ACA KITS

GREAT ACHIEVERS PROFESSIONAL

TUTORS

INSTITUTE OF CHARTERED ACCOUNTANTS OF

NIGERIA (ICAN)

PROFESSIONAL LEVEL

PAPER C1

CORPORATE REPORTING

COMPILED BY: CHRISTOPHER C. DANIEL (ACA)

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 CORPORATE REPORTING SYLLABUS
PURPOSE
This syllabus extends students’ coverage of generally accepted accounting
practices but also deepens their understanding of reporting and their ability to
apply practices to more complex situations. Assessments will test their ability to
evaluate the acceptability of alternatives from a compliance perspective and an
understanding as to how reporting alternatives affect the results, position and
risks disclosed by entities. Assessments will also include considerations relating
to the use of complex financial instruments. Students may be assessed on their
understanding of earnings management, creative accounting and aggressive
earnings management. Students may also be assessed on their competences in
financial statement analysis and analysis of other reports as a basis for
understanding the position, performance and risks of businesses. Reporting
extends to sustainability and corporate social responsibility reports and
business reviews management commentaries or similar reports.

Content and Competences

A. Current issues in reporting framework

1. The reporting framework and generally accepted practice:

a) Evaluate and apply basic calculations to show how accounting

requirements nationally and internationally affect financial reporting.
b) Explain how local and international standards of reporting are converging.
c) Identify and evaluate the ethical and professional considerations when
undertaking work, giving advice on financial accounting and reporting
including common dilemmas that may be faced based on business and
reporting scenarios.

2. Current issues in corporate reporting:

a) Identify and explain current issues arising in the development of generally

accepted accounting practice at a local and international level.
b) An in-depth critical understanding of all technical pronouncements
currently in issue with particular reference to their application to practical
situations.
c) Explore the development in sustainability and integrated reporting.

B. Formulation of Accounting Policies

1. Selecting, assessing and presenting suitable accounting policies:

a) Draft and advise upon suitable accounting policies based on a business

scenario under local and international requirements for private sector
entities including single and consolidated financial statements.
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 b) Evaluate and advise upon how alternative choices of revenue recognition,
asset and liability recognition and measurement can affect the
understanding of the performance, position and prospects of an entity in
the private sector or when presenting consolidated or single entity
financial statements.

C. Preparation and presentation

1. Preparing and reporting information for financial statements and

notes:

a) Prepare and present extracts from the financial statements of a single

entity undertaking a variety of transactions on the basis of chosen
accounting policies and in accordance with IFRS and local regulations.
b) Identify from a given scenario a subsidiary, associate or joint venture
according to international standards and local regulation.
c) Calculate from given data and information the amounts to be included in
an entity’s consolidated financial statements arising from existing, new or
discontinuing activities or interests (including any part disposal) in
subsidiaries, associates or joint ventures in accordance with IFRS and
local regulations.
d) Prepare and present extracts from the financial statements of an entity
preparing consolidated financial statements undertaking a variety of
transactions on the basis of chosen accounting policies and in accordance
with IFRS and local regulations.
e) Identify and explain the extent of distributable profits of an entity based
on local regulations
f) Identify and explain with examples the additional information that may be
included in annual reports beyond financial statements in accordance
with international best practice and local requirements including
management reports, risk information, governance reports, financial
summaries, key performance indicators and highlights.

D Analysis and Interpretation

1. Interpretation and Evaluation of Financial information and

Disclosures:

a) Explain and communicate to a chosen user the application of IFRS and

local requirements for a private sector entity.
b) Identify and assess the choice of accounting treatments that may be
adopted based on a given scenario explaining how they may affect a users’
understanding of a business.
c) Identify and assess chosen policies and treatments for a given entity or
entities comparing the fairness of presentation and compliance with
international and local practice for a private sector entity.
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2. Financial and Business analysis:

a) Identify and calculate suitable performance, position and prospect

measures using key indicators, financial statement ratios, stock market
ratios, comparisons, trend analyses and other representations of
relationships that support a meaningful financial and business analysis of
a private sector entity.
b) Identify and comment upon limitations of your analysis.
c) Draw conclusions and report on the analysis undertaken from a business
perspective.

Applicable Accounting Standards:

• Preface to IFRS
• Conceptual Framework for Financial Reporting
• IAS 1 Presentation of Financial Statements
• IAS 2 Inventories
• IAS 7 Statement of Cash Flows
• IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors
• IAS 10 Events after the Reporting Period
• IAS 11 Construction Contracts
• IAS 12 Income Taxes
• IAS 16 Property, Plant and Equipment
• IAS 17 Leases
• IAS 18 Revenue
• IAS 19 Employee Benefits
• IAS 20 Accounting for Government Grants and Disclosure of Government
Assistance
• IAS 21: The Effects of Changes in Foreign Exchange Rates
• IAS 23 Borrowing Costs
• IAS 24 Related Party Disclosure
• IAS 26: Accounting and Reporting by Retirement Benefit Plans
• IAS 27 Consolidated and Separate Financial Statements
• IAS 28 Investments in Associates
• IAS 29: Financial Reporting in Hyperinflationary Economies
• IAS 31 Interests in Joint Ventures
• IAS 32 Financial Instruments: Presentation
• IAS 33 Earnings per Share
• IAS 34: Interim Financial Reporting
• IAS 36 Impairment of Assets
• IAS 37 Provisions, Contingent Liabilities and Contingent Assets

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 • IAS 38 Intangible Assets
• IAS 39 Financial Instruments: Recognition and Measurement
• IAS 40 Investment Property
• IAS 41: Agriculture
• IFRS 1: First time adoption of IFRS
• IFRS 2: Share-based payment
• IFRS 3 Business Combinations
• IFRS 4: Insurance contracts
• IFRS 5: Non-current Assets Held for Sale and Discontinued Operations
• IFRS 6: Exploration for and evaluation of mineral resources
• IFRS 7: Financial Instruments: Disclosures
• IFRS 8: Operating Segments.
• IFRS 9: Financial Instruments
• IFRS 10: Consolidated financial statements
• IFRS 11: Joint arrangements
• IFRS 12: Disclosure of interests in other entities
• IFRS 13: Fair value measurement
• IFRS 14: Regulatory deferral accounts
• IFRS 15: Revenue from contracts with customers
• IFRS 16 – Leases
• IFRS 17 – Insurance Contracts
• IFRS for SMEs

New standards may be examined after six months from the date of issue. All applicable
laws may be examined after six months from date of amendment or enactment.

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 CORPORATE REPORTING

What is Corporate Reporting?

Corporate reporting comprises officially promoted and documented

communication from companies; it is intended to provide a comprehensive
picture of their performance and position to interested external parties.
Corporate reporting therefore includes annual reports, financial statements
sustainability, corporate social responsibility and interim reports.

Corporate reports form an important source of information about a business for

its stakeholders. They are important in helping businesses access equity, debt
and trade finance; they can affect a firm’s share price; they can assist with
contracting with customers and suppliers; and help with recruiting and retaining
employees.

There are a number of well-established frameworks for corporate reporting,

which establish the objectives of the reporting and the qualitative characteristics
of good corporate reporting. These include the Conceptual Framework of the
International Financial Reporting Standards (IFRS) Foundation, the Practice
Statement on Management Commentary of the International Accounting
Standards Board (IASB), the International Integrated Reporting Framework and
the principles of good reporting from the Task Force for Climate-related Financial
Disclosures.

A key characteristic of a good corporate report is that the highest levels of

management take clear responsibility (evidenced by specific approval
statements, for example) for its contents. This gives user’s confidence in the
information reported. Independent assurance of corporate reports is a similarly
significant enhancing factor.

Qualitative Factors of a good Corporate Report

1. Relevance and Materiality

2. Completeness
3. Comparability
4. Verifiability
5. Reliability – neutral and free from error
6. Timeliness
7. Understandability

Throughout this examination we use the term ‘corporate reporting’ to refer to

the presentation and disclosure aspects ― as distinct from accounting
/measurement ― of the following areas of reporting:

• Integrated reporting
• Financial reporting

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 • Corporate governance
• Executive remuneration
• Corporate responsibility
• Narrative reporting

Integrated Reporting

Integrated reporting is about connecting information about an organization’s

current decisions with its future prospects; connecting information about
strategy, risk, remuneration and performance; and recognizing that the
economy, environment and society are inseparable and therefore information
provided to understand an organization’s performance in each of these areas
needs to be viewed as part of a whole. Integrated reporting helps boards of
directors to see the issues they face more clearly, and enables them to explain
their business rationale to stakeholders with greater clarity and authority.

Financial Reporting

At the core of the corporate reporting model is the financial reporting model,
consisting of financial statements and accompanying notes that comply with
generally accepted accounting principles (GAAP).

Corporate Governance

This is the processes by which companies are directed and controlled; Levels of
disclosure differ worldwide but might include information on board composition
and development, accountability and audit and relations with shareholders.

Executive Remuneration

This is how executives are rewarded, both in the short and longer-term, for
delivering their company’s strategic objectives

Corporate Responsibility

Corporate responsibility includes the communication about how companies

understand and manage their impact on people, clients, suppliers, society, and
the environment in order to deliver increased value to all their stakeholders.

Narrative Reporting

Narrative reporting is shorthand for the critical contextual and non-financial

information that is reported alongside financial information to provide a
broader, more meaningful understanding of a company's business, its market

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position, strategy, performance and future prospects. It includes quantified
metrics for these areas.

Good corporate reporting is generally an indication of competitiveness and

superior corporate governance. Good reports show initiative and effort on the
part of the preparers. “The better reports always address all the required
relevant information concisely, and disclose thoroughly the measures taken –
including on activities, corporate policy, strategic plans, the company’s
prospects and current initiatives to protect the environment”, (Push Panathan,
2010:15). In recent times the demand for financial disclosure of listed
companies has dramatically increased and the failures of large companies listed
on the most important stock exchanges have placed extra pressure on listed
companies and standard setters for the increase in the quality of corporate
reporting. Significant changes in the corporate external reporting environment
have led to proposals for fundamental changes in corporate reporting practices.
Recent influential reports by major organizations have suggested that a variety
of new information types be reported, in particular forward-looking, non-
financial and soft information. I t c a n n o t b e s t r e s s e d e n o u g h t h a t
companies should be more open if they want to i m p r o v e .

CREATIVE ACCOUNTING AND EARNINGS MANAGEMENT

Creative Accounting

Definition
Creative Accounting: Accounting practices that follow required laws and
regulations, but deviate from what those standards intend to accomplish.
Creative Accounting: The use of aggressive and/or questionable accounting
techniques in order to produce a desired accounting result.

Management may use various forms of creative accounting to manipulate the

view given by the financial statements while complying with all applicable
accounting standards and regulations.
Creative accounting is not necessarily illegal but the practice might cross the
line into fraudulent reporting.

Creative accounting techniques include the following:

• Window dressing: an entity enters into a transaction just before the year
end and reverses the transaction just after the year end. For example,
goods are sold on the understanding that they will be returned
immediately after the year end; this appears to improve profits and
liquidity. The only reason for the transaction is to artificially improve the
view given by the financial statements.

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 • ‘Off balance Sheet’ Finance: Transactions are deliberately arranged so
as to enable an entity to keep significant assets and particularly liabilities
out of the statement of financial position (‘off balance sheet’). This
improves gearing and return on capital employed. Examples include sale
and repurchase agreements and some forms of leasing.
• Changes to Accounting Policies or Accounting Estimates: For example,
an entity can revalue assets (change from the cost model to the revaluation
model) to improve gearing or change the way in which it depreciates assets
to improve profits.
• Capitalizing Expenses: Recognizing ‘assets’ which do not meet the
definition in the IASB Conceptual Framework or the recognition criteria.
Examples include: human resources, advertising expenditure and
internally generated brand names.
• Profit smoothing: Manipulating reported profits by recognizing (usually)
artificial assets or liabilities and releasing them to profit or loss as
required.
• Aggressive earnings management: artificially improving earnings and
profits by recognizing sales revenue before it has been earned.

