IAS 8 Assessment Quiz | Part II


Question 1

Difficulty:  ✭ ✭ ✭ 

You are the Chief Accountant at DEF PLC.

Steve, the Accounts Officer, has brought to you the following matters for an assessment of their impact on the financial statements for the year ended 30 June 2014 which are in the process of being finalized.

Determine the amounts to be recognized in respect of the following transactions and balances for the current period as well as the prior period comparative s to be reported in the financial statements for the year ended 30 June 2014.



a)   DEF PLC has been valuing inventory on the basis of Average Cost Method (AVCO) until 30 June 2013.

DEF PLC is involved in a seasonal business and the use of AVCO method dilutes the effect of seasonal fluctuation on the cost of inventory.

Management believes FIFO Method will provide more relevant information regarding the value of inventory held by DEF PLC and has decided to apply it for the first time starting from the current period.

Value of inventory calculated using the two basis is as follows:

As at
30 June '14
As at
30 June '13
FIFO$275,000$250,000
AVCO$300,000$200,000

What amount of inventory should be presented in the financial statements under consideration for:

a) Current Year End
As at
30 June '14
b) Comparative Year End
As at
30 June '13
$275,000
$275,000
$250,000
$250,000
$300,000
$300,000
$200,000
$200,000
30 June '1430 June '13
Correct Answer:$275,000$250,000

Change in inventory valuation method constitutes a change in the accounting policy.



A change in accounting policy is acceptable where it results in the presentation of more relevant and reliable financial statements.



As per IAS 8, the change is applied retrospectively whereby the prior period comparative figure of inventory balance should be restated in accordance with the new valuation method.

b) Last year, DEF PLC was involved in a litigation.

The litigation against the Company was in progress in a civil court at the time of issuance of the financial statements for the year ended 30 June 2013 and a disclosure was included to this effect. No liability had been recorded however since the Company's legal advisors firmly believed in a favorable outcome.

As per the expectation of the legal advisors, the Company won the case in civil court this year. However, the decision of the civil court was subsequently overturned by the High Court and the Company was forced to pay $500,000 to the claimants on 31 May 2014.

What amount of liabilities, if any, should be reported in respect of the legal claim in the financial statements under consideration for:

a) Current Year End
As at
30 June '14
b) Comparative Year End
As at
30 June '13
Nil
Nil
Nil
Nil
$500,000
$500,000
$500,000
$500,000
30 June '1430 June '13
Correct Answer:NilNil

The adverse decision of the Court and the resulting liability merely shows that the management's estimate regarding the likely outcome of the litigation was incorrect.



Hindsight cannot be used to classify this occurrence as a prior period error which is why the comparative figures need not be restated.



As the claim was settled during the current period, no liability will be presented at the current year end either.

c)   DEF PLC acquired a factory on 1 July 2012 for $1,000,000.

In the last accounting period, DEF PLC depreciated the factory building on straight line basis assuming a useful life of 10 years.

In the current period, the useful life of the factory premises has been revised to 20 years instead of 10 years assessed last year.

Amounts of depreciation expense calculated using the different assumptions are as follows:

Net Book
Value
Useful LifeDepreciation
Expense
$1,000,00010 years$100,000
$1,000,00020 years$50,000
$900,00019 years$47,368
$950,00019 years$50,000

What amount of depreciation expense should be presented in the financial statements under consideration for:

a) Current Year End
As at
30 June '14
b) Comparative Year End
As at
30 June '13
$100,000
$100,000
$100,000
$100,000
$50,000
$500,000
$50,000
$500,000
$47,368
$47,368
$47,368
$47,368
30 June '1430 June '13
Correct Answer:$47,368$100,000

The revision of the useful life of factory premises represents a change of estimate.



Prospective application requires that the effect of the revision should be accounted for in the current and future accounting periods.



However, depreciation already charged in the previous accounting period (i.e. $100,000) need not be restated.

d)   DEF PLC has a policy of recognizing revenue upon the sale of their goods by its distributors to the retailers.

This year has been particularly hard for the Company's business. In order to improve the profitability of DEF PLC, Steve has suggested recognizing sales revenue upon the delivery of goods to the Company's distributors instead of delaying it until the sales are made to retailers.

Comparison of the sales revenue using the different revenue recognition policies is as follows:

Sales for the
current
year ended
30 June '14
Sales for the
comparative
year ended
30 June '13
Old policy$2,500,000$3,000,000
New policy$3,500,000$2,800,000

What amount of revenue should be presented in the financial statements under consideration for:

a) Current Year End
As at
30 June '14
b) Comparative Year End
As at
30 June '13
$2,500,000
$2,500,000
$3,000,000
$3,000,000
$3,500,000
$3,500,000
$2,800,000
$2,800,000
30 June '1430 June '13
Correct Answer:$2,500,000$3,000,000

Accounting policies should be applied consistently over the period of time to promote comparability of information presented in the financial statements.



Accounting policies cannot be changed unless required by the IFRS or if it leads to more relevant and reliable financial statements.



Further, accounting policies cannot be changed merely for achieving a desired presentation of results as in this case.