AAT Financial Statements

1. AAT Financial Statements Kiran Sagoo 0121 237 3818 harkiransagoo@bpp.com Revision Tutorial 2013

2. How will the paper be assessed? It is assessed by a 2 1/2 hour exam. The exam is in two sections: • Drafting of financial statements (60% of the assessment) • Analysis and interpretation* (40% of the assessment) * Also the IASB’s Framework for the Preparation and Presentation of Financial Statements and legal and regulatory framework

3. How will the paper be assessed? • Section 1 (Drafting) • Part A – Construction of the financial statements of single companies • Part B – International Financial Reporting Standards (IFRSs) • Part C – Construction of consolidated financial statements • Section 2 • Part A – Analysis and interpretation of financial statements • Part B – Framework for the Preparation and Presentation of Financial Statements

4. Assessment Criteria (Extract) K&U (2) Understand the key features of a published set of accounts 1. Describe the key components and the purpose of a statement of financial position 2. Describe the key components and the purpose of a statement of comprehensive income. 3. Describe the key components and the purpose of a statement of cash flows. 4. Explain the content and purpose of disclosure notes to the accounts. 5. Identify accounting standards and the effect of these on the preparation of the financial statements.

5. Overview of Session • Revision through the main accounting standards • Examples of how to answer written questions • Good answers vs. poor answer • Basic exam techniques

6. Types of Written Questions • Could be: • Knowledge based questions • Scenario based questions See examples later

7. The Accounting Equation ASSETS = LIABILITIES + EQUITY Assets – CONTROLLEDby entity as a result of PASTevents, resulting in an INFLOW of ECONOMIC BENEFITS Liabilities – PRESENT OBLIGATION arising from PASTEVENTS, resulting in an OUTFLOWof ECONOMIC BENEFITS Equity – OwnersRESIDUAL INTEREST in the assets of the entity after deducting all liabilities

8. Fundamental Characteristics • Relevance - if information is capable of making a difference in the decision made by users • Faithful Representation – information represents the commercial substance of economic transactions and events. Information is complete, neutral and free from error.

9. IAS 16 – Property Plant and Equipment

10. IAS 40 – Investment Properties

11. IAS 17 Leases

12. IAS 36 - Impairments If the carrying value exceeds the recoverable amount then write down to the recoverable amount. Loss recognised in the Income Stmt

13. IAS 37 – Provisions, Contingent Liabilities & Contingent Assets

14. Example of a “knowledge based” question • Define the terms ‘finance lease’ and ‘operating lease’ in accordance with IAS 17 Leases. • Explain how operating leases are accounted for in the financial statements of the lessee • Explain how finance leases are accounted for in the financial statements of the lessee

15. Model Answer – “knowledge based” question • Operating lease – A lease other than a finance lease. Lease where risks and rewards of ownership are not transferred to the lessee. Finance lease – A lease where substantially all of the risks and rewards incidental to ownership of an asset are transferred to the lessee. • Treatment of an operating lease Payments in relation to the lease of the asset are charged to the income statement on a straight line basis. The leased asset is NOT recognised in the statement of financial position. • Treatment of a finance lease The lease will be recognised as an ASSET on the statement of financial position. A LIABILITY will also be recognised for the outstanding lease payment, which is measure at the fair value of the asset or the present value of the minimum lease payments (if lower).

16. Example of a “scenario based” question During the year the board of Morel Ltd decided to close down a division of the company and developed a detailed plan for implementing the decision. Morel Ltd wrote to customers warning them to seek an alternative source of supply. Redundancy notices were sent to the staff of the division. The board has a reliable estimate that the cost of closing the division would be £1,854,000. During the year three people were seriously injured as a result of food poisoning. It was claimed that the food poisoning came from products sold by Morel Ltd. Legal proceedings have started seeking damages from the company of £2,000,000. Lawyers working for Morel Ltd have advised that it is probable that the company will not be found liable. Prepare notes for a meeting with the directors to answer the following questions. (a) What is meant by a ‘provision’, according to IAS 37 Provisions, contingent liabilities and contingent assets? (b) When should a provision be recognised? (c) How should Morel Ltd treat the two matters set out in the data above in its financial statements?

17. Model Answer – “scenario based” question • IAS 37 Provisions, contingent liabilities and contingent assets defines a provision as a liability of uncertain timing or amount. A liability is a present obligation of the entity arising from past events, the settlement of which is expected to result in an outflow of economic benefits. (b) A provision should be recognised when: • An entity has a present obligation as a result of a past event. The obligation can be either legal or constructive; and • It is probable that an outflow of resources embodying economic benefits will be required to settle the obligation; and • A reliable estimate can be made of the amount of the obligation.

18. Model Answer – “scenario based” question (c) Accounting treatment of matters arising during the financial year (i) Closure of a division Morel Ltd has a constructive obligation to carry out the closure because it has communicated the decision to the people who will be affected: its customers and its employees. This communication appears to have taken place before the year end. It is probable that there will be an outflow of resources embodying economic benefits: the company will incur costs as a result of closing the division. A reliable estimate has been made of the costs. Therefore the company should recognise a provision of £1,854,000 at its year end. (ii) Legal proceedings As the company will probably not be liable it is unlikely that there is a present obligation or that there will be an outflow of resources embodying economic benefits. Therefore no provision should be made. However, the company does have a contingent liability (unless the chances of its being found liable for damages are remote). Details of the claim should be disclosed in the notes to the financial statements.

19. Good vs. Poor Answer Prepare brief notes to answer the following points for the directors: (a) State how, according to IAS 36 Impairment of assets, an impairment loss is calculated and which two figures are needed. (b) Explain what is meant by each of these figures. (c) State how an impairment loss is to be treated in the financial statements.

20. Good Answer • IAS36 states that if an assets carrying value exceeds the recoverable amount then the asset is impaired. The difference between the two is the impairment amount • The carrying amount is the value recognised in the SFP after deducting accumulated depreciation and impairment losses. The recoverable amount is the higher of the fair value less costs to sell and the value in use, which is the present value of future cashflows • Impairments are recognised in the income statement unless the asset was previously re-valued upwards in other comprehensive income. In this case the revaluation will be reversed and any excess losses remaining will be recognised in the income statement

21. Poor Answer • The calculation of impairment is the difference between the asset in the statement of financial position and the sale value • NO mention of appropriate terminology, didn’t answer question fully. • The asset is the cost less depreciation, the sale price is what the asset could be sold for • NOT well explained. No use of appropriate terminology • Impairments are written off to the income statement • NOT enough detail

22. Basic Exam Technique • Need to be able to apply knowledge to scenario’s in order to achieve full marks. • Must write in sufficient detail. • No bullet pointing • Cover all “buzz words” in the standard, it will help you write about it