Earnings management

Earnings management is a type of creative accounting.

Definition
Earnings management: An attempt by management to influence or manipulate
reported earnings by using specific accounting methods or changing the
methods used.
Earnings management techniques include deferring or accelerating expense or
revenue transactions, or using other methods designed to influence short-term
earnings.
Aggressive earnings management results in stakeholders being misled to some
extent about an entity's performance and profitability. At the extreme, aggressive
earnings management can involve acts that may constitute a criminal offence.

Commercial pressures
The strength of a regulatory framework may be undermined by commercial
pressures on those responsible for preparing financial statements.

Examples of these commercial pressures are:

- Adverse market reactions to the share price of a listed entity when results
fail to meet the market's expectations (which directors and management
may have encouraged), whether or not the expectations were reasonable;
- Directors and management's incomes being highly geared to results
and/or heavily supplemented by stock options;

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 - The importance of meeting targets to ensure protection of the jobs of
directors, management and other employees:
- The desire to understate profits to reduce taxation liabilities;
- Legal and regulatory requirements to meet specific financial thresholds or
ratios; and
- The need to ensure compliance with loan covenants or to pacify bankers.

IAS 1 PRESENTATION OF FINANCIAL STATEMENTS

OBJECTIVES AND SCOPE

Prescribe the basis of presentation of general purpose financial statements to
ensure comparability
✓ With the entity’s financial statements of previous periods
✓ With the financial statements of other entities

It also prescribes
✓ Overall requirements for presentation of financial statements
✓ The guidelines for their structure, and
✓ The minimum requirements for their content

Applies to:
✓ General purpose financial statements prepared and presented in
accordance with International Financial Reporting Standards (IFRSs)
✓ Consolidated and separate financial statements as defined in IAS 27

It does not apply to

✓ The structure and content of condensed interim financial statements
prepared in accordance with IAS 34

DEFINITIONS
- General purpose financial statements are those intended to meet the
needs of users who are not in a position to require an entity to prepare
reports tailored to their particular information needs

- Profit or loss: Is the total of income less expense, excluding the

components of other comprehensive income.
- Other comprehensive income: Comprises items of income and expense
(including reclassification adjustments) that are not recognized in profit or
loss as required or permitted by other IFRSs.
- Total comprehensive income

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 The change in equity during a period resulting from transactions and other
events, other than those changes resulting from transactions with owners
in their capacity as owners; Comprising:
✓ All components of profit or loss
✓ All components of other comprehensive income

- IFRSs are Standards and Interpretations issued by the IASB comprising

IFRSs/ IASs, IFRIC and former SIC
- Owners are holders of instruments classified as equity
- Reclassification adjustments: Are amounts reclassified to profit or loss
in the current period that was recognized in other comprehensive income
in the current or previous periods.
- Impracticable Applying a requirement is impracticable when the entity
cannot apply it after making every reasonable effort to do so.
- Material omissions or misstatements of items are material if they could,
individually or collectively, influence the economic decisions that users
make on the basis of the financial statements

PURPOSE OF FINANCIAL STATEMENT

❖ To provide information about the financial position, financial performance
and cash flows of an entity that is useful to a wide range of users in making
economic decisions
❖ To show the results of the management’s stewardship of the resources
entrusted to it
❖ To provide information about an entity’s:
❖ Assets
❖ Liabilities
❖ Equity
❖ Income and expenses, including gains and losses
❖ Contributions by and distributions to owners in their capacity
as owners
❖ Cash flows.

COMPLETE SET OF FINANCIAL STATEMENT

- A statement of financial position
- A statement of comprehensive income for the period
- A statement of changes in equity for the period
- A statement of cash flows for the period
- Notes-Comprising a summary of significant accounting policies and other
explanatory information; and
- A statement of financial position as at the beginning of the earliest
comparative period when an entity applies an accounting policy
retrospectively or makes a retrospective restatement of items in its
financial statements
- An entity may use titles for the statements other than those used as listed
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 - An entity shall present with equal prominence all of the financial
statements in a complete set of financial statements
- Financial Review by management, Environmental reports and value added
statements are outside the scope of IFRSs and are therefore not required.

GENERAL FEATURES
IFRS Financial Statements should:
▪ Be fairly presented
▪ Explicitly and unreservedly state compliance with IFRS in the notes
▪ Use going concern basis unless management intends to liquidate or cease
trading
▪ Use accrual basis of accounting except for cash flow information
▪ Classify and present items consistently except when:
❖ A significant change in the nature of the entity’s operations or
a review of its financial statements, that another presentation
or classification would be more appropriate
❖ An IFRS requires a change in presentation
▪ Fair presentation requires the faithful representation of the effects of
transactions, other events and conditions in accordance with the
definitions and recognition criteria for assets, liabilities, income and
expenses set out in the Framework
▪ An entity achieves a fair presentation by compliance with applicable IFRSs.
▪ Frequency of reporting
❖ An entity shall present a complete set of financial statements
at least annually
▪ When an entity changes the end of its reporting period and presents
financial statements for a period longer or shorter than one year, an entity
shall disclose:
❖ The reason for using a longer or shorter period
❖ The fact that amounts presented in the financial statements
are not entirely comparable
▪ Comparative information
❖ Except when IFRSs permit or require otherwise, an entity
shall disclose comparative information in respect of the
previous period for all amounts reported in the current
period’s financial statements
❖ Include comparative information for narrative and descriptive
information when it is relevant to an understanding of the
current period’s financial statements
▪ An entity disclosing comparative information shall present as a minimum:
❖ Two statements of financial position
❖ Two of each of the other statements
❖ Related notes
▪ When retrospective adjustment is made present as a minimum
❖ Three statements of financial position
❖ Two of each of the other statements
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 ❖ Related notes
▪ When the entity changes the presentation or classification of items in its
financial statements:
❖ Reclassify comparative amounts unless reclassification is
impracticable
❖ Disclose the nature, amount and reason for reclassification
❖ If impracticable to reclassify disclose:
• The reason for not reclassifying the amounts
• The nature of the adjustments that would have been
made if the amounts had been reclassified:

STRUCTURE AND CONTENT

❖ Identification of the financial statements
An entity shall:
▪ Clearly identify the financial statements
▪ Distinguish them from other information in the same published
document
▪ Prominently display the following:
▪ The name of the reporting entity
▪ Whether the financial statements are of an individual entity or a
group of entities
▪ The date of the end of the reporting period
▪ The presentation currency
▪ The level of rounding used in presenting amounts

STATEMENT OF FINANCIAL POSITION

➢ Minimum line items:
❖ Property, plant and equipment
❖ Investment property
❖ Intangible assets
❖ Financial assets
❖ Investments accounted for using the equity method
❖ Biological assets
❖ Inventories
❖ Trade and other receivables
❖ Cash and cash equivalents
❖ Non-current asset held for sale and disposal groups
❖ Trade and other payables
❖ Provisions
❖ Financial liabilities
❖ Liabilities and current tax assets
❖ Deferred tax liabilities and deferred tax assets
❖ Liabilities included in disposal groups classified as held for sale
❖ Non-controlling interests, presented within equity
❖ Issued capital and reserves attributable to owners of the parent
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 ➢ Current/non-current distinction:
Present assets and liabilities separately as current and non-current
except:
❖ When a presentation based on liquidity provides information
that is reliable and more relevant
❖ When that exception applies, present all assets and liabilities
in order of liquidity
➢ Disclose the amount expected to be recovered or settled:
❖ No more than 12 months after the reporting period
❖ More than 12 months after the reporting period

CURRENT ASSETS AND LIABILITIES

➢ Classify an asset as current when:
❖ Expected to realize the asset, or intends to sell or consume it, in
the normal operating cycle
❖ Held primarily for the purpose of trading
❖ Expected to realize the asset within 12 months after the reporting
period
❖ The asset is cash or a cash equivalent unless it is restricted from
being exchanged or used to settle a liability for at least 12 months
after the reporting period
➢ Classify a liability as current
❖ Expected to settle the liability in its normal operating cycle
❖ Held primarily for the purpose of trading
❖ The liability is due to be settled within 12 months after the
reporting period
❖ It does not have an unconditional right to defer settlement of
the liability for at least 12 months after the reporting period
➢ Current liabilities such as trade payables, some accruals for employee and
other operating costs forming part of working capital are classified as
current liabilities even if they are due to be settled more than 12 months
after the reporting period
All other assets and liabilities should be classified as non-current

Disclosure either in Statement of Financial Position or Statement of Changes in

Equity or Notes
➢ For each class of share capital:
❖ The number of shares authorized
❖ The number of shares issued and fully paid, and issued but not fully
paid
❖ Par value per share, or that the shares have no par value
❖ A reconciliation of the number of shares outstanding at the
beginning and at the end of the period

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 ❖ The rights, preferences and restrictions attaching to that class
including restrictions on the distribution of dividends and the
repayment of capital
❖ Shares in the entity held by the entity or by its subsidiaries or
associates
❖ Shares reserved for issue under options and contracts for the sale
of shares, including terms and amounts
❖ A description of the nature and purpose of each reserve within equity
➢ An entity without share capital, such as a partnership or trust, shall
disclose equivalent information

Statement of Comprehensive Income

(Minimum Line Items)
▪ Revenue
▪ Gains and losses on de-recognition of financial assets measured at
amortized cost
▪ Finance costs
▪ Share of profit or loss associates and joint ventures.
▪ Gains and losses on reclassification of financial asset now measured on
fair value basis.
▪ Tax expense
▪ A single amount comprising the total of:
▪ the post-tax profit or loss of discontinued operations and
▪ the post-tax gain or loss recognized on the measurement to fair
value less costs to sell or on the disposal of the assets or disposal
group(s) constituting the discontinued operation;
▪ Profit or loss

Statement of Comprehensive Income

▪ Each component of other comprehensive income classified by nature
▪ Share of the other comprehensive income of associates and joint ventures.
▪ Total comprehensive income
Disclose:
▪ Profit or loss for the period attributable to:
❖ Non-controlling interests
❖ Owners of the parent
▪ Total comprehensive income for the period attributable to:
❖ Non-controlling interests
❖ Owners of the parent
▪ The statement can be presented as either a single statement or two
statements:
❖ Income Statement
❖ Statement of Other Comprehensive Income
▪ Do not present any items of income or expenseas extraordinary items, in
the SOCI or the separate income statement (if presented), or in the notes

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 ▪ The components of other comprehensive income include:
❖ Revaluation surplus arising from revaluation of PPE;
❖ Actuarial gains and losses on defined benefit plans;
❖ Gains and losses arising from translating the financial
statements of a foreign operation;
❖ Gains and losses from investments in equity instruments
measured at fair value through other comprehensive income;
❖ The effective portion of gains and losses on hedging instruments
in a cash flow hedge
❖ Revaluation of available for sale financial assets
❖ Net investment hedge gains or losses

Nature of Expenses Method

Revenue xxx
Other income xx
Changes in Inventories of finished goods & WIP xx
Raw Material consumables used xx
Employee benefits expenses xx
Depreciation & Amortisation expenses xx
Other expenses xx
Total expenses (xx)
Profit before tax xxx

Function of Expenses Method

Revenue xxx
Cost of sales (xxx)
Gross profit xx
Other income xx
Distribution cost (xx)
Administration expenses (xx)
Finance cost (xx)
Other expenses (xx)
Profit before tax xxx

