complex?
•Economic importance of reporting
•Applies not just to banks – most companies do something that brings them
into scope
•If financial instruments not reflected in financial statements, this undermines
true & fair view
•Risk exposure (even if not speculating!) needs to be reflected
•But…problematic
•Sometimes hard to identify financial instruments
•How do you measure financial assets/liabilities?
•Historic cost – out of date if values change
•Fair value – more relevant, but is it reliable? Unrealised gains/losses?
What happens to change in fair value year on year?
•Still changing – economic circumstances, sharper focus, user understanding
Scope of IFRS 9
• Recognition and classification, measurement and derecognition of financial
instrument
• Hedge accounting rules
• This Standard shall be applied by all entities to all types of financial instruments
except:
• Those interests in subsidiaries, associates and joint ventures that are accounted for in
accordance with IFRS 10 Consolidated Financial Statements, IAS 27 Separate Financial
Statements or IAS 28 Investments in Associates and Joint Ventures.
• rights and obligations under leases to which IFRS 16 Leases applies
• employers’ rights and obligations under employee benefit plans, to which IAS 19
Employee Benefits applies.
• rights and obligations arising under an insurance contract as defined in IFRS 17 Insurance
Contracts
Scope of IFRS 7
• IFRS 7 requires entities to provide disclosures in their financial
statements that enable users to evaluate:
• The significance of financial instruments for the entity’s financial position and
performance.
• The nature and extent of risks arising from financial instruments to which the
entity is exposed and how the entity manages those risks
• The qualitative disclosures describe management’s objectives, policies and processes for
managing those risks
• The quantitative disclosures provide information about the extent to which the entity is
exposed to risk, based on information provided internally to the entity’s key management
personnel.

Financial Instrument
• A financial instrument is ‘any contract that gives rise to a financial asset of one
enterprise and a financial liability or an equity instrument of another enterprise’ (IFRS
9 & IFRS 7)
• With references to assets, liabilities and equity instruments, remember the statement
of financial position.
• The definition describes financial instruments as contracts, and therefore in essence

financial assets, financial liabilities and equity instruments are going to be pieces of
paper.

Types of Financial Instruments
• A financial asset is any asset that is:
•cash
•a contractual right to receive cash or another financial asset from another enterprise
•a contractual right to exchange financial instruments with another enterprise under conditions that
are potentially favourable
•an equity instrument of another enterprise
• A financial liability is any liability that is a contractual obligation:

•to deliver cash or another financial asset to another enterprise
•to exchange financial instruments with another enterprise under conditions that are potentially
unfavourable
• An equity instrument is a contract which evidences a residual interest in the assets of an entity after
deducting all of its liabilities
Practical application of definitions
• Which of the following are financial instruments? Which ones are financial assets
or liabilities?
Prepayment
for goods/
services
Trade
Debentures
receivables
?
Ordinary
Cash
shares
Preference
06/24/2024 180 DR C.shares
AGYENIM-BOATENG
Practical Examples
When an invoice is issued on the sale of goods on credit, the entity that has sold
the goods has a financial asset (receivable) – while the buyer has to account for a
financial liability (payable).
 When an entity raises finance by issuing equity shares. The entity that subscribes
to the shares has a financial asset (an investment) – while the issuer of the shares
who raised finance has to account for an equity instrument (equity share capital).
When an entity raises finance by issuing bonds (debentures). The entity that
subscribes to the bonds – ie lends the money – has a financial asset (an investment)
– while the issuer of the bonds – ie the borrower who has raised the finance – has
to account for the bonds as a financial liability.

Types of financial Instruments
• Derivatives as defined in the standards are financial instruments:
•whose value changes in response to the change in a specified interest rate,
security price, commodity price, foreign exchange rate, index of prices or
rates, a credit rating or credit index or similar variable (underlying item)
•that require no initial net investment or little initial net investment relative to
other types of contracts that have a similar response to changes in market
conditions
•that are settled at a future date
• Examples; financial options, futures, forwards, interest rate swaps, currency

swaps
Examples:
A enters into an interest rate swap with B, that requires A to pay a fixed rate of 7%
and receive a variable amount based on 3-month LIBOR. The notional amount of
the swap is €1million but this amount is not exchanged. A pays or receives a net
cash amount each quarter based on the difference between 7% and LIBOR.
This is a derivative financial instrument:

No initial net investment
Settlement occurs at future date(s)
Value of swap varies based on changes in LIBOR (the underlying
variable)

The accounting rules
184
IFRS 9
•Categorisation of financial instruments drives how they are measured, initially
and subsequently.
• IFRS 9 applies to all financial assets and liabilities except for those specifically
scoped out of the standard.
EXAMPLE.
Yaw Ltd enters into a forward contract to buy a barrel of crude oil for $100 in 3 months’
time.
This is not a financial asset or financial liability according to the definitions (as it is
not a contract to exchange cash for another financial asset but rather it is a contract
to exchange cash for oil).
185
Initial Recognition
• An entity shall recognise a financial asset or a financial liability in its
statement of financial position when, and only when, the entity becomes party
to the contractual provisions of the instrument
• At initial recognition, an entity measures a financial asset and financial
liability at its fair value.
• What if there is transaction cost related to the acquisition?

Transaction Cost
• Transaction costs
When a financial instrument is acquired, there will usually be
transaction costs incurred in addition to the transaction price. For
example, transaction costs may include a broker’s fees.
Transaction costs: Incremental costs that are directly attributable to the

acquisition, issue or disposal of a financial asset or financial liability.
Transaction cost
• The accounting treatment for transaction costs depends on how the
instrument is subsequently measured.
Subsequent measurement Treatment of transaction cost
Fair value through profit or loss Written off as an expense in profit and loss.
Other methods (Amortized cost The transaction cost is capitalized and

or fair value through OCI) included in the initial cost of the financial
instrument.
Initial measurement
• A financial instrument should initially be measured at fair value. This
is usually the transaction price, in other words, the price paid for an
asset or the price received for a liability.
• If the transaction price differs from the fair value, a gain or loss would
be recognized on initial recognition.
FINANCIAL ASSETS
• Now let us turn our attention to the accounting for financial assets, as
there have been some recent changes following the issue of IFRS 9,
Financial Instruments which will supersede IAS 39, Financial
Instruments: Recognition and Measurement.
• The new standard applies to all types of financial assets
• Except for investment in subsidiaries, associates and joint ventures
and pension schemes, as these are all accounted for under various
other accounting standards.
Cont.
• IFRS 9, Financial Instruments has simplified the way the financial assets
are accounted.
• As with financial liabilities, the standard retains a mixed measurement
system for financial assets, allowing some to be stated at fair value while
others at amortized cost.
• On the same basis that when an entity issues a financial instrument, it
has to classify it as a financial liability or equity instrument
• Acquiring financial asset means acquiring a debt asset (eg an investment
in bonds, trade receivables) or an equity asset (eg. and investment in
ordinary shares)
ACCOUTING FOR FINANCIAL ASSETS THAT ARE DEBT
INSTRUMENTS
• A financial asset that is a debt instrument will be subsequently

accounted for using amortized cost if it meets two simple tests. These
two tests are the business model test and the cash flow test.
• The business model test is met where the purpose is to hold the asset
to collect the contractual cash flows (rather than to sell it prior to
maturity to realize its fair value changes).
• The cash flow test will be met when the contractual terms of the asset
give rise on specified dates to cash flows that are solely receipts of
either the principal or interest.
Cont .
• These tests are designed to ensure that the fair value of the asset is
irrelevant, as even if interest rates fall – causing the fair value to raise
– then the asset will still be passively held to receive interest and
capital and not be sold on.
• However, even if the asset meets the two tests, there is still a fair value
option to designate it as FVTPL
• if doing so eliminates or significantly reduces a measurement or recognition
inconsistency ( an ‘accounting mismatch’) that would otherwise arise from
measuring assets or liabilities or recognizing the gains and losses on them on
different bases.
• Example; when an entity holds a financial asset that is debt and that carries
a fixed rate of interest, but is then hedged with an interest rate swap that
swaps the fixed rates for floating rates, fair value ption can be used
• The interest swap is a financial instrument that would be held at FVTPL
and so, accordingly, the financial asset classified as debt also needs to be at
FVTPL to ensure that the gains and losses arising from both instruments are
natural paired in income and, thus, reflect the substance of the hedge.
• If the financial asset classified as debt was accounted for at amortized cost,
then this would create the accounting mismatch.
• All other financial assets that are debt instruments must be measured at
FVTPL
ACCOUNTING FOR FINANCIAL INSTRUMENTS THAT ARE
EQUITY INSTRUMENTS (eg. Investment in equity shares)
• Equity investments have to be measured at fair value in the statement

of financial position
• The default position for equity investments is that the gains and losses
arising are recognized in income (FVTPL).
• However, there is an election that equity investments can at inception
be irrevocably classified and accounted as FVTOCI, so that gains and
losses arising are recognized in other comprehensive income, thus
creating an equity reserve, while dividend income is still recognized in
income.
Cont.
• Such an election cannot be made if the equity investment is acquired
for trading.
• On disposal of an equity investment accounted for as FVTOCI, the
gain or loss to be recognized in income is the difference between the
sale proceeds and the carrying value.
• Gains and losses previously recognized in other comprehensive
income cannot be recycled to income as part of the gain on disposal.
Illustration
For example, let us consider the case of an equity investment accounted for
at FVTOCI that was acquired several years ago for GHC 10,000 and by the
last reporting date has revalued to GHC 30,000. If the asset is then sold for
GHC 31, 000.
Required
How will you account for the sale in the financial statements
Suggested Solution
• The gain on disposal to be recognized in the income statement is only
GHC 1,000 as the previous gain of GHC 20,000 has already been
recognized and reported in the OCI.
• IFRS 9 requires that gains can only be recognized once. The balance
of GHC 20,000 in the equity reserves that relates to the equity
investment can be transferred into retained earnings as a movement
within reserves.

