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PAPER NO. 9 FINANCIAL REPORTING AND ANALYSIS
UNIT DESCRIPTION
This paper is intended to equip the candidate with knowledge, skills and attitudes that will enable him/her to account for more complex financial transactions and to prepare as well as analyse financial statements in the private and public sectors.
LEARNING OUTCOMES
A candidate who passes this paper should be able to:
• Account for various assets and liabilities
• Prepare financial statements including published financial statements for various types of organisations
• Account for specialised transactions
• Prepare group financial statements
• Analyse and interpret financial statements
• Apply International Financial Reporting Standards (IFRSs) and International Public Sector Accounting Standards (IPSASs) in preparing non-complex financial statements.
CONTENT
1. Accounting for Assets and Liabilities [Assets and liabilities as covered in Financial Accounting (Foundation Level) are also relevant here]
1.1 Investment Property
1.2 Assets used in exploring for and evaluation of mineral resources
1.3 Non-current assets held for sale
1.4 Financial Assets and Financial Liabilities (Recognition, Classification, Initial measurement, subsequent measurement, reclassifications and de-recognition)
1.5 Leases (Exclude Sale and Leaseback and dealers in leasing assets)
1.6 Current and Deferred tax
1.7 Government grants
1.8 Provisions, contingent liabilities and assets
2. Accounting for Specialized Transactions
2.1 Revenue recognition (Basic application of revenue recognition principles to Hire Purchase, Consignment sales, construction contracts and joint arrangements)
2.2 Effects of changes in exchange rates (Only foreign currency denominated transactions)
2.3 Borrowing Costs
3. Preparation of Financial Statements for different entities/Transactions
3.1 Conversion of a partnership into a company
3.2 Professional firms (Accountants, Lawyers, doctors, engineers)
3.3 Agricultural activities and farming
3.4 Pension plans
3.5 Cooperative Societies
4. Preparation of Published Financial Statements
4.1 Presentation of Financial Statements (Statement of Profit or Loss, other comprehensive incomes, Statement of Financial Position and Statement of cash flows)
4.2 Accounting Policies, Changes in Accounting Estimates and Errors
4.3 Events after the Reporting Period
4.4 Discontinued Operations
5. Accounting and Financial Statements for Interests in Other Entities
5.1 Subsidiaries (Basic Consolidated Financial Statements with one subsidiary – excluding disposals and statement of cash flows)
5.2 Associates and Joint ventures
5.3 Accounting treatment of investments in subsidiaries, associates and jointly controlled entities in the financial statement of the investor (Separate financial statements)
5.4 Branches (Only autonomous and local branches)
6. Public Sector Accounting Standards
6.1 Presentation of Financial Statements
6.2 Accounting Policies, Changes in Accounting Estimates and Errors
6.3 Effects of Changes in Foreign Exchange Rates
6.4 Revenue from exchange transactions and revenue from non-exchange transactions
6.5 Property, plant and equipment, investment property and intangible assets
6.6 Provisions, contingent liabilities and contingent assets
6.7 Presentation of budget information in Financial Statements
7. Analysing Financial Statements
7.1 Analysing financial statements using ratios covered in Financial Accounting
7.2 Analysing Financial Statements using common size approach for the statement of profit or loss and statement of financial position
TOPIC 1
ACCOUNTING FOR ASSETS AND LIABILITIES
INVESTMENT PROPERTY
These are assets held to earn rentals or for capital appreciation or both rather than for use in the production, supply, administration or for sale in the ordinary course of business.eg Land and building.
Examples of investment property include:
(a) Land held for long term capital appreciation rather than short term sale in the ordinary course of business.
(b) Land held for predetermined future use.
(c) A building owned by the entity or held under a finance lease by the entity ad leased out.
(d) A building which is vacant but is held to be leased out under one or more operating lease.
(e) Property that is being constructed for future use as an investment property.
Property which are not considered as investment property
a) Land held for ordinary use by the entity.
b) Building held for use rather than capital appreciation or to earn rentals.
c) Asset held for normal use of production of goods or services.
Measurement of investment property
1. Initial measurement – investment property shall be measured at cost. Cost shall include the purchase price and any other direct attributable cost incurred on acquisition of investment property.