Statement of Changes in Equity

Present a SOCE showing in the statement:
❖ Total comprehensive income for the period, showing separately the
total amounts attributable to owners of the parent and to non-
controlling interests
❖ The effects of retrospective application or retrospective restatement
on each component of equity
❖ A reconciliation between the carrying amount of each component of
equity at the beginning and end of the period, separately disclosing
changes resulting from:
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 ◼ profit or loss
◼ each item of other comprehensive income
◼ transactions with owners in their capacity as owners
Notes to the Account

Objective
The objective of notes to the financial statement is to:
❖ Present information about the basis of preparation of the financial
statements and the specific accounting policies used.
❖ Disclose the information required by IFRSs that is not presented
elsewhere in the financial statements; and
❖ Provide information that is not presented elsewhere in the financial
statements, but is relevant to an understanding of any of them.
Structure
An entity shall, as far as practicable, present notes in a systematic manner in
the following order:
❖ Statement of compliance with IFRSs
❖ Summary of significant accounting policies applied
❖ Supporting information for each line items as they appear in the
financial statements in the order in which the statements are
presented; and
❖ Other disclosures such as contingent liabilities, unrecognised
contractual commitments, and non-financial disclosures, e.g. the
entity’s financial risk management objectives and policies

Disclosure of Accounting Policies

An entity shall disclose in the summary of significant accounting policies:
❖ the measurement basis (or bases) used in preparing the financial
statements, and
❖ the other accounting policies used that are relevant to an
understanding of the financial statements

Sources of Estimation Uncertainty

▪ Management is also expected to disclose those judgements it made in the
process of applying the accounting policies that have the most significant
effect on the amounts recognised in the financial statements
▪ An entity should disclose information about the assumptions it makes
about the future, and other major sources of estimation uncertainty at the
end of the reporting period, that have a significant risk of resulting in a
material adjustment to the carrying amounts of assets and liabilities
within the next financial year. In respect of those assets and liabilities, the
notes shall include details of:
❖ their nature, and
❖ their carrying amount as at the end of the reporting period.
.
Capital Disclosures
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The following information which enables users of an entity's financial statements
to evaluate its objectives, policies and processes for managing capital should be
disclosed
▪ Qualitative information about its objectives, policies and processes for
managing capital, including:
❑ a description of what it manages as capital;
❑ when it is subject to externally imposed capital requirements, the
nature and how those requirements are incorporated into the
management of capital; and
❑ how it is meeting its objectives for managing capital.
▪ Summary quantitative data about what it manages as capital.
▪ Any changes in the above from the previous period.
▪ Whether it complied with any externally imposed capital requirements
during the period.

The consequences of not complying with any externally imposed capital

requirements to which it is subjected to.

Reportable financial instrument classified as equity

▪ Summary quantitative data about the amount classified as equity;
▪ Its objectives, policies and processes for managing its obligation to
repurchase or redeem the instruments when required to do so by the
instrument holders.
▪ The expected cash outflow on redemption or repurchase of that class of
financial instruments; and
▪ Information about how the expected cash outflow on redemption or
repurchase was determined

Presentation
XYZ GROUP – STATEMENT OF COMPREHENSIVE INCOME FOR THE YEAR
ENDED 31 DECEMBER 20X2 (Illustrating the classification of expenses by
function)
20X2 20X1
Continuing Operations

Revenue xxx xxx

Cost of Sales (xxx) (xxx)
Gross Profit xxx xxx
Other income xx xx
Distribution costs (xxx) (xxx)
Administrative expenses (xxx) (xxx)
Other Expenses (xxx) (xxx)
Finance costs (xxx) (xxx)
Share of profit of Associates xxx xxx
Profit before tax xxx xxx
Income tax expense (xx) (xx)
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Profit for the period from continuing operations xxx xxx
Discontinued Operations
Profit for the period from discontinued operations (a) xxx xxx
Profit for the period xxx xxx

Attributable to:
Owners of the parent:
Profit for the period from continuing operations xxx xxx
Profit for the period from discontinued operations xxx xxx
Profit for the period attributable to owners of the parent xxx xxx

Non-controlling Interests:
Profit for the period from continuing operations xxx xxx
Profit for the period from discontinued operations xxx xxx
Profit for the period attributable to NCI xxx xxx
Xxx xxx

DISCLOSURE REQUIREMENTS
I. A description of the asset held for sale
II. A description of the facts and circumstances of the sale
III. Any impairment losses or reversals recognized
IV. Methods of estimating fair values and factors considered
V. The net cash flows attributable to the activities of a discontinued
operation.
VI. The related tax attributable to the discontinued operation.

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IAS 16 - PROPERTY PLANT AND EQUIPMENT (PPE)

SCOPE OF THE STANDARD

This Standard does not apply to:

a) Property, Plant and Equipment classified as held for sale in accordance

with IFRS 5 Non-Current Assets Held for Sale and Discontinued Operations;
b) Biological Assets related to Agricultural activity (IAS 41 Agriculture);
c) The recognition and measurement of exploration and evaluation of mineral
resources (IFRS 6 Exploration for and Evaluation of Mineral Resources) d)
Mineral rights and mineral reserves such as oil, natural gas and similar
non-regenerative resources.

The main issues are:

• Recognition and measurement of the assets,
• Determining their carrying amounts, and
• Associated depreciation charges.

DEFINITION

◼ Property, plant and equipment are tangible items that:

❑ Are held for use in the production or supply of goods or services, for
rental to others, or for administrative purposes
❑ Are expected to be used during more than one period
◼ Depreciable amount is the cost of an asset, or other amount substituted
for cost, less its residual value
◼ Depreciation is the systematic allocation of the depreciable amount of an
asset over its useful life.
◼ Carrying amount is the amount at which an asset is recognized after
deducting any accumulated depreciation and accumulated impairment
losses
◼ The residual value of an asset is the estimated amount that an entity
would currently obtain from disposal of the asset, after deducting the
estimated costs of disposal, if the asset were already of the age and in the
condition expected at the end of its useful life
◼ Useful Life is:
i. The period over which an asset is expected to be available for use by
an entity; or
ii. The number of production or similar units expected to be obtained
from the asset by an entity.

◼ Cost is the amount of cash or cash equivalents paid or the fair value of
the other consideration given to acquire an asset at the time of its
acquisition or construction or, where applicable, the amount attributed to

20 | P a g e
 that asset when initially recognized in accordance with the specific
requirements of other IFRSs, e.g. IFRS 2 Share-based Payment.
◼ Entity-specific Value is the present value of the cash flows an entity
expects to arise from the continuing use of an asset and from its disposal
at the end of its useful life or expects to incur when settling a liability.
◼ Fair Value is the price that would be received to sell an asset or paid to
transfer a liability in an orderly transaction between market participants
at the measurement date (IFRS 13 Fair Value Measurement.)

RECOGNITION

Initial Cost
The cost of an item of property, plant and equipment shall be recognized as an
asset if, and only if:
i. It is probable that future economic benefits associated with the item
will flow to the entity; and
ii. The cost of the item can be measured reliably.

An entity evaluates under this recognition principle all its property, plant and
equipment costs at the time they are incurred. These costs include costs incurred
initially to acquire or construct an item of property, plant and equipment and
costs incurred subsequently to add to, replace part of, or service it.

MEASUREMENT AT RECOGNITION
◼ An item of PPE that qualifies for recognition as an asset shall be measured
at its cost
Elements of cost
◼ Purchase price, including import duties and non-refundable purchase
taxes, after deducting trade discounts and rebates
◼ Any costs directly attributable to bringing the asset to the location and
condition necessary for it to be capable of operating in the manner
intended by management e.g.
❑ Costs of employee benefits
❑ Costs of site preparation
❑ Initial delivery and handling costs
❑ Installation and assembly costs
❑ Costs of testing whether the asset is functioning properly
❑ Professional fees
◼ The initial estimate of the costs of dismantling and removing the item and
restoring the site on which it is located
Costs excluded from PPE
❑ Costs of opening a new facility
❑ Costs of introducing a new product or service (including costs of
advertising and promotional activities)

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 ❑ Costs of conducting business in a new location or with a new class
of customer (including costs of staff training)
❑ Administration and other general overhead costs
◼ Costs recognition in an item of PPE ceases when the item is in the location
and condition necessary for it to be capable of operating in the manner
intended by management
◼ Measurement of Cost
◼ The cost of an item of PPE is the cash price equivalent at the recognition
date
◼ If payment is deferred beyond normal credit terms, the difference
between the cash price equivalent and the total payment is recognized as
interest over the period of credit unless such interest is capitalized in
accordance with IAS 23

SUBSEQUENT COST
◼ Subsequent expenditure on PPE is capitalized when it meets the
recognition criteria i.e.
❑ It is probable that future economic benefits relating to the item of
PPE will flow to the entity
❑ Cost of the item can be measured reliably
❑ Costs of the day-to-day servicing of items of PPE are expensed
◼ Parts of some items of PPE may require replacement at regular intervals
❑ The cost of replacing such parts may be capitalized if the recognition
criteria are met
❑ The carrying amount of those parts that are replaced is derecognized

EXCHANGE OF ASSET
PPE may be acquired in exchange for a non-monetary asset or assets, or a
combination of monetary and non-monetary assets

The cost of such an item of PPE is measured at fair value unless

✓ The exchange transaction lacks commercial substance or
✓ The fair value of neither the asset received nor the asset given up is reliably
measurable
✓ The acquired item is measured in this way even if an entity cannot
immediately derecognize the asset given up

If the acquired item is not measured at fair value, its cost is measured at the
carrying amount of the asset given up

MEASUREMENT AFTER INITIAL RECOGNITION

IAS 16 recognizes two models that can be adopted to measure an item of PPE
after initial recognition and measurement

Cost model
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Under this model, PPE is carried at its cost less any accumulated depreciation
and any accumulated impairment losses

Revaluation model
Under this model PPE is carried at a revalued amount, being its fair value at the
date of the revaluation less any subsequent accumulated depreciation and
subsequent accumulated impairment losses

Revaluations shall be made with sufficient regularity to ensure that the carrying
amount does not differ materially from that which would be determined using
fair value at the end of the reporting period

If an item of property, plant and equipment is revalued, the entire class of

property, plant and equipment to which that asset belongs shall be revalued

FAIR VALUE
The fair value of land and buildings is usually determined from market-based
evidence by appraisal that is normally undertaken by professionally qualified
valuers

The fair value of items of plant and equipment is usually their market value
determined by appraisal.

If there is no market-based evidence of fair, an entity may need to estimate fair

value using:
- an income or a depreciated replacement cost approach.
- Frequency of revaluations annually for items of PPE with significant
volatility in fair value
- Three or five years for items of PPE with insignificant changes in fair value

Revaluation increase should be recognised in other comprehensive income and

accumulated in equity under the heading of revaluation surplus. However, it
should be recognised in profit or loss to the extent that it reverses a revaluation
decrease of the same asset previously recognised in profit or loss.

REVALUATION INCREASE OR DECREASE

A revaluation decrease is recognized as expense in profit or loss except where it
offsets a previous increase taken as a revaluation surplus in owner’s equity.

Any decrease greater than the previous increase is taken to profit or loss as
expense

Steps to Account for a Revaluation:

1) Restate asset costs to the revalued amount
2) Remove any existing accumulated depreciation provision

23 | P a g e
 3) Transfer the increase in the cost account and the existing depreciation
provision to the revaluation reserve.
4) Recalculate current year’s depreciation on the revalued amount if
applicable.

Accounting Entries

Increase in carrying amount:

Dr Asset Cost (revalued amount – original cost)
Dr Accumulated depreciation (depreciation up to the revaluation date)
Cr Revaluation reserve (revalued amount – previous carrying value)

Decrease in carrying amount:

Dr Revaluation reserve
Dr Expense
Cr Asset

Therefore to conclude if an asset increases in value we will increase the asset

account (Dr) to the revalued amount and increase the revaluation reserve (Cr).
This revaluation reserve will appear in the equity section of the statement of
financial position.
If an asset decreases in value we will reduce the asset account (Cr) to the
revalued amount and decrease the revaluation reserve (Dr) up to the maximum
we have previously revalued for that particular asset. Any excess amount must
be charged to the statement of profit or loss as an expenses for the year.