RECLASSIFICATION OF FINANCIAL ASSETS
• For financial assets, reclassification is required between FVTPL,

FVTOCI and amortised cost, if and only if the entity's business model
objective for its financial assets changes so its previous model
assessment would no longer apply
• Any reclassification is done prospectively from the reclassification
date without restating any previously recognized gains, losses, or
interest.
• IFRS 9 does not allow reclassification:
• for equity investments measured at FVTOCI, or
• where the fair value option has been exercised in any circumstance for a
financial assets or financial liability.
ACCOUNTING FOR IMPAIRMENT LOSSES ON
FINANCIAL ASSETS
• Under IFRS 9, only financial assets measured at amortized cost will be
subject to impairment reviews.
• It is also proposed that an expected loss model towards impairment
reviews be introduced when reviewing these financial assets.
• The expected loss model requires that entities determine and account
for expected credit losses when the asset is originated or acquired
rather than wait for an actual default.
• This is achieved by making an allowance for the initial expected losses
over the life of the asset by considering a reduction in the interest
revenue.
Example (accounting for impairment losses)
Yawcab holds a portfolio of financial assets that are debt instruments (ie.
Yawcab is a lender). These assets are initially recognized at GHC
100,000 and accounted for at amortized cost as they meet the business
model and cash flow test. Each loan has a coupon of 8% as well as an
effective rate of 8%. In the current period no loans have actually
defaulted; however, it is felt that a proportion of loans will default over
the loan period and, thus, in the long run the rate of return from the
portfolio will be approximately 3%.
Required:
Discuss the impairment review of these assets in the first accounting
period using the expected loss model.
Suggested Solution
• The gross interest income that is initially recognized in income is GHC 8,000
(as calculated using the effective rate of 8% on the initial carrying value of
GHC 100,000).
• With no defaults, cash of GHC 8,000 will also be received (as calculated
using the coupon rate of 8% on the nominal value).
• Thus, prior to any impairment review the carrying value at the end of the first
reporting period is GHC 100,000.
• To recognize the impairment loss, the actual net rate of return inclusive of
expected defaults of 3% has to be considered.
• This gives a net $3,000 (3% x 100,000) to be recognized in income.
• Thus, there is an expected loss adjustment of GHC 5,000 (8,000 – 3,000)
leaving the asset written down to GHC 95,000 (100,000 – 5000).
Cont.
• Historically, impairment reviews had been accounted using an incurred loss
model
• Thus, in order to recognize an impairment loss, there had to be a specific
past event indicating an impairment.
• In the above example, no allowance would have been made of the expected
future losses
• The incurred loss model led to the failure of lenders to recognize what
were arguably known losses and to overstate assets.
• The new approach is both in accordance with prudence.
• The losses are anticipated and accruals in that loss are in effect spread over
the period of the life of the asset and not back loaded.
Subsequent Measurement: Financial Assets
• Amortised cost—a financial asset is measured at amortised cost if both of
the following conditions are met:
• The asset is held within a business model whose objective is to hold assets in order
to collect contractual cash flows; and
• the contractual terms of the financial asset give rise on specified dates to cash
flows that are solely payments of principal and interest on the principal amount
outstanding

Financial Assets
• Fair value through other comprehensive income (FVTOCI)— if both of the
following conditions are met:
• The financial asset is held in a business model whose objective is achieved by both
collecting contractual cash flows and selling financial assets.
• The contractual terms of the financial asset give rise on specified dates to cash
flows that are solely payments of principal and interest on the principal amount
outstanding.
• Fair value through profit or loss (FVTPL)—any financial assets that are
not held in one of the two business models mentioned are measured at fair
value through profit or loss.
Financial Asset
• When, and only when, an entity changes its business model for
managing financial assets it must reclassify all affected financial
assets.
• However, an entity may, at initial recognition, irrevocably designate a
financial asset as measured at fair value through profit or loss if doing
so eliminates or significantly reduces a measurement or recognition
inconsistency

Financial Liabilities
• Financial liabilities held for trading are measured at fair value through profit
or loss (FVTPL)
• All other financial liabilities are measured at amortised cost unless the fair
value option is applied.
• The standard also gives options that allow entities to measure financial
liabilities through FVTPL
• doing so eliminates or significantly reduces a measurement or recognition
inconsistency (sometimes referred to as an 'accounting mismatch')
• the liability is part or a group of financial liabilities or financial assets and financial
liabilities that is managed and its performance is evaluated on a fair value basis, in
accordance with a documented risk management or investment strategy, and
information about the group is provided internally on that basis to the entity's key
management personnel.
Amortised cost
• Rolling up transaction costs and differences between issue and
redemption value in an effective interest rate (which may be different
from the coupon (cash interest) rate
So you start with initial proceeds after transaction costs deducted
• Effective interest rate (yield to maturity) is internal rate of return of

instrument – the rate which exactly discounts the future cash flows to the
net carrying amount.
It’s the true rate of return on the instrument
208
Amortised cost example
Ellie plc issued corporate bonds for £3m. The coupon interest rate was 4% and issue
costs were £100,000. The bonds will be redeemed by the company in 4 years’ time
for £3.2m. The effective interest rate is 5.5%
Show how the finance cost (interest expense) and carrying value of the loan liability
would be shown in Ellie plc’s financial statements in years 1 and 2.
End of year Opening liability Finance cost at 5.5% Cash interest payment at 4% Redemption Closing liability
£m £m £m £m £m
1 2.900 0.160 -0.120 N/A 2.940
2 2.940 0.162 -0.120 N/A 2.981
209
Equity Instrument
• All equity investments in scope of IFRS 9 are to be measured at fair
value in the statement of financial position, with value changes
recognised in profit or loss
• Except for those equity investments for which the entity has elected to
present value changes in 'other comprehensive income'.
• There is no 'cost exception' for unquoted equities.
• If an equity investment is not held for trading, an entity can make an
irrevocable election at initial recognition to measure it at FVTOCI
with only dividend income recognised in profit or loss

Other Financial Instruments
• A financial liability which does not meet any of these criteria may still be
designated as measured at FVTPL when it contains one or more embedded
derivatives that sufficiently modify the cash flows of the liability and are not
clearly closely related.
• IFRS 9 requires gains and losses on financial liabilities designated as at
FVTPL to be split into the amount of change in fair value attributable to
changes in credit risk of the liability, presented in other comprehensive
income, and the remaining amount presented in profit or loss.
• The new guidance allows the recognition of the full amount of change in the
fair value in profit or loss only if the presentation of changes in the liability's
credit risk in other comprehensive income would create or enlarge an
accounting mismatch in profit or loss
Classifications
•Held For Trading – shares bought as part of a portfolio, held for short term
trading purposes (a quick profit). Derivatives (unless hedging!)
•Held To Maturity – a bond with a fixed redemption date, positive intention to
hold until that date
•Available For Sale – quoted shares held for longer-term appreciation/dividend
yield
•Loan &Receivables – trade receivable or a loan given to another company (not
quoted)
•Other Financial Liabilities – ordinary bank loans
212
Category Asset/liability Initially measured Subsequently Location of
at.. measured at… gains/losses
Held for trading Asset/liability Fair value (if can be Income statement
(HFT) reliably estimated)
Held to maturity Asset only Amortised cost N/A
(HTM) (using effective
interest rate)
Available for sale Asset only Fair value (if can be Equity (AFS
(AFS) reliably estimated) reserve)
Loans and Asset only Cost = fair value of Amortised cost N/A
receivables (L&R) consideration given (using effective
or received interest rate)
Other financial Liability only Amortised cost N/A
liabilities (using effective
interest rate)
Designated at fair Asset/liability Fair value (if can be Income statement
value through profit reliably estimated)
or loss (optional)
(FVPL)
213
HFT vs AFS – both at fair value, so what’s the difference?
Buy shares worth GH¢500. They increase in value to GH¢502 after a year, and
To GH¢506 after 2 years. They are then sold for GH¢510
HFT AFS
Recognition – at cost GH¢500 GH¢500
End of year 1 – fair value of asset GH¢502 GH¢502
Gain GH¢2 – through profit GH¢2 – to AFS reserve