2. Subsequent measurement – an entity shall choose either the use of:
Cost model.- this requires asset to be measured at cost less accumulated depreciation in accordance with IAS 1 6.
Fair value model.- under fair value model, investment property is re- measured at the end of each reporting period. Any fair value gain or loss shall be disclosed and reported to profit and loss account during the period they arose.
Recognition criteria for investment property
Investment property should be recognized as an asset when:
It’s probable that future economic benefit will flow from that asset to the entity.
The cost/fair value of the investment property can be measured reliably.
The entity controls the investment property.
They are measured at cost or fair value.
PROPERTY, PLANT AND EQUIPMENT (PPE) IAS 1 6
IAS 1 6 PPE outlines the accounting treatment of most types of PPE items. It further stipulated the principles for recognizing property, plant and equipment as assets, measuring their carrying amount and the depreciation and impairment losses to be recognized in relation to them.
PPE are initially measured at its cost, subsequently measured either at cost or revaluation model.
Disclosure requirements for PPE
The following information should be presented in respect of item of PPE:
1. Basis of measuring carrying amount.
2. Depreciation method used and its rates.
3. Useful life of the asset.
4. The gross carrying amount, accumulated depreciation and impairment losses at the beginning and end of period.
5. A reconciliation of the carrying amount at the beginning and end of the period showing:
Additions
Disposal
Asset classified as held for sale.
Impairment losses and reserves of impairment.
NB: De- recognition of an item of PPE is done on disposal or when no further benefits are expected from the use or disposal.
Disclosure requirement for PPE stated at revalued amount
The carrying amount of the PPE.
Changes in revaluation surplus/ loss for PPE recognizes under other comprehensive income.
Disclosure of specific accounting policies and effective date of revaluation and whether an independent valuer was involved.
A reconciliation between the carrying amount of revaluation surplus at the beginning and at the end of the period i.e. indicating the movement balances.
INVENTORIES [IAS 2]
Inventories are assets held for sale in the normal course of the business. They include raw materials, work in progress or finished good.
The objective of IAS 2 is to prescribe the accounting treatment for inventories ie the amount of cost to be recognized as an asset and carried forward unit the related revenues are recognized.
MEASUREMENT OF INVENTORIES
Inventory should be valued at the lower of cost and net realizable value. The cost shall comprise:
Cost of purchase – this comprises purchase price, import duties and others non- refundable taxes, transport and handling and other costs.
Cost of conversion – this comprises the direct labour cost, variable production overheads and fixed production overhead.
Administrative cost, selling cost, abnormal loses and shortage cost unless they relate to the goods in production process.
Net Realizable Value – is the estimated selling price less estimated cost to sell.
Disclosure requirements
1. Method adopted in determining the cost i.e. FIFO or weighted average method.
2. The carrying amount of inventories suitably classified into raw material, WIP and finished goods.
3. Inventories that was valued at net realizable value.
4. Circumstances leading write down of inventories to net realizable value
5. Inventories pledged as securities.
BORROWING COST (IAS 23/IPSAS 5)
These are cost associated with borrowing e.g. interests and floatation cost that an entity incurs in connection with borrowing. Borrowing cost is directly attributable to the acquisition, construction or production of a qualifying asset. They should be capitalized. Other borrowing costs are recognized as an expense e.g. legal expense.
Examples of borrowing costs
a) Interest on loan/borrowing.
b) Floatation cost e.g. legal costs.
c) Principle amount.
d) Amortization of discount or premium relating to borrowing.
e) Exchange difference in- case of foreign currency transaction.
A qualifying asset- is an asset that necessarily takes a substantial period of time to get ready for its intended use or sale.
Example of qualifying asset
Inventory that are manufactured or produced over a long period of time.
Manufacturing plant.
Power generation facilities.
Intangible assets.
Investment properties
Accounting treatment and recognition of borrowing costs
An entity shall capitalize borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying asset as part of the cost of that asst.
An entity shall recognize other borrowing cost as an expense in the period in which it incurs them.
How accounting treatment under IPSAS 5 differs from IAS 23.
IPAS 5 requires borrowing costs to be expensed immediately in the period in which they are incurred regardless of how the borrowing is applied. This is the benchmark treatment.
Under IAS 23 the revised version requires that all borrowing costs that are eligible for capitalization should be capitalized and included as part of qualifying asset.
