ACCA

Paper F7 (International) Financial Reporting

Tuition Mock Examination December 2011 Question Paper
ALL FIVE questions are compulsory and MUST be attempted. Time Allowed 15 minutes 3 hours Reading and planning Writing

 The Accountancy College Ltd, October 2010 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior written permission of The Accountancy College Ltd.

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Question 1 As newly appointed chief accountant of Polly, it is your responsibility to prepare a group statement of financial position as at 30 September 2010 . The relevant statements of financial position as at that date are given below. Polly Sally Abby $000 $000 $000 Non-current assets Property, plant and equipment 98,000 87,750 52,470 Investments 146,000 244,000 87,750 52,470 Current assets Inventories Trade receivables Cash

24,250 35,000 17,500 76,750 320,750

14,550 26,500 9,610 50,660 138,410

36,360 19,960 27,010 83,330 135,800

Equity Share capital - $1 ordinary shares Retained earnings

150,000 137,650 287,650

75,000 61,100 136,100

100,000 17,040 117,040

Current liabilities Trade payables

33,100 320,750

2,310 138,410

18,760 135,800

The following information is also relevant. (a) Polly acquired 60 million of the ordinary $1 shares of Sally Limited on 31 March 2008 at a cost of $89 million. At 31 March 2008 Sally had a credit balance on its retained earnings of $9 million. (b) During March 2010 Sally sold goods to Polly for $12 million. On 30 September 2010 half of these goods remain unsold. Sally sells goods at a mark up of 25%. (c) On 31 October 2009, Polly acquired 25 million of Abby Limiteds $1 ordinary shares at a cost of $57 million. Abby had a retained earnings credit balance of $16 million at this time. (d) The fair values of Sally and Abby were not materially different from their book values at the time of acquisition, with the following exceptions: (i) Sally held inventories with a fair value which was $2 million greater than book value. All of these inventories had been sold by 30 September 2010. (ii) Items of plant and equipment belonging to Sally have a fair value of $5 million in excess of book value. The items were acquired by Sally on 1 April 2008 and are being depreciated over their useful life of five years. No adjustment has been made by Sally for either of the above items. (e) An impairment test conducted as at 30 September 2010 indicated that $7.2m of the recognised goodwill relating to the investment in Sally should be eliminated. No impairment losses were necessary for the investment in Abby.

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(f) It is group policy to value non-controlling interests at fair value at date of acquisition. The directors valued the non-controlling interests at acquisition at $20m. Required (a) Prepare a consolidated statement of financial position for the Polly group as at 30 September 2010. (20 marks) (b) Your managing director has asked for an explanation of why it is necessary to invest staff time in preparing a set of consolidated financial statements as well as those of the individual companies of the group. Write a memo to her explaining the main advantages. (5 marks) (Total = 25 marks)

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Question 2 The following trial balance relates to Philpotts, a publicly listed company, at 30 September 2010: $000 $000 Ordinary share capital 200,000 Retained profits at 1 October 2009 162,000 6% Loan note (issued in 2007) 50,000 Deferred tax (note (v)) 17,500 Land and buildings at cost (land element $163 million (note (i))) 403,000 Plant and equipment at cost (note (i)) 124,000 Plant on lease to customer at cost (note (ii)) 56,000 Accumulated depreciation 1 October 2009 buildings 60,000 Accumulated of depreciation 1 October 20 plant and equipment 44,000 Trade receivables 48,000 Inventory 1 October 2009 35,500 Bank 12,500 Trade payables 45,000 Revenue 246,500 Purchases 78,500 Construction contract balance (note (iii)) 5,000 Admin expenses 29,000 Loan interest paid 1,500 Interim dividend 8,000 Rental income from plant (note (ii)) 16,000 Research and development expenditure (note (iv)) 40,000 841,000 841,000 The following notes are relevant: (i) The building had an estimated life of 40 years when it was acquired and is being depreciated on a straight-line basis. Plant and equipment, other than the leased plant, is depreciated at 125% per annum using the reducing balance basis. Depreciation of buildings and plant and equipment is charged to cost of sales. (ii) On 1 October 2009 Philpotts purchased an item of plant for $56 million which it leased to a customer on the same date. The lease period is four years with annual rentals of $16 million in advance. The plant is expected to have a nil residual value at the end of the four years. Philpotts has been advised that this is a finance lease with an interest rate of 10% per annum. (iii) The construction contract balance represents costs incurred to date of $35 million less progress billings received of $30 million on a two year construction contract that commenced on 1 October 2003. The total contract price has been agreed at $125 million and Philpotts expects the total contract cost to be $75 million. The company policy is to accrue for profit on uncompleted contracts by applying the percentage of completion to the total estimated profit. The percentage of completion is determined by the proportion of the contract costs to date compared to the total estimated contract costs. At 30 September 2010, $5 million of the $35 million costs incurred to date related to unused inventory of materials on site. Other inventory at 30 September 2010 amounted to $385 million at cost