End of year 2 – fair value of asset GH¢506 GH¢506
Gain GH¢4 – through profit GH¢4 – to AFS reserve

Disposal – sell for GH¢510 Cash GH¢510 Cash GH¢510
Derecognise asset GH¢506 Derecognise asset GH¢506
Further gain of GH¢4 to profit Recycle gains from AFS reserve
to profit (GH¢4+GH¢2) = GH¢6
Total gain of GH¢10 in profit
214
Summary: Issuance of Financial Instruments
Issuing financial
instruments
(raising funds)
Financial liabilities Equity instruments
Contain an obligation to Evidence of an ownership

repay interest in the residual
net assets
If classified as amortized If classified as FVTPL;

cost; initial measurement is at Initial measurement is at fair
initial measurement is at fair value, and then so is value less issue costs and,
fair value less issue costs subsequent subsequently, no change as
and then subsequent measurement with gains equity instruments are not
measurement is at and losses being re-measured
amortized cost recognized in the income
statement
Financial Asset
Debt instruments Equity instruments
Contain an obligation to Evidence of an ownership

be repaid interest in the residual net
assets
If classified as amortized If classified as FVTPL;

Initial measurement is at fair
cost; initial measurement is at
value less issue costs and,
initial measurement is at fair value, and then so is
subsequently, no change as
fair value plus transaction subsequent
equity instruments are not re-
costs and then measurement with gains
measured
subsequent and losses being
measurement is at recognized in the income
amortized cost statement
An irrevocably election at
inception has to be made
The business model and The default accounting On disposal no recycling
cash flow test have to be treatment – also used of previously recognized
met also where the asset is gains or losses to income
acquired for trading
purposes or to avoid an
accounting mismatch
ACCOUNTING FOR COMPOUND FINANCIAL INSTRUMENTS
• While the vast majority of financial instruments create a financial asset in

one entity and a financial liability or equity instrument in the accounts of
another entity
• It is possible that a single financial instrument can create a financial asset
in one entity and a financial liability and an equity instrument in another
entity.
• The classic example of this arises when an entity issues a convertible
bond.
Worked example: Accounting for a
compound instrument
On 1 April 20X6 Beta issued at par an 8% convertible loan note with a

nominal value of £600k. It is redeemable at par on 31 March 20Y0, or it may
be converted into equity shares of Beta on the basis of 100 new shares for
each £200 of loan note.
An equivalent loan note without the conversion option would have carried an
interest rate of 10%.
218
Compound instruments: Example
Step 1: Derive fair value of equivalent debt instrument with no conversion
option (using present value of future cash flows). This is the fair value of the
debt component End of year Description Cash flow £ Discount Present value
calculation at £
10%
1 (X7) Interest 8% x 600 = 1/1.10 = 43,637
48,000 0.9091
2 (X8) Interest 48,000 1/(1.10)2 = 39,667
0.8264
3 (X9) Interest 48,000 1/(1.10)3 36,062
=0.7513
4 (Y0) Interest + 648,000 1/(1.10)4 = 442,584
redemption 0.6830
Total debt 561,950
fair value 219
Step 2: Deduct fair value of debt component from total fair value of com
instrument to derive the fair value of the equity component
Fair value of compound instrument = £600,000 (issue proceeds

Less fair value of debt component (step 1) (£561,950)
Fair value of equity component = £38,050
220
Step 3: Work through liability table for the debt component for year 1 (X7) to get
balance sheet and income statement entries
(amortised cost method)
£ £ £ £
Year Liability at start of year Effective interest at 10% cash interest at 8% of 600,000 Liability at end of year
1 561,950 56,195 -48,000 570,145
2 570,145 57,015 -48,000 579,160
3 579,160 57,916 -48,000 589,076
4 589,076 58,908 -48,000 599,984
Income statement Balance sheet debt

finance cost component of compound
instrument 221
Step 4: Present balance sheet and income statement extracts as
at end of year 1 (X7)
Balance sheet:
Equity – equity option £38,050 (step 2)
Non-current liabilities: 8% loan note £570,145 (step 3)
Income statement:
Finance cost £56,195 (step 3)
222
Example
A company lends GHC 1 million at 0% repayable in 12 months.
A market based interest rate for such a loan is 10% and a 1 year discount rate
would
be 1/1.1 = 0.909
The fair value of the loan on initial recognition = GHC1m / 0.909090 = GHC
909,091.
The double entry on initial recognition should be:
Dr Financial asset GHC 909,091
Dr P&L (loss) GHC 90,909
Cr Cash $1,000,000
Derecognition
• Financial Assets
• Determine whether the asset under consideration for recognition is
• an asset in its entirety or
• specifically identified cash flows from an asset (or a group of similar financial assets) or
• a fully proportionate (pro rata) share of the cash flows from an asset (or a group of
similar financial assets). Or
• a fully proportionate (pro rata) share of specifically identified cash flows from a
financial asset (or a group of similar financial assets
• An entity shall derecognise a financial asset when, and only when:
(a)the contractual rights to the cash flows from the financial asset expire, or
(b)It has transferred substantially all of the risks and rewards of the asset
Derecognition
• Financial Liabilities
• A financial liability should be removed from the balance sheet when, and only when, it
is extinguished, that is, when the obligation specified in the contract is either discharged
or cancelled or expires.
• Where there has been an exchange between an existing borrower and lender of debt
instruments with substantially different terms, or there has been a substantial
modification of the terms of an existing financial liability, this transaction is accounted
for as an extinguishment of the original financial liability and the recognition of a new
financial liability.
• A gain or loss from extinguishment of the original financial liability is recognised in
profit or loss.

Hedging Instrument
• The objective of hedge accounting is to represent, in the financial
statements, the effect of an entity’s risk management activities that use
financial instruments to manage exposures arising from particular risks
that could affect profit or loss (or other comprehensive income, in the
case of investments in equity instruments for which an entity has elected
to present changes in fair value in other comprehensive income.
• For hedge accounting purposes, only contracts with a party external to the
reporting entity (ie external to the group or individual entity that is being
reported on) can be designated as hedging instruments.

Cont.
• In order to apply hedge accounting, strict criteria, including the existence
of formal documentation and the achievement of effectiveness tests, must
be met.
• Hedge accounting must be discontinued prospectively if the hedging
relationship comes to an end (for example, the hedging instrument is sold)
• All derivatives that involve an external party may be designated as
hedging instruments except for some written options.
• An external non-derivative financial asset or liability may not be
designated as a hedging instrument except as a hedge of foreign currency
risk.
Items that can be hedged
• A single asset, liability, firm commitment or highly probable forecast transaction.
• A group of assets, liabilities, firm commitments or highly probable forecast
transactions with similar risk characteristics.
• A non-financial asset or liability (such as inventory) for either foreign currency
risk or the risk of changes in the fair value of the entire item.
• A held-to-maturity investment for foreign currency risk or credit risk (but not
interest rate risk);
• A portion of the risk or cash flows of any financial asset or liability (however, for
one-sided risk, only the intrinsic value can be hedged).
• A net investment in a foreign operation.

Hedging
•Offsetting loss/potential loss on one item against gain/potential gain on another
•Hedged item and hedging instrument (e.g. a derivative)
•Losses/gains occur because of changes in fair value or cash flows
•3 types of hedge:
Hedging
Foreign currency
Fair value hedge Cash flow hedge
hedge
229
Hedging
Type of hedge Example Treatment
Fair value Derivative against investment in shares Gain/loss on hedged item
whose fair value fluctuates and hedging instrument
through profit/loss
Cash flow Futures contract on sale of wheat- to fix the Portion of gain/loss on
price at which the wheat is sold hedging instrument
determined to be
effective goes to equity.
Rest goes to profit/loss if
it’s a derivative
Foreign Investment in foreign subsidiary and Gain/loss on hedged
currency matching loan to cancel out forex exposure item/hedging instrument
goes to equity
230
IFRS 7: Disclosures
•Extensive…
•Quantitative and qualitative
•So that users can understand significance of FIs, risks involved
and exposures
•Information about market risk, liquidity risk, credit risk and how
these
risks are managed (e.g. sensitivity analysis AND qualitative
disclosures)
Need awareness only – have a look at M&S or Easyjet for what they
look like
231
END
Thank you very much
Office: G13
mobile: 0266225129
WhatsApp: +447745808142
Lecture 9 and 10
IAS 19 & IFRS 2