DEPRECIATION AND COMPONETISATION

Each part of an item of PPE with a cost that is significant in relation to the total
cost of the item shall be depreciated separately (i.e. componentize)
❑ Allocate the amount initially recognized to its significant parts and
depreciate each such part separately
The depreciation charge for each period shall be recognized in profit or loss
unless it is included in the carrying amount of another asset
The depreciable amount of an asset shall be allocated on a systematic basis over
its useful life
The residual value and useful life of PPE shall be reviewed at each financial year-
end and any change(s) accounted for as a change in an accounting estimate
Depreciation is recognized even if the fair value of the asset exceeds its carrying
amount
A variety of depreciation methods used to allocate the depreciable amount of an
asset on a systematic basis over its useful life include the straight-line method,
the diminishing balance method and the units of production method
Depreciation method used should reflect the pattern in which the asset’s future
economic benefits are expected to be consumed by the entity
DEPRECIATION

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The depreciation method applied to an asset shall be reviewed at least at each
financial year-end, with changes accounted for as a change in an accounting
estimate in accordance with IAS 8

The future economic benefits embodied in an asset are consumed by an entity

principally through its use. However, other factors, such as technical or
commercial obsolescence and wear and tear while an asset remains idle, often
result in the diminution of the economic benefits that might have been obtained
from the asset. As such the following are taking into consideration when
determining the useful life of PPE
▪ Expected usage of the asset
▪ Expected physical wear and tear
▪ Technical or commercial obsolescence
▪ Legal or similar limits on the use of the asset
Land and buildings are separable assets and are accounted for separately, even
when they are acquired together

IMPAIRMENT AND DERECOGNITION

Impairment
To determine whether an item of property, plant and equipment is impaired, an
entity applies IAS 36 Impairment of Assets. That Standard explains how an entity
reviews the carrying amount of its assets, how it determines the recoverable
amount of an asset, and when it recognises, or reverses the recognition of, an
impairment loss

De-recognition
Derecognize items of PPE on disposal; or when no future economic benefits are
expected from its use or disposal and include gains or losses in profit or loss
when the items are derecognized.

Gains shall not be classified as revenue; however, an entity that routinely sells
items of PPE that it has held for rental to others shall transfer such assets to
inventories at their carrying amount when they cease to be rented and become
held for sale.
Proceeds from the sale of such assets shall be recognized as revenue.

The gain or loss arising from shall be determined as the difference between the
net disposal proceeds, if any, and the carrying amount of the item

DISCLOSURE
For each class of PPE:
- The measurement bases used for determining the gross carrying amount
- The depreciation methods used
- The useful lives or the depreciation rates used

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 - The gross carrying amount and the accumulated depreciation (aggregated
with accumulated impairment losses) at the beginning and end of the
period; and
- A reconciliation of the carrying amount at the beginning and end of the
period showing:
✓ Additions
✓ Assets classified as held for sale or included in a disposal
group and other disposals
✓ Acquisitions through business combinations increases or
decreases resulting from revaluations and from impairment
losses recognized or reversed in other comprehensive income
in accordance with IAS 36
- If it is not disclosed separately in the statement of comprehensive income,
the amount of compensation from third parties for items of property, plant
and equipment that were impaired, lost or given up that is included in
profit or loss
- Depreciation, whether recognized in profit or loss or as a part of the cost
of other assets, during a period; and
- Accumulated depreciation at the end of the period
- Nature and effect of a change in an accounting estimate
✓ Residual values
✓ The estimated costs of dismantling, removing or restoring
items of PPE
✓ Useful lives
✓ Depreciation methods

If items of PPE are stated at revalued amounts disclose:

- The effective date of the revaluation
- Whether an independent valuer was involved
- The methods and significant assumptions applied in estimating the items’
fair values
- The extent to which the items’ fair values were determined directly by
reference to observable prices in an active market or recent market
transactions on arm’s length terms or were estimated using other
valuation techniques
- For each revalued class of property, plant and equipment, the carrying
amount that would have been recognized had the assets been carried
under the cost model
- The revaluation surplus, indicating the change for the period and any
restrictions on the distribution of the balance to shareholders

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IAS 40 - INVESTMENT PROPERTY
This Standard shall be applied in the recognition, measurement and disclosure
of investment property. Among other things, this standard applies to the
measurement in a lessee’s financial statements of investment property interests
held under lease accounted for as a finance lease and to the measurement in a
lessor’s financial statements of investment property provided to a lessee under
an operating lease.

An investment property is a property, basically land and building, held to earn

rentals or for capital appreciation or both. An entity may own land or a building
as an investment rather than for use in the business. It may therefore generate
cash flows largely independently of other assets which the entity holds. The
treatment of investment property is covered by IAS 40.

KEY TERMS
1. Investment Property: Is property (land or a building or part of a building
or both) held (by the owner or by the lessee under a finance lease) to earn rentals
or for capital appreciation or both, rather than for:
a. Use in the production or supply of goods or services or for administrative
purposes, or
b. Sale in the ordinary course of business.
2. Owner-Occupied Property: Is property held by the owner (or by the lessee
under a finance lease) for use in the production or supply of goods or services or
for administrative purposes.
3. Fair Value: Is the price that would be received to sell an asset or paid to
transfer a liability in an orderly transaction between market participants at the
measurement date.
4. Cost: Is the amount of cash or cash equivalents paid or the fair value of
other consideration given to acquire an asset at the time of its acquisition or
construction.
5. Carrying Amount: Is the amount at which an asset is recognized in the
statement of financial position.

Examples of Investment Property

i. Land held for long term capital appreciation
ii. Land held for undecided future use
iii. Building leased out under an operating lease
iv. Vacant building held to be leased out under an operating lease.

Examples of Non-investment Property

i. Property held for use in the production of goods and services
ii. Property held for sale in the normal course of business
iii. Property being constructed on behalf of another party e.g. construction
contracts.

27 | P a g e
 iv. Owner occupied property. A property is regarded as owner occupied if
more than 15% of the lettable space of the property is occupied by the
owner.
v. Uncompleted property under construction
vi. Property leased to another party under a finance lease arrangement.

A property interest that is held by a lessee under an operating lease may be

classified and accounted for as investment property if, and only if, the property
would otherwise meet the definition of an investment property and the lessee
uses the fair value method for the asset recognised.

Recognition
Investment property should be recognized as an asset when two conditions are
met.
a. It is probable that the future economic benefits that are associated with
the investment property will flow to the entity.
b. The cost of the investment property can be measured reliably.

An entity evaluates under this recognition principle all its investment property
costs at the time they are incurred. These costs include costs incurred initially
to acquire an investment property and costs incurred subsequently to add to,
replace part of, or service a property.

Initial Measurement
An investment property should be measured initially at its cost, including
transaction costs. The cost of a purchased investment property comprises its
purchase price and any directly attributable expenditure. Directly attributable
expenditure includes, for example, professional fees for legal services, property
transfer taxes and other transaction costs.

The cost of an investment property is not increased by:

- Start-up costs (unless they are necessary to bring the property to the
condition necessary for it to be capable of operating in the manner
intended by management).
- Operating losses incurred before the investment property achieves the
planned level of occupancy, or
- Abnormal amounts of wasted material, labour or other resources incurred
in constructing or developing the property.

If payment for an investment property is deferred, its cost is the cash price
equivalent. The difference between this amount and the total payments is
recognised as interest expense over the period of credit.

A property interest held under a lease and classified as an investment property

shall be accounted for as if it were a finance lease. The asset is recognized at the

28 | P a g e
lower of the fair value of the property and the present value of the minimum lease
payments. An equivalent amount is recognized as a liability.

Measurement Subsequent to Initial Recognition

IAS 40 requires an entity to choose between two models:
• The Fair value Model
• The cost Model

Fair Value Model

- After initial recognition, an entity that chooses the fair value model shall
measure all its investment property at fair value.
- When a property interest held by a lessee under an operating lease is
classified as an investment property, the fair value model shall be applied.
- A gain or loss arising from a change in the fair value of investment property
shall be recognized in profit or loss for the period in which it arises.

Cost Model
After initial recognition, an entity that chooses the cost model shall measure all
of its investment properties in accordance with IAS 16’s requirements for that
model, other than those that meet the criteria to be classified as held for sale
(or are included in a disposal group that is classified as held for sale) in
accordance with IFRS 5 Non-current Assets Held for Sale and Discontinued
Operations. Investment properties that meet the criteria to be classified as held
for sale (or are included in a disposal group that is classified as held for sale)
shall be measured in accordance with IFRS 5.

Transfers
Transfers to, or from, investment property shall be made when, and only when,
there is a change in use, evidenced by:
- Commencement of owner-occupation, for a transfer from investment
property to owner-occupied property;
- Commencement of development with a view to sale, for a transfer from
investment to inventories;
- End of owner-occupied, for a transfer from owner-occupied property to
investment property; or
- Commencement of an operating lease to another party, for a transfer from
inventories to investment property.

Whatever policy it chooses should be applied to all of its investment property.

Where an entity chooses to classify a property held under an operating lease as
an operating lease as an investment property, there is no choice. The fair value
model must be used for all the entity’s investment property, regardless of
whether it is owned or leased.

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Disposals
Derecognize (eliminate from the statement of Financial Position) an investment
property on disposal or when it is permanently withdrawn from use and no
future economic benefits are expected from its disposal.
Any gain or loss on disposal is the difference between the net disposal proceeds
and the carrying amount of the asset. It should generally be recognized as income
or expense in the profit or loss.

Compensation from third parties for investment property that was impaired, lost
or given up shall be recognized in profit or loss when the compensation becomes
receivable.

Disclosure Requirements
i. The valuation model used
ii. Whether property interests held as operating leases are included in
investment property
iii. Criteria for classification as investment property
iv. Assumptions in determining fair value
v. Use of independent professional valuer (encouraged but not required)
vi. Rental income expenses
vii. The use of professional valuers
viii. Any restrictions or obligations

IAS 36 - IMPAIRMENT OF ASSETS

The objective of this standard is to prescribe the procedures that an entity

applies to ensure that its assets are carried at no more than their recoverable
amount. An asset is carried at more than its recoverable amount exceeds the
amount to be recovered through use or sale of the asset. If this is the case, the
asset is described as impaired and the standard requires the entity to recognize
an impairment loss. The standard also specifies when an entity should reverse
an impairment loss and prescribe disclosures.

This standard applies to financial assets classified as:

- Subsidiaries, as defined in IFRS 10 Consolidated Financial Statement
- Associates, as defined in IAS 28 Investments in Associates and Joint
Ventures; and
- Joint ventures, as defined in IFRS 11 Joint arrangements.

For impairment of other Financial Assets, refer to IAS 39.

DEFINITIONS
- Carrying Amount: This is the amount at which an asset is recognized
after deducting any accumulated depreciation (amortization) and
accumulated impairment losses thereon.
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 - A Cash-Generating Unit (CGU): This is the smallest identifiable group of
assets that generates cash flows that are largely independent of the cash
inflows from other assets or groups of assets.
- Corporate Assets: Theses are assets other than goodwill that contribute
to the future cash flows of both the cash-generating unit under review and
other cash-generating units.
- Costs of Disposal: These are incremental costs directly attributable to the
disposal of an asset or cash-generating unit, excluding finance costs and
income tax expense.
- Depreciable Amount: This is the cost of an asset, or other amount
substituted for cost in the financial statements, less its residual value.
- Depreciation (Amortization): This is the systematic allocation of the
depreciable amount of an asset over its useful life.
- Fair Value: This is the price that would be received to sell an asset or paid
to transfer a liability in an orderly transaction between market participants
at the measurement date. (IFRS 13 Fair Value Measurement)
- An Impairment Loss: This is the amount by which the carrying amount
of an asset or a cash-generating unit exceeds its recoverable amount.
- The recoverable Amount of an Asset or Cash-Generating Unit: This is
the higher of its fair value less costs of disposal and its value in use.
- Useful Life is either:
i. The period of time over which an asset is expected to be used by the
entity; or
ii. The number of production or similar units expected to be obtained
from the asset by the entity.
- Value in Use: This is the present value of the future cash flows expected
to be derived from an asset or cash-generating unit.