ASSETS USED IN EXPLORING FOR AND EVALUATION OF MINERAL RESOURCES (IFRS 6)
Accounting for exploration of mineral resources
The scope of IFRS 6, stated as follows:
An entity shall apply the IFRS to exploration and evaluation expenditures that it incurs.
An entity shall not apply the IFRS to expenditure incurred before the exploration for and evaluation of mineral resource, such as expenditures incurred before the entity has obtained the legal rights to explore a specific area; after technical feasibility and commercial viability of extracting a mineral resource are demonstrable.
Key provisions on impairment of exploration assets as per IFRS 6
IFRS 6 effectively modifies the application of IAS 36 Impairment of Assets to exploration and evaluation assets recognized by an entity under its accounting policies.
Entities recognizing exploration and evaluation assets are required to perform an impairment test on those assets when specific facts and circumstances outlined in the standards indicate an impairment test is required.
The facts and circumstances outlined in IFRS 6 are non-exhaustive and are applied instead of indicators of impairment in IAS 36.
Impairment loss shall be treated as an expense in the profit and loss account.
The company shall evaluate (carry out impairment test) the indicators of impairment loss of its exploration asset.
Disclosure requirement
An entity shall disclose:
Its accounting policies for exploration and evaluation expenditure including the recognition of exploration and evaluation asset.
The amount of asset, liabilities, income and expenses arising from the exploration for and evaluation of mineral resources.
An entity shall treat exploration and evaluation asset as a separate class of asset and make disclosure required by either IAS 6 or IAS 38 consistent with how the asset are classified.
Impairment loss
Carrying amount.
Recognition of exploration and evaluation assets
In the absence of an IFRS that specifically applies to a transaction, other event or condition, management shall use its judgment in developing and applying an accounting policy that results in information that is:
Reliable to the economic decision making need for user.
Reliable.
Elements of cost of exploration and evaluation assets
An entity shall determine an accounting policy specifying which expenditure are recognized as exploration and evaluation asset and applying the policy consistently.
The following are examples of expenditures that might be included in the initial measurement of exploration and evaluation assets.
Acquisition of right to explore.
Topographical, geological, geochemical and geophysical studies.
Exploratory drilling.
Trenching
Sampling
Technical feasibility.
Measurement at recognition
Exploration and evaluation assets shall be measured at cost.
Measurement after recognition
After recognition, an entity shall apply either the cost model or the revaluation model.
Departing from application of IFRS, IAS or IPSAS Disclosure requirement.
When an entity departs from the requirement of a standard in accordance with paragraph 3, it shall disclose;
That the management has concluded that the financial statement present fairly the entity’s financial position, financial performance and cashflows.
That it has complied with applicable IFRS/IPSAS/IAS, except that it has departed from a particular requirement to achieve a fair presentation.
The nature of the departure, including the treatment that the standard would require.
The impact of the departure on each item affected in the financial statement.
Accounting policy choices that are disallowed under the SMEs standards.
IFRS for small and medium-sized companies (the SME standards) has been issued for use by entities that have no public accountability. One of the notable differences between the SMEs Standards and the full IFRS and IAS Standards that is not available to companies that apply the SMEs Standards.
Accounting policy choices that are disallowed under the SMEs standard includes:
Goodwill arising on acquisition of subsidiary is always determined using the proportionate net asset method (partial goodwill method). The fair value model of measuring the NCI is not available.
Intangible assets must be accounted for at cost less accumulated amortization and impairment. The revaluation model is not permitted for intangible assets.
After initial recognition, investment property is re-measured to fair value at the end of the year with the fair value gain or losses recorded in profit or loss.
The cost model can only be used if fair value cannot be measured reliably or without undue cost or effort.
NON- CURRENT ASSETS HELD FOR SALE
These are asset whose carrying amount should be recovered from the sale transaction rather than through continuous use. It should be presented as a separate item under current assets. It is valued at the lower of the carrying amount and the recoverable amount.
Conditions to be meet for an asset to be classified as held for sale asset.
The management is committed to plan to sell the asset.
The asset is available for immediate use.
The active programme to locate a potential buyer has been initiated.
The sale is highly probable within 1 2 months from the date of the classification as held for sale
Measurement and presentation of non-current assets held for sale.