Employee Benefits and Share-Based Payment

Learning outcomes
By the end of this lecture, you should be able to…
 Explain how short-term employee benefits have to be accounted for
 Understand what equity-settled share-based payment transactions are,
how they have to be accounted for and how cash-settled share-based
payment transactions have to be accounted for under IFRS 2
 Explain the difference between defined contribution pension plans and
defined benefit pension plans
 Explain the main accounting rules for defined contribution and defined
benefit plans under IAS 19, with calculations
 Give an overview of current developments in this area of financial
reporting
1983 IAS 19 Accounting for Retirement Benefits in Financial Statements of Employers issued
1993 IAS 19 Retirement Benefit Costs issued
1998 IAS 19 Employee Benefits issued
2000 Amended to change the definition of plan assets and to introduce recognition, measurement and disclosure
requirements for reimbursements
2002 Amended to prevent the recognition of gains solely as a result of actuarial losses or past service cost and
the recognition of losses solely as a result of actuarial gains
2005 Equity compensation benefits requirements replaced by IFRS 2 Share-based Payment
2005 Actuarial Gains and Losses, Group Plans and Disclosures issued
2008 ED/2009/10 Discount Rate for Employee Benefits (Proposed amendments to IAS 19) published
2009 IAS 19 Employee Benefits (amended 2011) issued
2010 Defined Benefit Plans: Employee Contributions (Amendments to IAS 19) issued 235
2011 IAS 19 Employee Benefits (amended 2011) issued

2013 Defined Benefit Plans: Employee Contributions (Amendments to IAS 19) issued
2018 Plan Amendment, Curtailment or Settlement (Amendments to IAS 19) issued
236
Why is this area so complex?
• Share options, bonuses have been the subject of scrutiny in the current financial crisis
– role of accounting is to provide information to shareholders on these aspects of
employees’ pay
• The lecture will explain this topic (IFRS 2)
• You do NOT need to cover the accounting treatment for this topic
• Pensions crisis – stock market decline and changes in life expectancy (people living
longer) have created huge deficits in both company and public sector pension
schemes and changed what pension benefits are available to employees significantly
in the last 20 years. The accounting and disclosure are under scrutiny at the moment
• The lecture will focus on this topic (IAS 19)
• The accounting treatment is subjective and involves estimates

Scope of IAS 19
• IAS 19 applies to (among other kinds of employee benefits):
• Wages and salaries
• Compensated absences (paid vacation and sick leave)
• Profit sharing and bonuses
• medical and life insurance benefits during employment
• Non-monetary benefits such as houses, cars, and free or subsidised goods or services
• Retirement benefits, including pensions and lump sum payments
• Post-employment medical and life insurance benefits
• Long-service or sabbatical leave
• ‘Jubilee' benefits deferred compensation programmes termination benefits.
• IAS 19 (2011) does not apply to employee benefits within the scope of IFRS 2 Share-based
Payment or the reporting by employee benefit plans
Short-term benefits
239
Short-term employee benefits & profit-
sharing and bonus plans (IAS 19)
• Short-term employee benefits are those expected to be settled wholly
before twelve months after the end of the annual reporting period during
which employee services are rendered, but do not include termination
benefits
• Examples include,
• Wages, salaries and social security contributions
• Short term compensated absences (e.g. paid holiday, sick leave)
• Profit sharing and bonuses payable within 12 months after the end of the period in
which the employees render the related service
• Non-monetary benefits (e.g. housing, company vehicles) for current employees

Accounting for Short-term benefits
• It is straightforward
• Must show an expense in the income statement unless another
standard permits inclusion in the cost of an asset (IAS 16: PPE)
• If unpaid at year end, must show a liability (if the liability definition in
the framework is met)
• e.g. for a bonus scheme, there must be a legal/constructive obligation to pay
the bonus at a future date for a liability to be recognised and when the amount
can be reliably measured)

Short term paid absences
• An entity may pay employees for absence for various reasons including holidays,
sickness and short‑term disability, maternity or paternity, jury service and military
service.
• Entitlement to paid absences can be accumulating and non-accumulating
• Accumulating paid absences are those that are carried forward and can be used in
future periods if the current period’s entitlement is not used in full.
• Accumulating paid absences may be either vesting or non-vesting
• Vesting means employees are entitled to a cash payment for unused entitlement on
leaving the entity
• Non-investing means employees are not entitled to a cash payment for unused
entitlement on leaving the entity
Accounting for short term paid absences
• An obligation arises as employees render service that increases their
entitlement to future paid absences.
• An obligation exists, and is recognised, even if the paid absences are
non‑vesting, although the possibility that employees may leave before they
use an accumulated non‑vesting entitlement affects the measurement of that
obligation.
• Non‑accumulating paid absences do not carry forward.
• They lapse if the current period’s entitlement is not used in full and do not entitle
employees to a cash payment for unused entitlement on leaving the entity.
• An entity recognises no liability or expense until the time of the absence, because
employee service does not increase the amount of the benefit.
Profit‑sharing and bonus plans
• An entity shall recognise the expected cost of profit ‑sharing and bonus
payments when, and only when:
(a) the entity has a present legal or constructive obligation to make
such payments as a result of past events; and
(b) a reliable estimate of the obligation can be made.
• A present obligation exists when, and only when, the entity has no realistic
alternative but to make the payments.
• Under some profit‑sharing plans, employees receive a share of the profit
only if they remain with the entity for a specified period.
• Such plans create a constructive obligation as employees render service
that increases the amount to be paid if they remain in service until the end
of 06/24/2024
the specified period.
244 DR C. AGYENIM-BOATENG
Share Based Payments- IFRS 2
245
Types of share-based payments
Type Description Example
Equity-settled Where a Employee share options in
transaction is exchange for
settled in entity’s loyalty/performance
shares
Cash-settled Where a Supplier sells goods to entity.

transaction is Amount entity pays (in cash)
settled in cash but depends on entity’s share
the amount of price
cash depends on
value of entity’s
shares
Cash alternative Where a Supplier sells goods to entity.

transaction can be Supplier (or entity) can
settled in shares or choose to be paid in cash or
cash shares of entity
246
Measuring share-based payments
What’s the problem?
• Need to reflect that goods/service are being provided by the supplier (or
employee) and that this has a cost
• Measurement can be difficult:
• If the goods or service being provided can be measured at fair value (e.g.
supplier supplying goods which can be valued), then the transaction
should be measured at this value when goods/services received.
• If the goods or service being provided can’t be fair valued (e.g. employee
providing their services), then the transaction has to be measured at the
fair value of the share options when the share options are granted.
Equity-settled share-based payments
• Most common type – share options for employees
• Terminology
Vesting
Grant date
date
Exercise date
Vesting period
Date when Date when
Date when
employee
arrangement has provided the employee
agreed on i.e. required services actually buys
employer gives employee (fulfilled the
shares
vesting
the chance conditions) (when they
to buy shares at a future and could buy represent
date the
best deal!)
shares 248
Types of Financial Instruments
• A financial asset is any asset that is:
•cash
•a contractual right to receive cash or another financial asset from another enterprise
•a contractual right to exchange financial instruments with another enterprise under conditions that
are potentially favourable
•an equity instrument of another enterprise
• A financial liability is any liability that is a contractual obligation:

•to deliver cash or another financial asset to another enterprise
•to exchange financial instruments with another enterprise under conditions that are potentially
unfavourable
• An equity instrument is a contract which evidences a residual interest in the assets of an entity after
deducting all of its liabilities
How are share options accounted for?
• Measure fair value of equity instruments granted as at grant date
• Recognise an amount for services received over the vesting period, based
on best estimate of number of equity instruments expected to vest
• Then revise this at vesting date to reflect actual number of equity
instruments that have vested
• Typical vesting conditions
• Not leaving employment during the vesting period (service condition)
• Performance targets (e.g. linked to financial performance of the
division of which employee is a manager) (performance condition)

Cash-settled share-based payments
• These should always be recognised at the fair value of the goods/services acquired and
the liability acquired to pay the supplier/employee (not equity as going to pay cash)
• The fair value has to be remeasured every year until it is paid. Changes in fair value
go through profit or loss each year
Cash alternatives
• It depends who gets to choose
• If supplier/employee chooses then company splits accounting between debt and
equity
• If company chooses – depends on the substance. Is there really a choice? If have
to settle in cash (or usually do), then account for as cash-settled. If there is really a
choice, account for as equity-settled

Disclosures
• Key qualitative characteristic here is ‘understandability’
– Understand the nature and the extent of share-based payment
arrangements that existed during the period
– Understand how the fair value of the goods or services received, or
the fair value of the equity instruments granted, during the period
was determined
– Understand the effect of share-based payment transactions on the
entity’s profit or loss for the period and on its financial position

Long-term benefits
PENSION FUNDS
253
How pension plans work
Retired
employee
(pensioner)
employer pension benefits

contributions
Company Pension
(employer)
plan
employee contributions
Employee Investments
254
Long-term employee benefits (IAS 19)
• Company pension plans and how accounted for by the company
• Two broad categories:
– Defined contribution (set contributions, variable benefits)
– Defined benefit (variable contributions to achieve a set level of
benefits)

Defined Contribution
• Are post employment benefit plans under which an entity pays a fixed
contributions into a separate entity (a fund) and will have no legal or
constructive obligation to pay further contributions if the fund does
not hold sufficient assets to pay all employee benefits relating to
employee service in current or prior periods.
• The company’s only obligation is to pay the agreed amount which is
normally, a percentage of salary, into a plan on behalf of its employee
• This does not pose any complex accounting issues.