Impairment refers to the reduction in the value of an asset below its recoverable
amount due to reasons other than passage of time or usage of asset. Impairment
is the difference between the carrying value of an asset and its recoverable
amount.

Recoverable amount is the higher of:

a) Fair value less selling cost (Net Realizable Value) and
b) Value in use.

- Fair value less selling cost could be current market price less disposal cost
or could be a value agreed in binding sale agreement. Costs of disposal,
other than those that have been recognized as liabilities, are deducted in
measuring fair value less costs of disposal. Examples of such costs are
legal costs, stamp duty and similar transaction taxes, costs of removing
the asset, and direct incremental costs to bring an asset into condition for
its sale. However, termination benefits (as defined in IAS 19) and costs
associated with reducing or reorganizing a business following the disposal
of an asset are not direct incremental costs to dispose of the asset.
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 - Value in use is the present value of all future cash flows to be derived from
the use of the asset and its disposal discounted at the appropriate rate.

Note:
IAS 36 does not cover:
a. Inventory – IAS 2
b. Construction Contract – IAS 11
c. Deferred Tax Assets – IAS 12
d. Assets Arising from Employment Benefits – IAS 19
e. Financial Assets – IAS 32
f. Investment Property – IAS 40
g. Non-current Asset held for sale – IFRS 5

IDENTIFYING AN ASSET THAT MAY BE IMPAIRED

An entity shall assess at the end of each reporting period whether there is any
indication that an asset may be impaired. If any such indication exists, the entity
shall estimate the recoverable amount of the asset. Irrespective of whether there
is any indication of impairment, an entity shall also:

a) Test an intangible asset with an indefinite useful life or an intangible asset

not yet available for use for impairment annually by comparing its carrying
amount with its recoverable amount. This impairment test may be
performed at any time during an annual period, provided it is performed
at the same time every year.
b) Test goodwill acquired in a business combination for impairment annually.

Indications of Impairment
1. Damage
2. Obsolescence
3. Adverse change or expectation of adverse change in the way an asset is
used.
4. Expectation of worsening economic performance.
5. Technological change
6. Decline in market value beyond expectation
7. Adverse change in market or economic or legal environment.
8. Change in interest rate resulting to increase in discount rate.

Recognition and Measurement

1. Test for indicators of impairment annually.
2. If there are indicators, carry out impairment review, if otherwise no further
action is required.
3. Impairment loss should be measured as the difference between carrying
value and recoverable amount.
4. Recognize impairment loss as a charge in the income statement.
32 | P a g e
 5. Write down the asset to its recoverable amount in the statement of
financial position.

Recognizing and Measuring an Impairment Loss

If, and only if, the recoverable amount of an asset is less than its carrying
amount, the carrying amount of the asset shall be reduced to its recoverable
amount. That reduction is an impairment loss.
An impairment loss shall be recognized immediately in profit or loss, unless the
asset is carried at revalued amount in accordance with another Standard (for
example, in accordance with the revaluation model in IAS 16). Any impairment
loss of a revalued asset shall be treated as a revaluation decrease in accordance
with that other standard.

An impairment loss on a non-revalued asset is recognized in profit or loss.

However, an impairment loss on a revalued asset is recognized in other
comprehensive income to the extent that the impairment loss does not exceed
the amount in the revaluation surplus for that same asset. Such an impairment
loss on a revalued asset.

When the amount estimated for an impairment loss is greater than the carrying
amount of the asset to which it relates, an entity shall recognize a liability if, and
only if, that is required by another standard.

After the recognition of an impairment loss, the depreciation (amortization)

charge for the asset shall be adjusted in future periods to allocate the asset’s
revised carrying amount, less its residual value (if any), on a systematic basis
over its remaining useful life.

Reversal of an Impairment Loss

In some cases of annual assessment, the recoverable amount of an asset that
has previously been impaired might turn out to be higher than the assets current
carrying value. In other words, there might have been a reversal of some of the
previous impairment loss.
a) The reversal of the impairment loss should be recognized immediately as
income in the statement of profit or loss
b) The carrying amount of the asset should be increased to its new
recoverable amount.

Note:
- The asset cannot be revalued to a carrying amount that is higher than its
value would have been if the asset had not been impaired originally i.e. its
depreciated carrying value had the impairment not taken place.
Depreciation of the asset should now be based on its new revalued
amount, its estimated residual value (if any) and its estimated remaining
useful life.
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 - An exception to this rule is for goodwill. An impairment loss for goodwill
should not be reversed in a subsequent period.
- If impairment reverses previous gain, transfer impairment to revaluation
reserve and any excess thereon to income statement

CASH GENERATING UNIT (CGU)

A cash generating unit is the smallest identifiable group of asset which generate
cash flows independent of other assets. Individual asset maybe difficult to test
for impairment because value in use may not be possible for individual asset in
view of the fact that they may not generate distinguishable cash flows, hence,
the need to impair a CGU.

Impairment Calculation of a CGU

1. Compare the carrying value of a CGU with the recoverable amount of the
CGU.
2. Allocate impairment loss to write down individual asset in the following
order:
a. Goodwill
Other assets on the pro rata basis of their carrying value to the extent of their
recoverable amount i.e. market value if any.

DISCLOSURE

An entity shall disclose the following for each class of assets:

a) The amount of impairment losses recognized in profit or loss during the
period and the line item(s) of the statement of comprehensive income in
which those impairment losses are included.
b) The amount of reversals of impairment losses recognized in profit or loss
during the period and the line item(s) of the statement of comprehensive
income in which those impairment losses are reversed.
c) The amount of impairment losses on revalued assets recognized in other
comprehensive income during the period.
d) The amount of reversals of impairment losses on revalued assets
recognized in other comprehensive income during the period.

An entity that reports segment information in accordance with IFRS 8 shall

disclose the following for each reportable segment:

i. the amount of impairment losses recognized in profit or loss and in other

comprehensive income during the period.
ii. the amount of reversals of impairment losses recognized in profit or loss
and in other comprehensive income during the period.

IAS 23 - BORROWING COST

Borrowing costs is the amount of interest on funds borrowed in order to execute
a capital project. Borrowing costs that are directly attributable to the acquisition,
34 | P a g e
construction or production of a qualifying asset form part of the cost of that
asset. Other borrowing costs are recognition as am expense.

SCOPE
The standard does not deal with the actual or imputed cost of equity, including
preferred capital not classified as a liability.

An entity is not required to apply the standard to borrowing costs directly

attributable to the acquisition, construction or production of:
a) A qualifying asset measured at fair value, for example a biological asset;
or
b) Inventories that are manufactured or otherwise produced, in large
quantities on a repetitive basis.

DEFINITIONS
This standard uses the following terms with the meanings specified:
a) Borrowing costs are interest and other costs that an entity incurs in
connection with the borrowing of funds.
b) A qualifying asset is an asset that necessarily takes a substantial period
of time to get ready for its intended use or sale.

Borrowing costs may include:

i. Interest expense calculated using the effective interest method as
described in IAS 39 Financial Instruments: Recognition and Measurement;
ii. Finance charges in respect of finance leases recognized in accordance with
IAS 17 Leases; and
iii. Exchange differences arising from foreign currency borrowings to the
extent that they are regarded as an adjustment to interest costs.

Depending on the circumstances, any of the following may be qualifying assets:

I. Inventories
II. Manufacturing plants
III. Power generation facilities
IV. Intangible assets
V. Investment properties.

Recognizing 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 asset. An entity shall recognise other borrowing costs as an expense in
the period in which it incurs.
All eligible borrowing costs must be capitalized and included as part of the cost
of the qualifying capital project.

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The capitalization rate is the rate specific to a particular asset. Where the loans
come from many sources, the weighted average rate should be used.

Rules for Capitalizing Borrowing costs

i. It must be directly traceable to the acquisition, construction or
production of a qualifying asset.
ii. The qualifying asset must be an asset that necessarily takes a
substantial period of time to get ready for its intended use or sale.
iii. The borrowing cost must relate to the amount borrowed and to the
project for which the borrowing was made.
iv. The total amount of borrowing cost capitalized in a particular year
should not be more than the amount of borrowings used or incurred.

Commencement of Borrowing Cost Capitalization

Borrowing cost capitalization can only start when:
i. Construction of the qualifying asset is still in progress.
ii. The expenditure on the asset has been incurred that is, if the funds
have not been used to acquire the assets, capitalization of interest
should not start.
iii. The amount borrowed has been received.

Suspension of Capitalization
An entity shall suspend capitalization of borrowing costs during extended
periods in which it suspends active development of a qualifying asset.

Cessation of Borrowing Cost Capitalization

Capitalization of borrowing cost should stop when:
i. The qualifying asset is ready for use, that is, construction has been
completed.
ii. The business of the borrower is disrupted or construction of assets
suspended.

How to Compute the Amount of Borrowing Cost to be capitalized

When a loan is received to finance a project, the amount to be capitalized in
respect of the borrowing cost is Annual interest payable on the original loan less
any investment income receivable on the temporary investment of the loan by
the borrower.

In a situation where borrowings are obtained generally, but are applied in part
to obtaining a qualifying asset, then the amount of borrowing costs eligible for
capitalization is found by applying the ‘capitalization rate’ to the expenditure on
the asset.

The capitalization rate is the weighted average of the borrowing costs applicable
to the entity’s borrowings that are outstanding during the period, excluding
borrowings made specifically to obtain a qualifying asset. However, there is a cap
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on the amount of borrowing costs calculated in this way: it must not exceed
actual borrowing costs incurred.
Sometimes one overall weighted average can be calculated for a group or entity,
but in some situations it may be more appropriate to use a weighted average for
borrowing costs for individual parts of the group or entity.

Disclosure
The following should be disclosed in the financial statements in relation to
borrowing costs:
a. Amount of borrowing costs capitalized during the period;

b. Capitalization rate used to determine the amount of borrowing costs

eligible for capitalization.

IAS 20 - GOVERNMENT GRANTS AND ASSISTANCE

Government grants are transfers of resources to an entity in return for past or
future compliance with certain conditions. Governments do assist local
companies in form of grants called subsidies, premiums, etc. They may also
receive other types of assistance which may be in many forms. The treatment of
government grants is covered by IAS 20 Accounting for government grants and
disclosure of government assistance.

SCOPE
IAS 20 does not cover the following situations:
✓ Accounting for government grants in financial statements reflecting the
effects of changing prices;
✓ Government assistance given in the form of tax breaks;
✓ Government acting as part-owner of the entity.

DEFINITIONS
These definitions are given by the standard.
✓ Government: Government, Government agencies and similar bodies
whether local, national or international.
✓ Government Assistance: Action by government designed to provide an
economic benefit specific to an entity or range of entities qualifying under
certain criteria.
✓ Government grants: Assistance by government in the form of transfers of
resources to an entity in return for past or future compliance with certain
conditions relating to the operating activities of the entity. They exclude
those forms of government assistance which cannot reasonably have a
value placed upon them and transactions with government which cannot be
distinguished from the normal trading transactions of the entity.
✓ Grants related to assets: Government grants whose primary condition is
that an entity qualifying for them should purchase, construct or otherwise
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 acquire non-current assets. Subsidiary conditions may also be attached
restricting the type or location of the assets or the periods during which
they are to be acquired or held.
✓ Grants related to income: Government grants other than those related
to assets.
✓ Forgivable Loans: Loans which the lender undertakes to waive
repayment of under certain prescribed conditions.