Non-current assets held for sale should be measured at the lower of their carrying amount and fair value less cost to sell.
Held for sale non-current assets should be presented separately on the face of statement of financial position and should not be depreciated
On presentation on statement of financial position, they will qualify as current assets under rules of IAS 1
Illustration
On January 20×0, XYZ purchased a machine for ksh.100, 000. It was expected that it would have a useful life of 8 years and a residual value ksh.20.000. However, during 20×1 December, the directors decided to sell the machine. The company removes the machine from the farm in readiness for quick disposal and prepares the machine for viewing by potential purchasers. They appoint an agent to assist with marketing and advertising. The agent advises that the disposal may take two to six months but should be sold for ksh. 45,000.
Required:
Show the movement on the machine during the year ended 31st 20×1. And describe how the asset should be disclosed on the statement of financial position at year end.
Solution:
Machine
Opening balance 90,000
Depreciation (10,000)
Closing 80,000
Balance impairment (35,000)
Recoverable amount 45,000
IMPAIRMENT OF ASSET
An asset is said to be impaired if the carrying amount is greater than the recoverable amount.
Indicators of impairment of asset
External indicators
There is significance decrease in the market value of the asset.
There are significance changes with the adverse effect on the entity technology, economy or legal environment.
There is an increase in market interest rate likely to affect the discounting rate used in calculating assets value in use.
Internal indicators
Evidence is available of obsolesce or physical damage of an asset.
Evidence is available that indicates that the economic performance of an asset will be worse than expected.
INDICATORS OF IMPAIRMENT LOSS
External Indicators
Significant decrease in asset market value.
Significant changes with an adverse effect to the entity asset such as technological changes, market, and legal environment.
Increase in market interest rate and those increase are likely to affect the discount rate used in calculating an asset value in use.
Internal Indicators
Physical damage of the asset.
Evidence is available from internal reporting of inefficient performance.
Impairment Reversal
An entity shall assess at the end of each reporting period whether there is any indication that an impairment loss recognized in prior period for an asset other than goodwill may no longer estimate the recoverable amount of that asset.
Indicators of an impairment reversal
External Indicators
Significant increase in market value of an asset.
Significant change with favorable effect on the entity.
Decease in market interest rate during the period.
Internal Indicators
1. Evidence is available for superior effectiveness
Recognition of an impairment reversal
A reversal of impairment shall be recognized immediately in the income statement as an income.
FINANCIAL INSTRUMENTS- IFRS 9/ IAS 39
RECOGNITION AND MEASUREMENT
A financial instrument is a contract that gives rise to a financial asset to one party and a financial liability to another party e.g. cash, bank balance, commercial papers, loan, bond, debt, equity.
Classification of Financial assets
IAS 39 classifies financial asset into 4 categories which include:
Financial asset at fair value.
Available for sale financial asset.
Loan and receivable.
Held to maturity.
Financial asset at fair value
They are short term financial investment and therefore they are classified under the current assets. They are measured and valued at fair value.
Available for sale /financial asset at amortized cost
They are long term financial investment and therefore they are classified under non- current assets.
They are measured and valued at either fair value or amortized cost.
Measurement
Financial instrument are measured either:
On amortized cost.
At fair value
Provisions governing initial measurement and subsequent measurement of financial asset.
All financial instruments are initially measured at fair value plus or minus, in the case of a financial asset or liability not at fair value through profit or loss.
Subsequently, all financial instruments are measured at either cost or fair value.
Fair value hierarchy of input measurement
Fair value hierarchy categorizes the input used in valuation techniques into 3 levels.
1. Level 1 input (Quoted prices)
Level 1 input are quoted prices in the active market for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.
2. Level 2 input.
Level 2 input are inputs other than quoted market prices included within level 1 that are observable for an asset or liability either directly or indirectly. They include quoted prices for similar assets or liabilities (but not identical0 in an active market and quoted prices for assets or liabilities in markets that are not active.
3. Level 3 input.
Level 3 input are unobservable inputs for the asset or liability. Unobservable inputs should be used to measure fair value to the extent that observable inputs are not available and where there is very little market activity for the assets or liability at the measurement date.
Requirement for de- recognition of financial instruments
De- recognition is the removal of a previously recognized financial instrument from an entity balance sheet. A financial instrument should be derecognized if either the entity’s contractual rights or the asset’s cash flows have expired, or the asset has been transferred to a third party along with the risks of ownership.