Accounting for defined contribution
• Accounting treatment is to charge contributions payable in respect of
the relevant accounting period and;
• Where the amount paid is greater than the amount payable, there is
prepayment and
• Where the amount paid is less than the amount payable, accruals will appear.
• Disclosure; the expense recognised for the relevant period

Defined Benefit (IAS 19)
• Are post employment plans other than defined contribution plans. The
performance of the various variables within the defined benefit model
is dependent on the future and difficult to estimate.
• These are the high profile ones, with the complex accounting.
The problem:
• The company has an obligation to make up the benefits to the agreed set level,
even if the pension plan doesn’t have the assets to do that.
• This means that there is potentially a big liability for the company which will
go on for ages (until all the old employees have died!)

FTSE 100 pension deficits
2005 GH¢37 bn
2009 GH¢96 bn - the situation has worsened due to stock market
collapse (decreases plan assets) and changes to life expectancy
(increases plan liabilities)
2010 Now fallen to only (!) GH¢28bn, but only because a lot of
companies have closed their defined benefit plans to new entrants,
and some have reduced the benefits existing employees will get when
they retire!

Types of defined benefit plans (IAS 19)
• The final pay plan in which the benefits are calculated as a percentage
of the final salary before retirement
• The final average pay plan, where the benefits are calculated as a
percentage of the average salary of the last three to five years before
retirement
• The career average pay plan in which the benefits are related to the
average salary someone has earned during his/her career

Why is the accounting for defined benefit
plans so complicated?
•Extremely judgemental – based on lots of assumptions from experts.
•The eventual costs are uncertain, so the actuaries are trying to predict the future
•Under a defined benefit plan the exact total amount of the benefit is known:
•only at the moment of retirement (i.e. how much lump sum they
will get)
•when the pensioner dies (i.e. how long they will get their monthly
pension amount for)
• The judgements revolve around how to charge this total cost over the
subsequent service years of the employee – it should be reflected in the
financial statements of the company, because leaving it out would be
misleading
Actuarial valuation methods
• The one used in IAS 19 is the projected unit credit method. It is a way of
measuring the obligation, so that the liability can be worked out for the
company’s financial statements
• Under this method, each period of service is seen as giving rise to an additional
unit of benefit entitlement and measures each unit separately to build up the
final obligation.
• The method takes into account the employee’s past service and salary and also
estimates expected future salary while working for the company and future
service, to come up with an amount that is then spread over the employee’s
service period.
• An actuary has a role to play in providing estimates and does this globally,
using estimates for all employees in the plan 262
The role of actuary (IAS 19)
• Calculates pension charge for the year
• Provides rate of expected return on assets
• Provides discount rate for liabilities – interest cost
• Provides values for assets and liabilities of pension fund and
• Determines contributions required

3 accounts to consider
• Plan Assets accounts - for balance sheet
• Plan Obligation (liability) – for balance sheet
• Income statement
Items/variables to be mindful of:
Interest costs
 Expected returns on pension fund assets
 Current service costs
 Past service costs (current employees)
 Past service costs (past employees)
 Contributions
 Benefits paid
264
Actuarial assumptions
In working out the pension benefit obligation in reality, there are lots of
estimates e.g. how likely is an employee to die/become disabled/what’s
the life expectancy and, also, in terms of the plan’s investments, there
are estimates of future inflation and investment returns
Companies are supposed to use unbiased assumptions but they may differ
between companies!
Because payments are in the future, time value of money is relevant.
Discount rate is a key estimate – use a government/high quality corporate
bond yield
265
Benefit Obligation – Statement of Financial Position [Balance Sheet]
Prof. Yaw Agyenim-Boateng enters a pension scheme, which will pay him a lump sum at
retirement. He will get 10% of his final salary. His salary now is GH¢100,000,
but it will rise to GH¢160,000 in year 5.
If we take into account Prof. Yaw Agyenim-Boateng’s future salary (GH¢160,000 from year 5),
and discount at a rate of 4%, then the Projected Benefit Obligation (PBO)
at the end of each year will be:
266
Net defined benefit obligation – further complications
• Liability for pension costs
(a) Present value of obligation at balance sheet date – actuaries provide
(b) Adjust for actuarial gains or losses
(c) Deduct past service cost not already recognised
(d) Deduct fair value of plan assets at balance sheet date – investment managers provide
If assets greater than liabilities, show an asset on company balance sheet
• Actuarial gains and losses = differences between expectation (actuary’s assumptions) and
reality – discount rate, returns on assets, life expectancy of employees etc. Or changes in
assumptions!
• Past service cost = any extra benefits due from before plan set up or because there have
been improvements to benefits. If not yet recognised (because benefits not yet earned by
employee), reduce liability and smooth effect through income statement later
267
Income statement: total pension cost
• It is the difference between this year’s obligation and last year’s. It’s made up of:
• Current service cost extra benefits due because employee has worked for an extra year
• Interest cost unwinding of discount due to time value of money (obligation to pay
benefits is one year nearer)
• The expected return on any plan assets reduces cost! If assets grow by being invested,
then they will be able to meet benefit payments
• Actuarial gains and losses = differences between expectation (actuary’s assumptions)
and reality – discount rate, returns on assets, life expectancy of employees etc. Or
changes in assumptions!
• Past service cost (sometimes)= any extra benefit obligation from before plan set up or
because there have been changes to benefits
268
the liability at the end of year 1
269
Current Interest cost Total pension Projected benefit
service cost cost obligation (PBO)
Year 1 13 677 0 13 677 13 677
Year 2 14 224 547 14 771 (13677+14771) =

28448
Year 3 14 793 1 138 15 931 44 379

(rounding)
Year 4 15 384 1 775 17 159 61 538
Year 5 16 000 2 462 18 462 80 000
270
Extending this to consider return on assets
In year 3, expected return on assets is 5%. In year 4, it is estimated at 3%.
Year 3 Year 4
Current service cost 14793 15384
Interest cost 1138 1775
Expected return on -1422 (5% of year 2 -1331 (3% of year 3

plan assets PBO of 28448) PBO of 44379)
Total cost 14509 15828
We may have gains and/or losses on our assets and liabilities/obligations!
271
How do we know we have actuarial gains or losses?
• We need to:
• (1) Compare the actual performance of pension obligation at the end
of our financial year with the actuary’s estimate
• (2) Compare the actual performance of pension asset at the end of our
financial year with the actuary’s estimate
272
CALCULATION OF ACTUARIAL GAIN OR LOSSES ON
BENEFIT OBLIGATION
PV benefit obligation b/d XXX

Interest cost X
Current service cost X
Benefits paid (X)
Actuarial (gain)/losses a balancing (X)X
figure
PV of Obligation c/d XXX
273
CALCULATION OF ACTUARIAL GAIN OR LOSSES ON
BENEFIT OBLIGATION
Market value of pension assets b/d XXX

Expected return on pension assets X
Contributions X
Benefits paid (X)
Actuarial gain/(losses) a balancing (X)X
figure
Market value of pension assets c/d XXX
274
Actuarial gains/losses
• There used to be a choice between:
• The corridor approach
• Immediate recognition (current approach)
275
Actuarial gains/losses: immediate recognition
An entity has the possibility to recognise the actuarial gains and
losses in the period in which they occur and to report them in
other comprehensive income (i.e. they are being recognised but
not going through profit or loss in the income statement)
276
Actuarial gains and losses
• If realised (actual not expected) return on assets in year 3 was GH¢1,300
then there’s a difference from the expected return of GH¢1422-1300 =
GH¢122 LOSS (increases pension cost)
• If realised return on assets in year 4 was GH¢1,500 then there’s a
difference from the expected return of GH¢1500-1331 = GH¢169 GAIN
(decreases pension cost)
277
Example: Activity continued
– total cost to be shown in income statement
Year 3 Year 4
Current service cost 14793 15384
Interest cost 1138 1775
Expected return on -1422 (5% of year 2 -1331 (5% of year 3

plan assets PBO) PBO)
Actuarial gains (- +122 -169

cost) or losses (+
cost)
Total cost 14631 15659
278
Comprehensive example
The following information exists regarding A plc’s defined benefit pension
plan.
Year 1 GH Year 2
¢m GH¢m •The discount rate is 3%
Present value of obligation 1200 1400
Fair value of plan assets 1100 1350 •The expected return on
Current service cost – year 2 150 assets is 5%
•Calculate the change in the