Government assistance takes many forms varying both in the nature of the
assistance given and in the conditions which are usually attached to it. The
purpose of the assistance may be to encourage an entity to embark on a course
of action which it would not normally have taken if the assistance was not
provided.

The receipt of government assistance by an entity may be significant for the

preparation of the financial statements for two reasons. Firstly, if resources have
been transferred, an appropriate method of accounting for the transfer must be
found. Secondly, it is desirable to give an indication of the extent to which the
entity has benefited from such assistance during the reporting period.

This facilitates comparison of an entity’s financial statements with those of prior

periods and with those of other entities.

Government grants sometimes are called by other names such as subsidies,

subventions, or premiums.

General Principles of Recognising Grants:

a) Grants should be recognized only when the conditions for their receipts have
been complied with and there is reasonable assurance that the grant will be
received.
b) Grants should be recognized in the profit or loss account if they are income
based grants as to match with the expenditure which they are meant for.
c) Income grants given to help achieve a non-financial goal such as job creation
should be matched to the costs incurred to meet that goal.
d) Capital grants should be amortized over the life of the assets acquired.

TYPES OF GOVERNMENT GRANTS

I. Income Grants: these are grants not meant for the acquisition of a capital
project. They are normally credited to a deferred income account and then
amortized to the income statement on a systematic basis.
II. Capital Grants: These are grants given for the execution of capital projects
or acquisition of fixed assets.

Capital grants can be accounted for using two (2) methods, which are:
a) Deduct the grant from the cost of the asset

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 b) Create a deferred income account.

REPAYMENT OF GOVERNMENT GRANTS

A government grant that becomes repayable is accounted for as a revision of
accounting estimates. In this regards, repayments of government grants are
treated as follows:
i. To repay an income grant, credit Bank and debit the deferred income
account. Any balance in the deferred income account transferred to P or
L.
ii. To repay a capital grant where the grant was deducted from the cost of the
asset, credit Bank and debit the asset account.
iii. To repay a capital grant where the grant was taken to a deferred income
account, credit bank and debits the deferred income account. Any balance
taken to P or L.

Government Assistance
This is a transfer of resources to an entity with no conditions and repayments.

Accounting Treatment of Government Grants

There are two broad approaches to the accounting for government for
governments:
The Capital Approach, under which a grant is recognized outside profit or loss,
and
The Income Approach, under which a grant is recognized in profit or loss over
one or more periods.

Those in support of the capital approach argue as follows:

i. Government grants are a financing device and should be dealt with as
such in the statement of financial position rather than be recognized in
profit or loss to offset the items of expense that they finance. Because
no repayment is expected, such grants should be recognized outside
profit or loss.
ii. It is inappropriate to recognize government grants in profit or loss,
because they are not earned but represent an incentive provided by
government without related costs.

Arguments in support of the income approach are as follows:

i. Because government grants are receipts from a source other than
shareholders, they should not be recognized directly in equity but
should be recognized in profit or loss inappropriate periods.
ii. Government grants are rarely gratuitous. The entity earns them
through compliance with their conditions and meeting the envisaged
obligations. They should therefore be recognized in profit or loss over
the periods in which the entity recognises as expenses the related costs
for which the grant is intended to compensate.

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 iii. Because income and other taxes are expenses, it is logical to deal also
with government grants, which are an extension of fiscal policies, in
profit or loss.

Disclosure Requirements
i. The accounting policies including methods of presentation for government
grants should be disclosed.
ii. The nature and event of government grants recognized in the financial
statements and other forms of government assistance received should be
disclosed.
iii. Any unfulfilled conditions and other contingencies should be disclosed.

IAS 21 – THE EFFECTS OF CHANGES IN FOREIGN EXCHANGE RATES

Many large companies in different countries do have subsidiaries and other

interest (Branch, Associates, Trade Investments, etc) all over the world. They are
usually referred to as multinational companies. Due to differences in currencies
used by different countries, there will be need for foreign currency translation
and conversion especially during preparation of consolidated financial
statements.
A company that is based in Nigeria may have a subsidiary in USA. Since the
subsidiary will trade in its own local currency, it means that the subsidiary will
keep books of account and prepare its annual returns in its own local currency
which is dollar ($). At the year end, the Parent company will consolidate the
results of the foreign subsidiary into the group Financial Statements, by
translating the annual returns of the subsidiary into Naira (N) to enable the
preparation of the consolidated financial statements.

Definition of Terms
1. Translation: This is the re-statement of account balances of financial
statements of a foreign operation using appropriate exchange rates.
This does not involve the act of changing one currency into another.
2. Conversion: This is the process of exchanging one foreign currency for
another using appropriate exchange rate.
3. Exchange rates: This is the ratio of exchange for two currencies. That
is the rate at which the currency of a country is exchanged into the
currency of another.
4. Spot Exchange Rate: The exchange rate for immediate delivery. That
is the exchange rate now.
5. Closing Rate: The spot exchange rate at the year end date. That is the
exchange rate at the end of the year.
6. Forward Rate: The rate at which a currency can be bought or sold for
future delivery. That is the currency at which currencies will be sold or
bought at a future date.

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 7. Official Exchange Rate: This is the exchange rate established by the
appropriate government agency for eligible transactions.
8. Exchange Difference: This is the difference resulting from translating
a given number of units of one currency into another currency at
different exchange rate. That is the difference that resulted from the
translation of a foreign account balance at different exchange rates.
9. Functional Currency: This is the currency of the primary economic
environment in which an entity operates. Example, companies
operating in Nigeria, their functional currency is Naira (N)
10. Foreign Currency: This is any currency other than the functional
currency of an entity. Example for companies operating in Nigeria, any
currency other than naira (N) is a foreign currency.
11. Presentation Currency: This is the currency in which the financial
statements of an entity are prepared and presented.
12. Foreign Operation: These are the business activities of a subsidiary,
associates, joint venture, or branch that operates in a country other
than the country of the parent company or head office.
13. Net Investment in a foreign operation: The amount of the reporting
entity’s (i.e., parent company or head office) interest in the net assets
of a foreign operation.

Factors that Determine the functional currency of an entity

1. The currency that mainly influences sales prices for goods and services
2. The currency of the country whose competitive forces and regulations
mainly determines the sales price of goods and services.
3. The currency that mainly influences labour, material, and other costs of
providing goods and services.

According to IAS 21, where the functional currency of an entity is not

immediately obvious, then management must exercise judgement and may also
need to consider the following:
i. The currency in which funding from issuing of debts and issuing of equity
(i.e., raising of loans and shares) are generated.
ii. The currency in which receipts from operating activities are usually
retained.

The following factors are to be considered in determining the functional currency

of foreign subsidiary.
i. Whether the activities of the foreign operation are carried out as an
extension of the parent company, rather than with a significant degree of
autonomy.
ii. Whether transactions with the parent are a high or low proportion of the
foreign operations’ activities.
iii. Whether the cash flows from the foreign operation directly affect the cash
flows of the parent and are readily available for remittance to it.

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iv. Whether cash flows from the activities of the foreign operation are
sufficient to service existing debt obligations without funds being made
available by the parent.

Accounting for Individual Transactions in a Foreign Currency

Where an entity enters a transaction denominated in a currency other than its
functional currency, that transaction must be translated into the functional
currency of the entity before it is recorded.

Occurrence of Transaction (i.e., Date of Transaction)

Whenever an entity enters a business transaction or contract where the
consideration is expressed in a foreign currency, then the foreign currency
amount or consideration should be translated into the functional currency of the
reporting entity using the exchange rate as at the transaction occurred.
Settlements of Accounts balance when settlement occurs at a date other than
the date the transaction occurred, the amount settled, or the fair value of the
consideration settled should be translated using exchange rate as at the date of
the settlement.

Exchange Difference on Settlement

The exchange difference on settlement represents exchange gain or exchange
loss and should be recognized in the statement of profit or loss in the period
when the settlement occurred.

IAS 38 - INTANGIBLE ASSETS

The objectives of the standard are:
- to establish the criteria for when an intangible may or should be recognized
- to specify how intangible assets should be measured
- to specify the disclosure requirements for intangible assets.

SCOPE
This standard shall be applied in accounting for intangible assets, except:
a) intangible assets that are within the scope of another standard;
b) financial assets, as defined in IAS 32 Financial Instruments: Presentation;
c) recognition and measurement of exploration and evaluation assets (IFRS
6 Exploration for and Evaluation of Mineral Resources); and
d) expenditure on the development and extraction of minerals, oil, natural

The standard applies to, among other things, expenditure on advertising,

training, start-up, research and development activities. Research and
development activities are directed to the development of knowledge. Therefore,
although these activities may result in an asset with physical substance (e.g. a
prototype), the physical element of the asset is secondary to its intangible
component, i.e. the knowledge embodied in it.
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Definition
Intangible Asset
An intangible asset is an identifiable non-monetary asset without physical
substance. The asset must be:
- controlled by the entity as a result of events in the past and
- something from which the entity expects future economic benefits to flow

Examples of items that might be considered as intangible assets include

computer software, patents, copyrights, motion picture films, customer lists,
franchises and fishing rights. An item should not be recognized as an intangible
asset, however, unless it fully meets the definition in the standard.

Intangible Asset: Must be identifiable

An intangible asset must be identifiable in order to distinguish it from goodwill.

With non-physical items, there may be a problem with identifiability.

a) If an intangible asset is acquired separately through purchase, there may
be a transfer of a legal right that would help to make an asset identifiable.
b) An intangible asset may be identifiable if it is separable, i.e. if it could be
rented or sold separately. However, ‘separability’ is not an essential feature of an
intangible asset.

Intangible Asset: Control by the entity

Another element of the definition of an intangible asset is that it must be under
the control of the entity as a result of a past event. The entity must therefore be
able to enjoy the future economic benefits from the asset, and prevent the access
of others to those benefits. A legally enforceable right is evidence of such control,
but is not always a necessary condition.
a) Control over technical knowledge or know-how only exists if it is protected
by a legal right.
b) The skill of employees, arising out of the benefits of training costs, are
most unlikely to be recognizable as an intangible asset, because an entity does
not control the future actions of its staff.
c) Similarly, market share and customer loyally cannot normally be
intangible assets, since an entity cannot control the actions of its customers.

Amortisation
This is the systematic allocation of the depreciable amount of an intangible asset
over its useful life.

An Asset is a resource:
i. controlled by an entity as a result of past events; and
ii. from which future economic benefits are expected to flow to the entity.

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Carrying Amount
This is the amount at which an asset is recognized in the statement of financial
position after deducting any accumulated amortisation and accumulated
impairment losses thereon.

Cost
This is the amount of cash or cash equivalents paid or the fair value of other
consideration given to acquire an asset at the time of its acquisition or
construction, or, when applicable, the amount attributed to that asset when
initially recognized in accordance with the specific requirements of other IFRS,
e.g. IFRS 2 Share-based Payment.

Depreciable Amount
This is the cost of an asset, or other amount substituted for cost, less its residual
value.

Development
This is the application of research findings or other knowledge to a plan or design
for the production of new or substantially improved materials, devices, products,
processes, systems or services before the start of commercial production or use.

Entity-specific value
This is the present value of the cash flows an entity expects to arise from the
continuing use of an asset and from its disposal at the end of its useful life or
expects to incur when settling a liability.

Research
This is the original and planned investigation undertaken with the prospect of
gaining new scientific or technical knowledge and understanding.

The Residual value of an Intangible asset

This is the estimated amount that an entity would currently obtain from disposal
of the asset, after deducting the estimated costs of disposal, if the asset were
already of the age and in the condition expected at the end of its useful life.