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(iv) The research and development expenditure is made up of $25 million of research, the remainder being development expenditure. The directors are confident of the success of this project which is likely to be completed in March 2011. (v) The directors have estimated the provision for income tax for the year to 30 September 2010 at $22 million. The deferred tax provision at 30 September 2010 is to be adjusted to a credit balance of $14 million. Required: Prepare for Philpotts: (a) An income statement for the year to 30 September 2010; and

(11 marks)

(b) A Statement of financial position as at 30 September 2010 in accordance with International Financial Reporting Standards. (14 marks) Note: A Statement of Changes in Equity is NOT required. Disclosure notes are ONLY required for the leased plant in item (ii) above. (25 marks)

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QUESTION 3 JAMMING The following information relates to the draft financial statements of Jamming for the year to 30 September 2010 together with the comparative figures for the year to 31 March 2009: Income statement for the year to: Sales revenue Cost of sales Gross profit Research and development costs Property rentals Selling and distribution costs Administration Profit on sale of property Interest expense Taxation on income - deferred tax Net Profit for the year (200) 190 ____ 30 September 2010 $000 $000 2,400 (1,440) _____ 960 (300) (40) (155) (125) ____ (80) nil (95) (85) ____ 31 March 2009 $000 $000 2,500 (1,800) _____ 700

(620) ____ 340 50 (70) ____ 320 (10) ____ 310

(260) ____ 440 nil (80) ____ 360

(120) (30) ____

(150) ____ 210

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Statement of financial position as at: Non-current assets: Property, plant and equipment Goodwill Development costs

30 September 2010 $000 $000 950 200 nil ___

31 March 2009 $000 $000 1,250 200 280 ___

200 _____ 1,150

480 ____ 1,730

Current assets: Inventory Accounts receivable Bank

450 190 210 ___ 850 _____

800 470 nil ______ 1,270 _____ 3,000 _____

Total assets Equity and liabilities Share capital and reserves: Equity shares of $1 each Reserves: Retained earnings Less dividends

2,000 _____

600 410 (150) ___ 180 (80) ___

600

260 ___ 860

100 ___ 700

Non-current liabilities 8% Convertible loan note 12% Debenture Deferred tax Provision for plant renovation Current liabilities Accounts payable Dividends Taxation Operating overdraft

400 nil 110 nil ___ 330 90 210 nil ___

510

nil 500 300 370 ____ 620 60 115 335 ____

1,170

630 _____ 2,000 _____

1,130 _____ 3,000 _____

Total equity and liabilities

Note: All dividends were paid or proposed prior to their relevant year-end. The convertible loan note was issued on 1 April 2009 at par and will be redeemed at par or exchanged for equity shares on the basis of one equity share for each $1 nominal value of the loan note in 2014 at the option of the holders. Assume an income tax rate of 30%.