If the risks and reward of ownership have not passed to the buyer, then the selling entity must still recognize the entire financial instrument and treat any consideration received as a liability.
Impact of IFRS 9 on the tax expenses of commercial banks (May 201 8 Question 5b)
IFRS 9 encompasses the accounting for financial instruments and their impairment.
The objective of IFRS 9 is to recognize a whole year and lifetime expected credit losses for all financial instruments for which there has been a significant increase in credit risk.
There is a high likelihood that the only incurred credit losses recognized on non- performing loans and advances under IFRS 9 will be allowed as tax- deductible.
The major issue with the adoption of IFRS 9 for banks is the effect of bigger and more volatile impairment losses on capital ratios. From tax perspective, it may also mean significantly lower profits but higher scrutiny of specific impairment loses, a apart of which may be disallowed for tax purposes. Furthermore, there will be an increase in the number of fair vale movement through the income statement which will need to be properly tracked and adjusted for tax purposes.
Impact of IFRS 9 on the provision of bad and doubtful debts by banks
The highest effect of IFRS is the increases in loss provisions from new expected loss impairment model, as compared to IAS 39 incurred loss model. The increase in the provision is large and quite variable.
Reported credit losses are expected to increase and become more volatile under the new credit loss model. The number and complexity of judgment is also expected to increase.
It is based on internal credit risk management practices and/or policies and is usually considered to be consistent with the definition of default used for measuring probability of default. Forward looking factor macro- economic variables and their forecasts used in the calculation of impairment under IFRS
LEASES (IFRS 16)
Lease is a contract or part of a contract that conveys the right to use an asset for a period of time in exchange for consideration. This is a contract between two parties where one party known as lessor (owner) gives another party known as lessee the right to use the asset and enjoy the benefits and risk associated with the utilization of the asset.
In order for such a contract to exist the user of the asset needs to have the right to:
Obtain substantially all of the economic benefits from the use of the asset.
The right to direct the use of the asset.
IFRS 16 states that a customer has the right to direct the use of an identified asset if either:
The customer has the right to direct how and for what purpose the asset is used throughout its period of use; or
The relevant decisions about use are pre-determined and the customer has the right to operate the asset throughout the period of use without the supplier having the right to change these operating instructions.
Finance lease. A lease that transfers substantially all the risks and rewards incident to ownership of an asset. Title may or may not eventually be transferred.
Operating lease. A lease other than a finance lease.
Lease term.
Unguaranteed residual value. That portion of the residual value of the underlying asset, the realization of which by the lessor is not assured.
Types of leases
Operating lease.
Finance lease.
Sell and leaseback lease.
Leverage lease
Operating lease/off balance sheet lease
This is a short term lease. It has the following characteristics:
The lease period is very short relative to the economic life of the asset.
The lease contract can be cancelled by either party any time before end of lease period.
The owner (lessor) incurs maintenance, operating and insurance expenses of the asset.
The lessee is not given an option to buy the asset at the end of lease period.
Finance lease/capital lease
This is long- term in nature and the lease period is almost equal to the economic life of the asset.
Characteristics
The lease period should be at least equal to 75% of the asset economic life.
The lease contract cannot be cancelled by either party before lease period matures.
The lessee incurs all maintenance cost.
The lessee is given an option to buy the asset at the end of lease period.
Advantages of a lease
Lease does not involve strict terms and conditions associated with long term debts.
Leasing has lower effective cost compared to long term debts.
It does not require a significant initial capital investment compared with cost of buying new asset.
It reduces the risk of obsolescence.
It provides off- balance sheet financing i.e. operating lease are shown as foot notes to the financial statements.
Differences between finance and operating lease.
Finance lease Operating lease
It is a long term lease taking more than 75% of economic life of the asset. It is a short term lease.
The lessee has an option to purchase the asset at the end of the lease period. The lessee has no such option.
The contract cannot be cancelled before maturity. The lease contract can be canceled any time before maturity.
The lessee incurs all incidental operating expenses and account for the items in its financial statement The lessor incurs the operating expenses and accounts for the asset in his books of account.