Research and Development Expenditure Costs

Research
Expenditure on research (or on the research phase of an internal project) shall
be recognized as an expense when it is incurred.
In the research phase of an internal project, an entity cannot demonstrate that
an intangible asset exists will generate probable future economic benefits.
Therefore, this expenditure is recognized as an expense when it is incurred.

Examples of research activities are:

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 - activities aimed at obtaining new knowledge;
- the search for, evaluation and final selection of, applications of research
findings or other knowledge;
- the search for alternatives for materials, devices, products, processes,
systems or services; and
- the formulation, design, evaluation and final selection of possible
alternatives for new or improved materials, devices, products, processes,
systems or services.

Development
An intangible asset arising from development) or from the development phase of
an internal project) shall be recognised if and only if, an entity can demonstrate
all the following:
- the technical feasibility of completing the intangible asset so that it will be
available for use or sale.
- Its intention to complete the intangible asset and use or sell it.
- Its ability to use or sell the intangible asset.
- How the intangible asset will generate probable future economic benefits.
Among other things, the entity can demonstrate the existence of a market
for the output of the intangible asset of the intangible asset itself or, if it is
to be used internally, the usefulness of the intangible asset.
- The availability of adequate technical, financial and other resources to
complete the development and to use or sell the intangible asset.
- Its ability to measure reliably the expenditure attributable to the intangible
asset during its development.

Examples of development activities are:

I. The design, construction and testing of pre-production or pre-use

prototypes and models;
II. The design of tools, jigs, moulds and dies involving new technology;
III. The design, construction and operation of a pilot plant that is not of a scale
economically feasible for commercial production; and
IV. The design, construction and testing of a chosen alternative for new or
improved materials, devices, products, processes, systems or services.

NOTES:
Internally generated brands, publishing titles, customers lists and items similar
in substance shall not be recognized as intangible assets.

Intangible Asset: Expected future economic benefits

An item can only be recognized as an intangible asset if economic benefits are
expected to flow in the future from ownership of the asset. Economic benefits
may come from the sale of products or services, or from a reduction in
expenditures (cost savings).

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An intangible asset, when recognized initially, must be measured at cost. It
should be recognized if, and only if both the following occur:
- It is probable that the future economic benefits that are attributable to the
asset will flow to the entity.
- The cost can be measured reliably.

Measurement after Recognition

An entity shall choose either the cost model or the revaluation model as its
accounting policy. If an intangible asset is accounted for using the revaluation
model, all the other assets in its class shall also be accounted for using the same
model, unless there is no active market for those assets.

An intangible asset is initially measured at cost but subsequently at cost or at a

fair value.

Cost Model
After initial recognition, an intangible asset shall be carried at its cost less any
accumulated amortisation and any accumulated impairment losses

Revaluation Model
After initial recognition, an intangible asset shall be carried at a revalued
amount, being its fair value at the date of the revaluation less any subsequent
accumulated amortisation and any subsequent accumulated impairment losses.

For the purpose of revaluations under this standard,

- Fair value shall be measured by reference to an active market.
- Revaluations shall be made with such regularity that at the end of the
reporting period the carrying amount of the asset does not differ materially
from its fair value.

The revaluation model does not allow:

- The revaluation of intangible assets that have not previously been
recognised as assets; or
- The initial recognition of intangible assets at amounts other than cost.

Exchange of Assets
If one intangible asset is exchanged for another, the cost of the intangible asset
is measured at their fair value unless:
- The exchange transaction lacks commercial substance, or
- The fair value of neither the asset received nor the asset given up can be
measured reliably.
- Otherwise, its cost is measured at the carrying amount of the asset given
up.

INTERNALLY GENERATED GOODWILL

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Internally generated goodwill may not be recognised as an asset. The standard
deliberately precludes recognition of internally generated goodwill because it
requires that, for initial recognition, the cost of the asset rather than its fair value
should be capable of being measured reliably and that it should be identifiable
and controlled. Therefore, you do not recognize an asset which is subjective and
cannot be measured reliably.

OTHER INTERNALLY GENERATED INTANGIBLE ASSETS

The standard prohibits the recognition of internally generated brands,
mastheads, publishing titles and customer lists and similar items as intangible
assets. These all fail to meet one or more (in some cases all) the definition and
recognition criteria and in some cases are probably indistinguishable from
internally generated goodwill.

COST OF AN INTERNALLY GENERATED INTANGIBLE ASSET

The costs allocated to an internally generated intangible should be only costs
that can be directly attributed or allocated on a reasonable and consistent basis
to creating, producing or preparing the asset for its intended use. The principles
underlying the costs which may or may not be included are similar to those for
other than non-current assets and inventory.
The cost of an internally operated intangible asset is the sum of the expenditure
incurred from the date when the intangible asset first meets the recognition
criteria. If, as often happens, considerable costs have already been recognized as
expenses before management could demonstrate that the criteria have been met,
this earlier expenditure should not be retrospectively recognized at a later date
as part of the cost of an intangible asset.

RECOGNITION OF AN EXPENSE
All expenditure related to an intangible which does not meet the criteria for
recognition either as an identifiable intangible asset or as goodwill arising on an
acquisition should be expensed as incurred. The IAS gives example of such
expenditure:
- Start-up costs
- Training costs
- Advertising costs
- Business relocation costs

Prepaid costs for services, for example advertising or marketing costs for
campaigns that have been prepared but not launched, can still be recognized as
a prepayment.

If tangible asset costs have been expensed in previous financial statements, they
may not be recognized as part of the cost of the asset.

AMORTIZATION PERIOD AND AMORTIZATION METHOD

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 - An intangible asset with a finite useful life should be amortized over its
expected useful life.
- Amortization should start when the asset is available for use.
- Amortization should cease at the earlier of the date that the asset is
classified as held for sale in accordance with IFRS 5 Non-current assets
held for sale and discontinued operations and the date that the asset is
derecognized.
- The amortization method used should reflect the pattern in which the
asset’s future economic benefits are consumed, if such a pattern cannot
be predicted reliably, the straight-line method should be used.
- The amortization charge for each period should normally be recognized in
profit or loss.

The residual value of an intangible asset with a finite useful life is assumed to
be zero unless a third party is committed to buying the intangible asset at the
end of its useful life or unless there is an active market for that type of asset (so
that its expected residual value can be measured) and it is probable that there
will be a market for the asset at the end of its useful life.

The amortization period and the amortization method used for an intangible
asset with a finite useful life should be reviewed at each financial year-end.

INTANGIBLE ASSETS WITH INDEFINITE USEFUL LIFE

An intangible asset with an indefinite useful life should not be amortized. (IAS
36 requires that such an asset is tested for impairment at least annually.)

The useful life of an intangible asset that is not being amortized should be
reviewed each year to determine whether it is still appropriate to assess its useful
life as indefinite is an indicator that the asset may be impaired and therefore it
should be tested for impairment.

DISPOSALS/RETIREMENTS OF INTANGIBLE ASSETS

An intangible asset should be eliminated from the statement of financial position
when it is disposed of or when there is no further expected economic benefit from
its future use. On disposal the gain or loss arising from the difference between
the net disposal proceeds and the carrying amount of the asset should be taken
to the profit or loss for the year as a gain or loss on disposal (i.e. treated as
income or expense).

DISCLOSURE REQUIREMENTS
The standard has fairly extensive disclosure requirements for intangible assets.
The financial statements should disclose the accounting policies for intangible
assets that have been adopted.
For each class of intangible assets, disclosure is required of the following:
- The method of amortization used
- The useful life of the assets or the amortization rate used
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 - The gross carrying amount, the accumulated amortization and the
accumulated impairment losses as at the beginning and the end of the
period
A reconciliation of the carrying amount as at the beginning and at the end of the
period (additions retirements/disposals, revaluations, impairment losses,
impairment losses reversed, amortization charge for the period, net exchange
differences, other movements) The carrying amount of internally-generated
intangible assets.

The financial statements should also disclose the following:

- In the case of intangible assets that are assessed as having an indefinite
useful life, the carrying amounts and the reasons supporting that
assessment
For intangible assets acquired by way of a government grant and initially
recognized at fair value, the fair value initially recognized the carrying amount,
and whether they are carried under the benchmark or the allowed alternative
treatment for subsequent re-measurement.
The carrying amount, nature and remaining amortisation period of any
intangible asset that is material to the financial statements of the entity.

IFRS 5 - NON-CURRENT ASSETS HELD FOR SALE AND DISCONTINUED

OPERATIONS

Objective
The objective of this IFRS is to specify the accounting for assets held for sale,
and the presentation and disclosure of discontinued operations. In particular,
the IFRS requires:
a) Assets that meet the criteria to be classified as held for sale to be measured
at the lower of carrying amount and fair value less costs to sell, and
depreciation on such assets to cease; and
b) Assets that meet the criteria to be classified as held for sale to be presented
separately in the statement of financial position and the results of
discontinued operations to be presented separately in the statement of
comprehensive income.
Scope
The classification, measurement and presentation requirements of this IFRS
apply to all recognised non-current assets and to all disposal groups of an entity,
except for those assets which shall continue to be measured in accordance with
the Standard noted.
• Assets classified as non-current in accordance with IAS 1 Presentation of
Financial Statements shall not be reclassified as current assets until they
meet the criteria to be classified as held for sale in accordance with this
IFRS.

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 • Assets of a class that an equity would normally regard as non-current that
are acquired exclusively with a view to resale shall not be classified as
current unless they meet the criteria to be classified as held for sale in
accordance with this IFRS.

KEY TERMS

a) Non-current Assets Held for Sale: A non-current asset held for sale is
any asset whose carrying amount will be recovered principally through a
sale transaction rather than through continuing use.
b) Discontinued Operation: Discontinued Operation is any asset or product
line that has been abandoned and not classified as held for sale because
its carrying amount cannot be recovered. It is a component of an entity
that either has been disposed of or is classified as held for sale and:
i. Represents a separate major line of business or geographical area of
operations,
ii. Is part of a single co-ordinated plan to dispose of a separate major
line of business or geographical area of operations or,
iii. Is a subsidiary acquired exclusively with a view to resale.
c) Current Asset: An entity shall classify an asset as current when:
i. It expects to realise the asset, or intends to sell or consume it, in its
normal operating cycle;
ii. It holds the asset primarily for the purpose of trading;
iii. It expects to realise the asset within twelve months after the
reporting period; or
iv. The asset is cash or a cash equivalent (as defined in IAS 7) unless
the asset is restricted from being exchanged or used to settle a liability for
at least twelve months after the reporting period.

d) Fair Value: The price that would be received to sell an asset or paid to
transfer a liability in an orderly transaction between market participants
at the measurement date.
e) Costs to Sell: The incremental costs directly attributable to the disposal
of an asset (or disposal group), excluding finance costs and income tax
expense.
f) Recoverable Amount: The higher of an asset’s fair value less costs to sell
and its value in use.
g) Value in Use: The present value of estimated future cash flows expected
to arise from the continuing use of an asset and from its disposal at the
end of its useful life.
h) Disposal Group: This is a group of assets to be disposed off, by sale or
otherwise, together as a group in a single transaction, and liabilities
directly associated with those assets that will be transferred in the
transaction e.g. goodwill acquired in a business combination.

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Conditions to be met Before Classifying an Asset as Held for sale
i. The asset must be available for sale at its present conditions;
ii. The sale must be highly probable;
iii. Management must be committed to the plan to sell the asset;
iv. There must be an active programme to locate a buyer;
v. The asset must be available at a reasonable price in relation to its fair
value;
vi. The sale must be completed within a year from the date the asset was
classified as held for sale;
vii. It must be very unlikely that the plan to sell the assets may be
withdrawn.

Measuring of Assets held for sale

A non-current asset (or disposal group) that is held for sale should be measured
at the lower of it’s:
- Carrying amount and
- Fair value less costs to sell.