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The share price of Jamming fell considerably in June 2009 in reaction to adverse press comment concerning the operating performance and financial position of the company as revealed by the publication of the companys consolidated financial statements for the year ended 31 March 2009. The main performance areas criticised were: (i) a gross profit ratio below that of the market sector (ii) a lack of expenditure on research and development (iii) a disappointing EPS (iv) low utilisation of the property, plant and equipment (there have been no acquisitions of non-current assets in the year to 30 September 2010) (v) poor control of accounts receivable (vi) inefficient inventory holding (vii) long payment period for trade payables (viii) poor liquid ratios (ix) Statement of financial position gearing (debt/equity) too high. In order to address these problems Jamming commissioned consultants to recommend possible strategic actions with a view to improving the income statement and Statement of financial position The Board acted quickly on many of the consultants recommendations and is pleased with the overall position revealed by the consolidated financial statements for the year to 30 September 2010. Due to over-capacity in the industry the directors of Jamming negotiated a contract for an external company to manufacture one of its products that had previously been manufactured internally. This allowed Jamming to dispose of some inefficient furnaces that were included in plant. These furnaces had required major renovation consisting of re-lining them with new material every five years. Jamming had been providing for this on an annual basis, but due to the sale of the furnaces, the provision was no longer required and was released to cost of sales. Jamming had also been engaged in a research and development project to revise the design of this type of furnace in order to avoid the expensive re-lining costs. This project was abandoned when the furnaces were sold. The sale of the property was not related to the outsourcing decision. Required: (a) Appraise the performance of Jamming for the year to 30 September 2010 in the specific areas ((i) to (ix) above) where its performance was criticised by the press in the previous year. (16 marks) Note: your answer should include an appendix of ratios (for both years) relevant to each of the nine areas criticised. Briefly discuss whether the companys actions are likely to gain favour with stock market analysts. (3 marks) Describe the problems inherent in the use of ratio analysis to assess the performance of companies. (6 marks) (Total: 25 marks)

(b) (c)

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Question 4 Giza It is generally recognised in practice that non-current assets should not be carried in a Statement of financial position at values that are greater than they are worth. In the past there has been little guidance in this area with the result that impairment losses were not recognised on a consistent or timely basis or were not recognised at all. IAS 36 Impairment of Assets was issued in June 1998 on this topic. Required: (a) Define an impairment loss and how it arises including when companies should carry out a review for impairment of assets; (5 marks) Give examples of circumstances that may indicate that a companys assets may have become impaired.

(b)

(3 marks) (c) Giza is preparing its financial statements to 31 March 2002. The following situations have been identified by an impairment review team: Giza has an item of earth-moving plant, which is hired out to companies on short-term contracts. Its carrying value, based on depreciated historical cost, is $400,000. The estimated selling price of this asset is only $250,000, with associated selling expenses of $5,000. A recent review of its value in use based on its forecast future cash flows was estimated at $500,000. Since this review was undertaken there has been a dramatic increase in interest rates that has significantly increased the cost of capital used by Giza to discount the future cash flows of the plant. (3 marks) Giza owns a company called Coffee to go. Extracts from Gizas consolidated Statement of financial position relating to Coffee to go are: $000 Goodwill 20,000 Franchise costs Fixtures and fittings Coffee machine Other net assets 30,000 100,000 10,000 50,000 210,000

The coffee machine has developed a fault and can no longer be used it has no scrap value at all. Fixtures and fittings have an estimated realisable value of $105 million. The franchise agreement contains a sell back clause, which allows Coffee to go to relinquish the franchise and gain a repayment of $25 million from the franchisor. An impairment review at 31 March 2002 has estimated that the value of Coffee to go as a going concern is only $150 million. (4 marks)
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Required Explain, with numerical illustrations where possible, how the information above would affect the preparation of Gizas consolidated financial statements to 31 March 2002. (Total 15 marks) Question 5 Charmers Ltd (a) Describe the circumstances in which an entity may change its accounting policies and how a change should be applied. (5 marks) The terms under which Charmers sells its holidays are that a 10% deposit is required on booking and the balance of the holiday must be paid six weeks before the travel date. In previous years Charmers has recognised revenue (and profit) from the sale of its holidays at the date the holiday is actually taken. From the beginning of November 2009, Charmers has made it a condition of booking that all customers must have holiday cancellation insurance and as a result it is unlikely that the outstanding balance of any holidays will be unpaid due to cancellation. In preparing its financial statements to 31 October 2010, the directors are proposing to change to recognising revenue (and related estimated costs) at the date when a booking is made. The directors also feel that this change will help to negate the adverse effect of comparison with last years results (year ended 31 October 2009) which were better than the current years. Required: (b) Comment on whether Charmerss proposal to change the timing of its recognition of its revenue is acceptable and whether this would be a change of accounting policy. (5 marks)

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