ACCOUNTING FOR LEASES BY LESSEE
Accounting treatment Initial recognition
At the commencement date (the date the lessor makes the underlying asset available for use by the lessee), the lessee recognizes:
A lease liability
A right-of-use asset
Lease liability
The lease liability is initially measured at the present value of lease payments not paid at the commencement date, discounted at the interest rate implicit in the lease (or the lessee’s incremental borrowing rate if the interest rate implicit in the lease if not readily determinable).
The lease liability cash flows to be discounted include the following
Fixed payments
Variable payments that depend on an index (e.g. CPI) or rate (e.g. market rent)
Amounts expected to be payable under residual value guarantees (e.g. where a lessee guarantees to the lessor that an asset will be worth a specified amount at the end of the lease)
Purchase options (if reasonably certain to be exercised).
Right-of-use asset
The right-of-use asset is initially measured at it’s, which includes:
The amount of the initial measurement of the lease liability (the present value of lease payments not paid at the commencement date)
Payments made at/before the lease commencement date (less any lease incentives received)
Initial direct costs (e.g. legal costs) incurred by the lessee
An estimate of dismantling and restoration costs (where an obligation exists).
The right-of-use asset is normally measured subsequently at cost less accumulated depreciation and impairment losses in accordance with the cost model of IAS 16 PPE.
The right-of-use asset is depreciated from the commencement date to the earlier of the end of its useful life or end of the lease term (end of its useful life if ownership is expected to be transferred).
Alternatively the right-of-use asset is accounted for in accordance with:
The revaluation model of IAS 16 (optional where the right-of-use asset relates to a class of property, plant and equipment measured under the revaluation model, and where elected, must apply to all right-of-use assets relating to that class).
The fair value model of IAS 40 Investment Property (compulsory if the right-of- use asset meets the definition of investment property and the lessee uses the fair value model for its investment property).
Right-of-use assets are presented either as a separate line item in the statement of financial position or by disclosing which line items include right-of-use assets.
Lessor accounting
Classification of leases for lessor accounting
The approach to lessor accounting classifies leases into two types:
Finance leases (where a lease receivable is recognized in the statement of financial position); and
Operating leases (which are accounted for as rental income).
Finance lease: A lease that transfers substantially all the risks and rewards incidental to ownership of an underlying asset.
Operating lease: A lease that does not transfer substantially all the risks and rewards incidental to ownership of an underlying asset.
Finance leases
Recognition and measurement
At the commencement date (the date the lessor makes the underlying asset available for use by the lessee), the lessor derecognizes the underlying asset and recognizes a receivable at an amount equal to the net investment in the lease.
The net investment in the lease is the sum of:
Present value of lease payments receivable by the lessor xx
Present value of any unguaranteed residual value accruing to the lessor xx
xx
The unguaranteed residual value is that portion of the residual value of the underlying asset, the realization of which by a lessor is not assured or is guaranteed solely by a party related to the lessor.
Essentially, an unguaranteed residual value arises where a lessor expects to be able to sell an asset at the end of the lease term for more than any minimum amount guaranteed by the lessee in the lease contract. Amounts guaranteed by the lessee are included in the ‘present value of lease payments receivable by the lessor’ as they will always be received, so only the unguaranteed amount needs to be added on, which accrues to the lessor because it owns the underlying asset.
Finance income is recognized over the lease term based on a pattern reflecting a constant periodic rate of return on the lessor’s net investment in the lease.
The de recognition and impairment requirements of IFRS 9 Financial Instruments are applied to the net investment in the lease.
Illustration 5
A lessor enters into a 3 year leasing arrangement commencing on 1 January 2013. Under the terms of the lease, the lessee commits to pay Sh.80,000 per annum commencing on 31 December 2013.
A residual guarantee clause requires the lessee to pay Sh.40,000 (or Sh.40,000 less the asset’s residual value, if lower) at the end of the lease term if the lessor is unable to sell the asset for more than Sh.40,000.
The lessor expects to sell the asset based on current expectations for Sh.50,000 at the end of the lease. The interest rate implicit in the lease is 9.2%. The present value of lease payments receivable by the lessor discounted at this rate is Sh.232,502.
Required
Show the net investment in the lease from 1 January 2013 to 31 December 2015 and explain what happens to the residual value guarantee on 31 December 2015.
Solution
The net investment in the lease (lease receivable) on 1 January 2013 is:
Sh.