Contributions paid in – year 2 70
obligation and the assets for
year 2
Benefits paid – year 2 32
Unrecognised actuarial gains– year 1 300

279
Comprehensive example
Let’s look at how the assets and liabilities move in year 2. The actuarial
gains/losses are a balancing figure
Liabilities Year 2 GH¢m Assets Year 2 GH¢m
End of year 1 1200 End of year 1 1100
Add current service 150 Add contributions 70
cost
Add interest cost [3% x 1200=] Add expected [5% x 1100=]
36 return 55
Less benefits paid (32) Less benefits paid (32)
Actuarial 46 Actuarial 157

loss/(gain) gain/(loss)
(balancing figure) (balancing figure)
End of year 2 1400 End of year 2 1350 280

Further example: Immediate recognition of actuarial gains
and losses
YAB plc, a listed company in Ghana, provides a defined benefits pension for its
staff, the details of which are given below.
As at the 30 April 2009, actuaries valued the company’s pension scheme and
estimated that the scheme had assets of GH¢10.5 million and obligations of
GH¢10.2 million (using the valuation methods prescribed in IAS 19).
The actuaries made assumptions in their valuation that the assets would grow by
11% over the coming year to 30 April 2010, and that the obligations were
discounted using an appropriate corporate bond rate of 10%. The actuaries
estimated the current service cost at GH¢600,000. The actuaries informed the
company that pensions to retired directors would be GH¢800,000 during the
year, and the company should contribute GH¢700,000 to the scheme.
281
Further example: Immediate recognition of actuarial gains
and losses
At 30 April 2010 the actuaries again valued the pension fund and estimated the
assets to be worth GH¢10.7 million, and the obligations of the fund to be GH
¢10.9 million.
Assume that contributions and benefits are paid on the last day of each year.
[The accounting policy adopted by YAB plc is to recognise actuarial gains and
losses immediately in other comprehensive income as required under IAS 19.]
Required:
Show the extracts from the income statement, statement of movement in equity
and balance sheet of YAB plc in respect of the information above for the year
ended 30 April 2010. You do not need to show notes to the accounts.
282
CALCULATION OF ACTUARIAL GAIN OR LOSSES ON PENSION ASSETS
GH¢’000
Market value of pension assets b/d 10,500

Expected return on pension assets 11% 1,155
Contributions 700
Benefits paid (800)
Actuarial gain/(losses) a balancing figure (X)X
Market value of pension assets c/d 10,700 283

CALCULATION OF ACTUARIAL GAIN OR LOSSES ON BENEFIT OBLIGATION
GH¢’000
PV benefit obligation b/d 10,200
Interest cost -10% 1,020
Current service cost 600
Benefits paid (800)
Actuarial (gain)/losses a balancing (X)X
figure
PV of Obligation c/d 10,900
284
Statement of comprehensive income (extracts)
GH¢’000 GH¢’000
• Operating costs:
Current service cost GH¢600
• Financing cost:
Expected return on assets 1,155
Interest costs (1,020)
135
285
Other comprehensive income
GH¢’000 GH¢’000
Actuarial gain on the obligation 120
Actuarial loss on the asset (855)
Loss (735)
286
Statement of Financial Position extracts
GH¢’000 GH¢’000
Pension Liability:
Present value of obligation (10,900)
Market value of assets 10,700
(200)
287
NOTE
• There is the opportunity here to discuss the way in which accounting
standards are becoming highly technical, and therefore increasingly
difficult for external stakeholders and other users of financial
statements to understand.
288
Disclosures for defined benefit plans (IAS 19)
• Extensive
• Show asset/liability on face of balance sheet
• In notes explain how this is arrived at and show
the elements of the income statement cost
separately
• Details of actuarial assumptions used (for
comparative purposes)
289
END
Thank you very much
Office: G13
mobile: 0266225129
WhatsApp: +447745808142
Lecture 11 & 12
IAS 7
Cash Flow Statement

Learning outcomes
By the end of this lecture, you should be able to…
Understand the difference between cash and profit
Understand the concept of cash flows and why cash is so important to a business
The need for a cash flow statement
Content of the cash flow statement
How to construct the cash flow statement
How to interpret the cash flow statement

Reflect on the following: True / False
 Profit or loss on disposal of a non current asset is calculated by deducting
the cost of the asset from the sale proceeds
 Inventory is valued at the lower of cost or net realisable value
 If a customer has gone bankrupt and won’t pay the amount due, the
business deducts that amount from sales revenue
 The book value per share is the share price quoted on the Stock
Exchange
 Goodwill is one reason why market value may be higher than book value
for a company
293
1977 IAS 7 Statement of Changes in Financial Position
1992 IAS 7 (1992) Cash Flow Statements
2007 Retitled from Cash Flow Statements to Statement of Cash Flows as a consequential amendment resulting
from revisions to IAS 1
2009 IAS 7 amended by Annual Improvements to IFRSs 2009 with respect to expenditures that do not result in
a recognised asset.
2016 Amended by Disclosure Initiative (Amendments to IAS 7)
294
Profit or loss on disposal of a non current
asset is calculated by deducting the cost
of the asset from the sale proceeds
 False
 Profit or loss on disposal is calculated by deducting
the NET BOOK VALUE (Carrying amount) of the
asset from the sale proceeds
 Using the COST of the asset would understate profit,
since depreciation will have been charged as an
expense against profit for each year that the asset has
been used by the company
295
Inventory is valued at the lower of cost or net
realisable value
 True
 The prudence convention states that if the selling price (net realisable
value) of inventory falls below cost, then that figure should be used to
value inventory
 Otherwise, cost is used as profit should not be anticipated until the
inventory has actually been sold
296
If a customer has gone bankrupt and won’t pay
the amount due, the business deducts that
amount from sales revenue
 False
 Bad debts are charged as an expense in the income
statement
 They are also deducted from Trade Receivables in the
balance sheet
297
The book value per share is the share
price quoted on the Stock Exchange
 False
 This is the market value per share
 The book value per share is Equity (Share capital plus
reserves) divided by the number of shares in issue
298
Goodwill is one reason why market
value may be higher than book value
for a company
 True
 Other reasons are:
 Book values are based on accounting concepts and
methods, which tend to lead to understatement compared to
market value
 In particular, the historic cost concept means that asset values don’t
equal market values
 Market values are based on the future not on the past
 Expectations drive market values
299
Part 1
Difference between
CASH and PROFIT
300
Cash vs. Profit
PROFIT
• Which financial statement identifies profits/losses?
• ………………………………………
• How do we obtain the Profit/Loss figure?
• ………………………………………………..
CASH
• Which financial statement identifies cash inflows/outflows?
• ………………………………………………..
• How do we obtain the Net Cash Flow figure?

• ………………………………………………….
301
Cash vs. Profit
PROFIT
• Which financial statement identifies profits/losses? The Income
Statement
• How do we obtain the Profit/Loss figure?
• PROFIT = Total Revenues – Total Expenses
CASH
• Which financial statement identifies cash inflows/outflows? The Cash
Flow Statement
• How do we obtain the Net Cash Flow figure?
• NET CASH FLOW = Cash In – Cash Out
302
Cash vs. Profit
• ALWAYS REMEMBER: Cash is NOT THE SAME as Profit.

• CASH ≠ PROFIT. WHY IS THAT??
303
PROFIT = Total. Revenues –
Cash vs. Profit Total Expenses
CASH = Cash In –
Cash Out
• ALWAYS REMEMBER: Cash is NOT THE SAME as Profit.

• CASH ≠ PROFIT. WHY IS THAT??
• Think about the formulas for obtaining CASH and PROFIT.
• Are Total Revenues equal to Cash In?? NO! Revenues include both
revenues from Cash sales… and Credit sales
304
Cash vs. Profit
• Are Total Expenses equal to Cash Out?? NO.
• An expense may have been incurred, but not have been

fully paid yet (“accrued expenses” in the B/S, e.g.
electricity bill)
• An expense to be incurred next year may have been

prepaid this year (“prepaid expenses” in the B/S, e.g. rent)
305
Cash vs. Profit
• Are Total Expenses equal to Cash Out?? NO.
• An expense may have been incurred, but not have been

fully paid yet (“accrued expenses” in the B/S, e.g.
electricity bill)
Reduces profit by the amount of the expense incurred,
reduces cash only by the amount paid (not the amount incurred).
• An expense to be incurred next year may have been
prepaid this year (“prepaid expenses” in the B/S, e.g. rent)
Does NOT affect profit this year (will affect it next year),
but will reduce cash by the amount prepaid.
306
Cash vs. Profit
• Other reasons why CASH ≠ PROFIT:
• Depreciation (is an expense that affects PROFIT, but doesn’t involve any cash
movements)
• Purchase/Sale of non-current assets (asset purchase, e.g. a van: Cash (a current
asset) decreases, Van (a non-current asset) increases. No immediate effect on
PROFIT)
• Take out/Repay a loan (cash movement and liabilities will change. No
immediate effect on PROFIT)
• REMEMBER: CASH is NOT the SAME as PROFIT, because of the
ACCRUALS concept used in accounting.
307
Part 2
Understand “Cash Flows” and

why CASH is so IMPORTANT for a business
308
Understanding Cash Flows
• Cash Inflows: All Cash coming INTO the business; all cash receipts
• Cash Outflows: All Cash flowing OUT of the business; all cash
payments
• NET CASH FLOW = Cash Inflows – Cash Outflows
• In a given year, the Net Cash Flow can be either Positive (if cash
inflows>cash outflows) or Negative (if cash outflows>cash inflows)
309
A typical cash flow cycle
START
Purchase
supplies
on credit Manufacture
Receive cash Product
From customers
Small business Ltd