Present value of lease payments receivable by the lessor 232,502
Present value of unguaranteed residual value
(50,000 – 40,000 = 10,000 × 1/1.0923)
7,679
240,181
The net investment in the lease (lease receivable) is as follows:
2013 2014 2015
Sh. Sh. Sh.
1 January b/d 240,181 182,278 119,048
Interest at 9.2% (interest income in P/L) 22,097 16,770 10,952
Lease installments (80,000) (80,000 (80,000)
31 December c/d 182,278 119,048 50,000
On 31 December 2015, the remaining Sh.50,000 will be realized by selling the asset for Sh.50,000 or above, or selling it for less than Sh.50,000 and claiming up to Sh.40,000 from the lessee under the residual value guarantee.
An allowance for impairment losses is recognized in accordance with the IFRS 9 principles, either applying the three stage approach or by recognizing an allowance for lifetime expected credit losses from initial recognition (as an accounting policy choice for lease receivables).
Criteria for identifying a lease contract for the purposes of accounting in the financial statement.
IFRS 16 requires lessees to recognize an asset and a liability for all leases unless they are short term or of minimal value.
As such, it is important to assess whether a contract contains a lease or whether it is simply a contract or service.
A contract contains a lease if it conveys the right to control the use of an identified asset for a period of time in exchange for consideration
A customer(Lessee) controls the asset if it has:
A right to substantially obtain all of the identical assets economic benefits, and
The right to direct the identified asset use.
The right to direct the use of the asset can still exist even if the lessor puts restriction on its use within a contract.
TRIPLE BOTTTOM LINE ACCOUNTING
Triple bottom line is an accounting framework that incorporates three dimensions of performance; Social, environment and financial.
The concept behind the triple bottom line is that companies should focus as much on social and environmental issues as they do on profits.
The TBL consists of three elements; profit, people and the planet.
TBL theory holds that if a firm looks at profit only, ignoring people and the planet, it cannot account for the full cost of doing business.
Profit – this is the traditional measure of corporate profit.
People/Social-This measures how socially responsible an organization has been throughout its history.
Planet/environment- this measures how environmentally responsible affirm has been.
CURRENT AND DEFERRED TAX
Definition of terms
Income tax –This include all domestic and foreign taxes which are based on taxable profit.
Deferred Tax – This is the tax payable in the future which arises as a result of taxable temporary differences.
Temporary Difference – Is the difference between the carrying amount and the tax base of an asset or liability.
Tax Base – Is the amount attributable to an asset or liability for the tax purposes.
Taxable temporary Differences – This are temporary differences that will result in deferred tax liability.
Deductible temporary Differences – This are temporary differences that will result in deferred tax asset.
Deferred tax liability – These are amount of income taxes payable in future period in respect of taxable temporary difference.
Deferred tax asset – These are amount of income taxes recoverable in future period in respect of deductible temporary difference.
Basis of measuring for current tax and deferred tax
Tax expense for the period is made up of two elements:
Current tax
Deferred tax.
Current tax is the tax for the period based on the taxable profit for the year i.e. (gross income allowable expenses).
Deferred tax on the other hand arises as a result of temporary differences. Increase in deferred tax is an expense which increases the tax liability for the year while a decrease in deferred tax is an income hence reducing the tax liability for the period.
Current and deferred tax
Deferred taxes is a tax that is payable in future.
Current tax
This is the corporation tax payable by companies based on trading results for given period. Tax is mainly from profits but a company may have a taxable business which means a company doesn’t have a tax liability in the current period, but carries the taxable loss to the subsequent period to be offset against future profits. Once the corporation tax has been estimated, IAS 12 requires the following accounting treatment and presentation.
The total corporation tax liability for the period is shown as a separate item in the income statement to be referred to as income tax expense.
If part of the total liability is unpaid by the end of the financial period then the unpaid amount is to be presented as part of the current liabilities in the statement of financial position (SOFP) and referred to as current tax.
Companies often use estimates to compute corporations before tax for a given financial period. In the subsequent financial period, the tax initially estimated may either be more or less than what is actually paid. This is referred to as under provision of the previous year’s tax. If actual tax paid is more than what was provided then this is called overprovision.
Actual >Estimate –underprovision
Actual
Asset C.V
liability C.V
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