Pay Pay
other suppliers
Sell product
expenses Pay to customers
employees on credit
310
Typical Cash Outflows
In tough economic times,
what happens to
suppliers?
Purchase
supplies
on credit Manufacture
Suppliers are struggling Product
too, demanding payment
quicker / being less
flexible
Small business Ltd
Pay
Pay suppliers
other
expenses Pay
employees
311
Typical Cash Inflows
So I have to pay my
suppliers quicker but
Customers are struggling
wait longer for cash from
too, requiring longer
my customers.
payment times / missing
HOW CAN I SURVIVE?!
payments
Receive cash
From customers
Small business Ltd

In tough economic times,
what is happening to the
customers? Sell product
to customers
on credit
312
How the Cash flow cycle can change in difficult
economic times
START
Purchase Pay
supplies suppliers
on credit Receive cash
Suppliers want their From customers
payments faster. Customers
take longer to
repay us.
Manufacture
Product
Small business Ltd
Pay Sell product

Pay
other to customers
employees
expenses on credit
313
The importance of Cash
• In accounting terms, what is CASH? An asset, a
liability, capital, an expense or revenue? It can only be
1 of the 5 above.
• CASH is a CURRENT ASSET and appears on the
Statement of Financial Position.
• It is a very important asset. Why? Because other
counterparties usually accept only cash when settling
their claims with the business. How does the business
repay its liabilities?
• Cash is important for the business’ SURVIVAL and
for taking advantage of business OPPORTUNITIES.
314
Real Life Example
Number of late payers is rising
Catherine Byaruhanga. Financial Times. London (UK): Jul 19, 2008. pg. 32
Phil McCabe, FPB spokesman, said: "Often, small businesses rely on credit lines
when they are low on capital. However, in a global economy where credit is more
difficult to obtain, the problem of late payments becomes magnified."
Bob Hexton, a co-director at Crossbow, said: "Altogether, they (referring to their

customer Findel Education) owe us £2,000 for four invoices and this has an effect on
our cash flow. It can decide whether we are into our overdraft and therefore if we have
to pay extra bank interest."
315
*Some questions for you!*
• Can a business easily survive and grow in the long-run if it runs out of
cash all the time? Yes or No? Why?
• In the short-run, can a business be profitable in accounting terms and
still have a negative net cash flow (i.e. cash outflows>cash inflows)?
Yes or No? Why?
• If the above situation does occur, what could that tell us about the
business?
316
Q: Can a business easily survive and grow in the long-
run if it runs out of cash all the time? Yes or No?
Why?
A: No, because cash is the blood line of the business. It

is essential for the survival, smooth running and
growth of the business. A business may go bankrupt if
it continuously runs out of cash and therefore cannot
repay its short and long-term liabilities.
317
Q: In the short-run, can a business be profitable in
accounting terms and still have a negative net cash
flow (i.e. cash outflows>cash inflows)? Yes or No?
Why?
A: Yes, it is possible. Cash and profit are not the same

and in the short-run the two can deviate quite a bit.
The above scenario can occur if profits are based
mainly on credit sales, while at the same time the
business is spending a lot of cash (acquiring fixed
assets, purchasing inventories without credit etc.)
318
Q: If the above situation does occur, what could that tell
us about the business?
A: The above situation, positive profits with negative

cash flows, can indicate one of two things: i) if it
happens consistently it can be a warning sign about
the health of the business (especially when the
business generates negative operating cash flows) or
ii) if it is temporary it could mean that the business is
in a phase of expansion/growth.
319
Part 3
The need for a cash flow statement
320
Do you remember?
• So far we have looked at 2 of the 3 main financial statements:
• The ………………… and the ……………………..
• ……………………. = a snapshot of the business’ financial position at a

given point in time (Assets, Liabilities, Equity or Capital)
• …………………….. = measures the profit/loss made over a period of
time (Profit = Total Revenues – Total Expenses)
321
Do you remember?
• So far we have looked at 2 of the 3 main financial statements:
• The Balance Sheet and the Income Statement
• Balance Sheet = a snapshot of the business’ financial position at a given

point in time (Assets, Liabilities, Equity or Capital)
• Income Statement = measures the profit/loss made over a period of time
(Profit = Total Revenues – Total Expenses)
322
The cash flow statement
• It provides a summary of the cash flows (inflows and outflows) made
over a period of time.
• If Cash in balance sheet as at 31/12/09 is £100 and Cash in balance
sheet as at 31/12/10 is £170, what is the change in cash over this one
year period?
• The cash flow statement summarises how the £70 increase in cash
over the one year period occurred.
323
Cash flow statement: relevance
 Provides information on liquidity, viability and

adaptability
 Reflects the importance of “cash” to survival
 Cash flow is linked to basic concept of the “value” of a

business
324
How the 3 Financial Statements fit together
31st December 2008 31st December 2009
AA A
SS S
SS Cash Flow Statement S
EE Equity for the year ended E
TT Cash 31/12/2009 Cash T
(Capital)
SS S
BALANCE BALANCE
SHEET SHEET
LIABILITIES LIABILITIES
Income Statement
for the year ended
EQUITY 31/12/2009 EQUITY
325
Part 4
Content of the Cash Flow Statement
326
The three parts of the cash flow
statement
A. Cash flows from OPERATING ACTIVITIES
• Includes cash inflows & outflows that arise from the day-to-day operational
activities of the business.
• E.g. payment for inventories, receipts from debtors, payments for expenses
such as wages, utility bills etc.
B. Cash flows from INVESTING ACTIVITIES
• Includes cash in & cash out from selling/purchasing assets (non-current assets
or other investments)
C. Cash flows from FINANCING ACTIVITIES
• Includes cash inflows/outflows from loans, raising capital, paying dividends
327
Structure of cash flow statements
(required by IAS 7: Cash Flow Statements)
Cash flows
from operating activities
plus or
minus
Cash flows
from investing activities
plus or
minus
Cash flows
from financing activities
equals
Net increase (or decrease) in

cash and cash equivalents over
the period
328
Question for you: Which section of the cash flow
statement?
• Payments to suppliers
• Repayment of a bank loan
• Sale of non-current asset
• Depreciation
• Payment for rent
• Cash received from debtors
• Purchase of inventory
329
Question for you: Which section of the cash flow
statement?
• Payments to suppliers  CF from Operations

• Repayment of a bank loan  CF from Financing Activities
• Sale of non-current asset CF from Investing Activ.
• Depreciation  Is not a cash flow (add back
to profit)
 CF from Operations
• Payment for rent
• Cash received from debtors
• Purchase of inventory
330
Real Life Example: The cash flow statement of Next Plc
(retailer)
Next plc, annual report 2008, p.41

Summary of the cash flow statement
£m
Net cash from operating activities 518.0
Net cash from investing activities (178.9)
Net cash from financing activities (430.0)
Decrease in cash in year (90.9)
331
In more detail:
Cash flows from operating activities
332
In more detail:
Cash flow from investing activities
333
In more detail:
Cash flow from financing activities
Next plc p41, annual report 2008
334
Part 5
How to construct
the Cash Flow Statement (CFS)
335
How to construct the CFS
• Remember: The cash flow statement has three parts (cash flows from
i) operating activities, ii) investing activities, iii) financing activities)
• To measure the cash flows from investing and financing activities is
relatively straightforward
• How do we measure and record cash flows from operating activities??
336
How to construct the CFS (2)
There are 2 methods to measure cash flows

from OPERATING ACTIVITIES:
 Direct method – summarise all cash inflows and outflows from the
day-to-day operations DIRECTLY (e.g. receipts from customers,
payments to suppliers etc.)
 Indirect method – You start with the “operating profit” and adjust for
non-cash amounts
(i.e working from the accruals information in the income statement
and balance sheet)
Q: Which of the two methods is most often used in practice?

A: ………………………………………. 337
How to construct the CFS (2)
There are 2 methods to measure cash flows

from OPERATING ACTIVITIES:
 Direct method – summarise all cash inflows and outflows from the
day-to-day operations DIRECTLY (e.g. receipts from customers,
payments to suppliers etc.)
 Indirect method – You start with the “operating profit” and adjust for
non-cash amounts
(i.e working from the accruals information in the income statement
and balance sheet)
Q: Which of the two methods is most often used in practice?

A: The Indirect method! 338
Understanding the INDIRECT method
INCOME STATEMENT –
CASH FLOW STATEMENT –
31/12/2010
31/12/2010
Sales Revenue …
A. CASH FLOWS FROM
(-)Cost of Sales … OPERATING ACTIVITIES
= GROSS PROFIT
… Profit before Tax
XX
(-)Operating Expenses
Wages … (-)/(+) Adjustments made to isolate
Electricity … only the cash-related items of the I/S
Petrol … Net Cash from operating activities
Depreciation … ZZ
B. CASH FLOWS FROM
= OPERATING PROFIT INVESTING ACTIVITIES
…
Net Cash from Invest. Activ.
(-) Interest Expense … PP
= PROFIT BEFORE TAX
C. CASH FLOWS FROM
XX FINANCING ACTIVITIES
Net Cash from Financ. Activ
(-) Tax Expense … BB
= PROFIT AFTER TAX 339
The INDIRECT METHOD: How to measure cash flows
from Operating activities
START WITH Profit before taxation (from the I/S)
PLUS (+) Depreciation expense (from the I/S)
PLUS (+) Interest expense (from the I/S)
MINUS Increase or PLUS decrease in inventories (Inventories from the 2 B/S)
MINUS Increase or PLUS decrease in trade receivables (Trade receivables from the 2 B/S)
PLUS Increase or MINUS decrease in trade payables (Trade payables from the 2 B/S)
MINUS (-) Interest paid (amount actually paid, not the expense!)
MINUS (-) Taxation paid (amount actually paid, not the expense!)
MINUS (-) Dividend paid
EQUALS (=) Net cash flows from operating activities

340
Why do we make these adjustments?
Special Case: *Depreciation*
• It is included as an expense in the income statement,
BUT…
• … it has no cash effect!
Therefore, depreciation needs to be added back to

operating profit, as it doesn’t constitute a cash flow
(in the I/S depreciation was deducted from revenues as an

expense, but since it is not a cash expense we need to add
it back to profit)
341
Example
• All sales made in cash
• All purchases / costs are paid in cash
• Depreciation is $20 per annum
• No inventory at end of period
• Revenue = $100
• Expenses = $75
• Movement in cash = ?
342
Example
• All sales made in cash
• All purchases / expenses are paid in cash
• Depreciation is $20 per annum
• No inventory at end of period
• Revenue $100 - Expenses $75

Profit = $25
• Movement in cash: profit + depreciation

= $25 + $20 = $45 (indirect method)
343
Example
• Revenue = $100
• Expenses = $75
• Profit = $25
• Movement in cash:
• Received $100
• Paid out $55
• Movement in cash = increase of $45 (direct method)
344
Why do we make these adjustments? (2)
An example of a current asset:

*Trade Receivables (or debtors)*
• In the I/S, Sales Revenue = “Cash Sales” + “Credit Sales”

• “Credit Sales” have no cash effect
• When a firm makes a credit sale, what happens to the
balance sheet equation??
(Increase revenue, increase tr. Receivables)
We need to remove “credit sales” when constructing the
Cash flow from Operations section of the CFS
345
Why do we make these adjustments? (3)
An example of a current asset:
*Trade Receivables (or debtors)*
• How do we know which Sales are Credit Sales, in order to
remove them?
• We know it by looking at the movements in Tr.
Receivables. E.g.
Beginning of the year End of the year
Tr. Receivables in B/S £100 £150
• The increase of £50 in Tr. Receivables from the beginning to the end of
the year indicates that, in net terms, we made an additional £50 credit
sales during this year.
•This figure, £50, has to be deducted from profit, as it refers to credit sales
that have no cash impact. 346
General Rule for Adjustments
General rule for changes in current assets/current
liabilities:
• If there is an INCREASE in CURRENT ASSETS other than cash (e.g.

inventories, tr. Receivables, prepaid expenses)  deduct the increase
from Profit in the Cash flow from operations section
• If there is a DECREASE in CURRENT ASSETS other than cash (e.g.
see above)  add the decrease to Profit in the Cash flow from operations
section
• If there is an INCREASE in CURRENT LIABILITIES (e.g. trade

payables, accrued expenses)  add the increase to Profit in the Cash flow
from operations section
•If there is a DECREASE in CURRENT LIABILITIES (e.g. see above)
 deduct the decrease from Profit in the Cash flow from operations
section 347
Part 6
How to interpret the Cash Flow Statement

(CFS)
348
What does the CFS show us?
• It shows the movements of cash (inflows and outflows) from operating
activities, investing activities and financing activities
• It helps us understand the sources and uses of cash
• It explains what the change in cash (and cash equivalents) is from one
year to the next
349
How to interpret the CFS
• Picture the following CFS:
• Net Cash flow from operating activities = £338
• Net Cash flow from investing activities= -£280
• Net Cash flow from financing activities = £140
• Observe the following:
• Net CF from operating activities is POSITIVE. Usually a good sign! Means
that the business is generating positive cash flows from its main operations.
Notice how this figure compares to the company’s profit in the I/S
350
How to interpret the CFS (2)
• Observe the following (cont.):
• Net CF from investing activities is NEGATIVE. Usually this figure is
negative, because large cash outflows arise when the company purchases new
fixed assets
• Net CF from financing activities is POSITIVE. This figure can be either
positive or negative. Depends on whether the company is borrowing a lot and
raising capital (in which case the figure is positive) or whether it is focusing
on repaying loans and repurchasing shares (in which case the figure can be
negative).
351
Summary
• Cash and profit are not the same thing – make sure
you understand the difference
• Cash is EXTREMELY important to a business – do

you know why?
• The cash flow statement gives important and useful

additional information about how a business is
generating and using its cash
352
END
Thank you very much
Office: G13
mobile: 0266225129
WhatsApp: +447745808142

ACCT 302 Financial Reporting II Lecture Slides

Uploaded by

Copyright:

Available Formats

You might also like

ACCT 302 Financial Reporting II Lecture Slides

Uploaded by

Document Information

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

ACCT 302 Financial Reporting II Lecture Slides

Uploaded by

Copyright:

Available Formats

ACCT 302: Financial Reporting

LECTURER: C. AGYENIM-BOATENG (PhD, MSc, BSc, FCCA)

• What is the purpose of financial reporting?

• Alternative theoretical perspectives

IAS 8: Accounting Policies, Changes in accounting

LECTURER: C. AGYENIM-BOATENG (PhD, MSc, BSc, FCCA)

Accounting Policies, Changes in accounting

• Changes in accounting policies do not include applying an accounting

• It requires adjustment of retained earnings

Events after reporting Period

• Evidence of conditions that existed at statement of financial position

• Change the accounts.

• Non-disclosure does not affect ability to understand

• Disclose by way of note.

IFRS 8: Operating Segments

LECTURER: C. AGYENIM-BOATENG (PhD, MSc, BSc, FCCA)

An operating segment is a component of an entity

• The ‘chief operating decision maker’ may be an individual or a group of

The following criteria are

• If the total external revenue of the reportable operating segments is less

• Factors used to identify the entity’s operating.

The following items if reviewed by the chief operating decision maker:

• Discretion as to the definition of each segment.

• Discretion as to the allocation of common costs to segments.

• Discretion as to the definition of some of the items to be disclosed e.g.

Related Party Transactions

• It includes but not limited to children, spouse and dependents.

• Providers of finance, unions and government when in course of

• Single customer, supplier simply based on volume of business.

• Agency and leasing arrangements.

• Loans and guarantees

• Disclose if there have been transactions

• Commercial detail – volumes, pricing policy.

IAS 12: Income Taxes

It is straightforward and should present no problems

• This year’s income statement will show:

• This year’s balance sheet will show

Accounting profit ≠Taxable profit

• Differences – permanent and temporary

 Temporary differences arise where items are taxable/allowable but

Accounting: Depreciate straight line over 5 years – charge is (GH¢100-25)/5 =

Tax: Depreciation is too subjective! So apply tax (capital) allowances (tax

• Total tax charge using accounting rules = 5 x 33 = GH¢165

• It’s the timing of the charge between years that differs

There are two types of temporary differences:

 Intragroup profits in inventory

06/24/2024 101 DR C. AGYENIM-BOATENG

06/24/2024 102 DR C. AGYENIM-BOATENG

Year Carrying Tax Base

06/24/2024 106 DR C. AGYENIM-BOATENG

Deferred tax liability IAS 12

Deferral method Liability method

06/24/2024 108 DR C. AGYENIM-BOATENG

06/24/2024 110 DR C. AGYENIM-BOATENG

Depreciation charge 100 000 100 000

30 000 (5 000)* change

* 5% X 100,000 [2019 amount] = 37 500 final

06/24/2024 112 DR C. AGYENIM-BOATENG

Tax allowance 50 Carrying amount of asset 80