Fair value less costs to sell is equivalent to net realizable value.

An impairment loss should be recognized where fair value less costs to sell is
lower than carrying amount. Note that this is an exception to the normal rule.
IAS 36 Impairment of Assets requires an entity to recognize an impairment loss
only where an asset’s recoverable amount is lower than its carrying value.
Recoverable amount is defined as the higher of net realizable value and value in
use. IAS 36 does not apply to assets held for sale.

Non-current assets held for sale should not be depreciated, even if they are still
being used by the entity.

A non-current asset (or disposal group) that is no longer classified as held for
sale (for example, because the sale has not taken place within one year) is
measured at the lower of:
a) Its carrying amount before it was classified as held for sale, adjusted for
any depreciation that would have been charged had the asset not been
held for sale;
b) Its recoverable amount at the date of the decision not to sell.

In summary, in measuring assets held for sale, the following principles should
be remembered:
a) No depreciation is charged on the asset because it is just like stock;
b) Any difference between carrying amount and fair value should be treated
as impairment loss and charged to Profit/loss.

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 c) Subsequent increase in fair value can result to gains such gains can be
taken to Profit/loss but must be restricted to the total impairment losses
previously charged to the Profit/loss.

Presenting Discontinued Operations

Discontinued operation: A component of an entity that has either been
disposed of, or classified as held for sale, and:
a) Represents a separate major line of business or geographical area of
operations.
b) Is part of a single co-ordinated plan to dispose of a separate major line of
business or geographical area of operations, or
c) Is a subsidiary acquired exclusively with a view to resale.

Component of an entity: Operations and cash flows that can be clearly

distinguished, operationally and for financial reporting purposes, from the rest
of the entity.

An entity should present and disclose information that enables users of the
financial statements to evaluate the financial effects of discontinued operations
and disposals of non-current assets or disposal groups.

An entity should disclose a single amount in the statement of profit or loss and
other comprehensive income comprising the total of:
a) The post-tax profit or loss of discontinued operations and
b) The post-tax gain or loss recognized on the measurement to fair value less
costs to sell or on the disposal of the assets or disposal group(s)
constituting the discontinued operation.

An entity should also disclose an analysis of the above single amount into:
a) The revenue, expenses and pre-tax profit or loss of discontinued
operations
b) The related income tax expense
c) The gain or loss recognized on the measurement to fair value less costs to
sell or on the disposal of the assets or the discontinued operation
d) The related income tax expense

This may be presented either in the statement of profit or loss and other
comprehensive income or in the notes. If it is presented in the statement of profit
or loss and other comprehensive income it should be presented in a section
identified as relating to discontinued operations, i.e. separately from continuing
operations.
This analysis is not required where the discontinued operation is a newly
acquired subsidiary that has been classified as held for sale.

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An entity should disclose the net cash flows attributable to the operating,
investing, and financing activities of discontinued operations. These disclosures
may be presented either on the face of the statement of cash flows or in the notes.
Gains and losses on the re-measurement of a disposal group that is not a
discontinued operation but is held for sale should be included in profit or loss
from continuing operations.

IAS 37 – PROVISIONS, CONTIGENT LIABILITIES AND CONTINGENT ASSETS

The objective of this standard is to ensure that appropriate recognition criteria

and measurement bases are applied to provisions, contingent liabilities and
contingent assets and that sufficient information is disclosed in the notes to
enable users to understand their nature, timing and amount.

SCOPE
This standard shall be applied by all entities in accounting for provisions,
contingent liabilities and contingent assets, but excludes obligations and
contingencies arising from:
- financial instruments that are in the scope of IAS 39
- those resulting from executory contracts, except where the contract is
onerous; and
- those covered by other standards e.g. IFRS 3, IAS 11, 12, 17 and 19
- insurance company policy liabilities except non-policy-related liabilities.

Note that it is only provisions that are liabilities and not provisions for
depreciation, doubtful debts etc.

The standard also deals with provisions for restructuring and discontinued
operations

Key Definition
i. A Provision: a liability of uncertain timing or amount

ii. A Liability: a present obligation of the entity arising from past events,
the settlement of which is expected to result in an outflow from the
entity of resources embodying economic benefits

iii. An obligating event is an event that creates a legal or constructive

obligation that results in an entity having no realistic alternative to
settling that obligation

iv. A constructive obligation is an obligation that derives from an entity’s

actions where:

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 - by an established pattern of past practice, published policies or
a sufficiently specific current statement, the entity has indicated
to other parties that it will accept certain responsibilities; and
- as a result, the entity has created a valid expectation on the part
of those other parties that it will discharge those responsibilities.

v. A legal obligation is an obligation that derives from:

- a contract (through its explicit or implicit terms);
- legislation; or
- other operation of law

vi. An onerous contract is a contract in which the unavoidable costs of

meeting the obligations under the contract exceed the economic
benefits expected to be received under it.

vii. A contingent liability is:

- a possible obligation that arises from past events and whose
existence will be confirmed only by the occurrence or non-
occurrence of one or more uncertain future events not wholly
within the control of the entity; or
- a present obligation that arises from past events but is not
recognized because:
a. it is not probable that an outflow of resources embodying
economic benefits will be required to settle the obligation;
or
b. the amount of the obligation cannot be measured with
sufficient reliability

viii. A restructuring is a programme that is planned and controlled by

management, and materially changes either:
- The scope of a business undertaken by an entity; or
- The manner in which that business is conducted.

ix. A contingent asset is a possible asset that arises from past events and
whose existence will be confirmed only by the occurrence or non-
occurrence of one or more uncertain future events not wholly within
the control of the entity

Provisions:
A provision is a liability of uncertain timing or amount. IAS 37 states that a
provision should be genuinely made and recognized as a liability when:
- Entity has a present obligation (legal or constructive) as a result of a past
event;
- It is probable that an outflow of economic benefits will be required to settle
the obligation;
- A reliable estimate can be made of the amount of the obligation.
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An obligation is something that cannot be avoided. A constructive obligation is
an obligation is derived from an entity’s actions, if by an established pattern of
past practice, published policies or a sufficiently specific current statement, an
entity has indicated to other parties that will accept certain responsibilities and
as a result it has created a valid expectation on the part of those parties that it
will discharge those responsibilities.
An outflow of economic benefits is regarded as probable, if the event is more
likely than not to occur. This indicates a probability of more than 50%.

Provisions and Other Liabilities

Provisions can be distinguished from other liabilities such as trade payables and
accruals because there is uncertainty about the timing or amount of the future
expenditure required in settlement.

Relationship between Provisions and Contingent Liabilities

In a general sense, all provisions are contingent because they are uncertain in
timing or amount. However, within this standard the term ‘contingent’ is used
for liabilities and assets that are not recognised because their existence will be
confirmed only by the occurrence or non-occurrence of one or more uncertain
future events not wholly within the control of the entity. In addition, the term
‘contingent liability’ is used for liabilities that do not meet the recognition criteria.

Measurement of Provisions
The amount to be recognized as a provision should be the best estimate of the
expenditure required to settle the present obligation at the end of a reporting
period.
The estimate should consider the following:
- Risks and uncertainties associated with future cash flows
- Development of future events e.g. new legislation
- The time value of money.

Where the effect of the time value of money is material, the amount of a provision
should be the present value of the expenditure required to settle the obligation.
The relevant discount rate should be the cost of capital before tax and risks.

Where the provision involves a single item, provision should be made in full.
However, where the provision involves many items, provision should be made
based on the expected value of all possible outcomes.

Examples of items that may be subjected to provisions:

- Warranties or guarantees
- Environmental contaminations
- Decommissioning or abandonment costs
- Restructuring

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Restructuring is a programme planned and controlled by management to change
the scope of business activities and the manner in which that business is
conducted.

Examples of restructuring events include:

- The sale or termination of a line of business
- The closure of business locations
- Changes in management structure
- Fundamental reorganizations

The following costs should not be included within a restructuring provision

- Retraining or relocating staff
- Marketing
- Investment in new system and distribution networks
- Future operating losses
- Profits on asset disposals.

Accounting Entries for Provisions

i. After calculating the present value of the provision, it will be capitalized as
part of the cost of the asset generating the provision. In which case,

DR Asset
CR Provision

ii. The capitalized asset will be subjected to annual depreciation or

amortization. Where the expenditure is be incurred at the beginning of the
accounting period, the first year will attract a depreciation. But, where the
expenditure is to be incurred at the end of a period, there will be no depreciation
for the first year. The accounting entries will be:

DR Profit or Loss
CR Accumulated Depreciation or Asset

iii. Compute the unwinding of the discount and recognized it as a finance cost
in the profit or loss. Where the expenditure is to be incurred at the beginning of
a period, unwinding of the discount will start from the first year. On the other
hand, where the expenditure is to incurred at the end of a period unwinding of
the end of a period, unwinding of the discount will start from the second year.
The accounting entries will be.

DR Profit or Loss
CR Provision

It should be noted that where the date the expenditure is to be incurred is not
given, it must be assumed to be at the end of the accounting period.

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CONTINGENT LIABILITIES
A contingent liability is a possible obligation that arises from past events and
whose existence will only be confirmed by the occurrence or non-occurrence of
one or more uncertain future events not wholly within the control of an entity. A
possible liability is a liability whose existence is less than 50% likely or the
probability of an outflow of economic benefits is less than 50%.

A contingent liability should not be recognized, rather, it should be disclosed by

way of notes. Contingent liabilities should be reviewed regularly. As soon as they
become probable, they should be reclassified as provisions and then recognized,
rather, it should be disclosed by way of notes. Contingent liabilities should be
reviewed regularly. As soon as they become probable, they should be reclassified
as provisions and then recognized. If they become remote, that is, less than 5%
likely, they should be totally ignored.

CONTINGENT ASSETS
A contingent asset is a possible asset that arise from past events and whose
existence will be confirmed only by the outcome of one or more uncertain future
events not wholly within the control of an entity.

A possible asset is an asset whose existence or the probability of inflows of

economic benefits is less than 50%.

A contingent asset should be totally ignored. However, if it becomes virtually

certain, that is more than 95% likely, it will be recognized as normal asset and
if it becomes remote, it will be totally ignored.

DISCLOSURES

Contingent liabilities and assets should not be recognized in the financial

statement but can only be disclosed as a note to the accounts

Reconciliation for each class of provision:

- opening balance
- additions
- used (amounts charged against the provision)
- released (reversed)
- unwinding of the discount
- closing balance

A prior year reconciliation is not required.

For each class of provision, a brief description of:

- nature
- timing
- uncertainties
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 - assumptions
- reimbursement, if any should also be disclosed

IAS 19 - EMPLOYEE BENEFITS

Introduction

IAS 19 prescribes:
▪ When the cost of employee benefits should be recognised as a liability or
an expense
▪ The amount of the liability or expense that should be recognised

The Standard requires an entity to recognise:

▪ A liability when an employee has provided service in exchange for employee
benefits to be paid in the future; and
▪ An expense when the entity consumes the economic benefit arising from
service provided by an employee in exchange for employee benefits
regardless of when the benefit will be received

Definitions
▪ Employee Benefit - All forms of consideration given in exchange for
services rendered by employees.
▪ Short-term employee benefit – Those which fall due wholly within twelve
months after the end of the period in which the employee render the
related services (other than terminal benefits and equity compensation)
▪ Termination benefits are employee benefits payable as a result of either:
✓ an entity’s decision to terminate an employee’s employment before the
normal retirement date or
✓ an employee’s decision to accept voluntary redundancy in exchange for
those benefit

▪ Post-employee benefits– Those which are payable after the completion of

employment (other than termination benefits)
▪ Post-employee benefit plans – These are formal or informal arrangement
under which an entity provides post-employment benefit for one or more
employees. They are categorized as either:
✓ Defined contribution plans
✓ Defined benefit plans
▪ Defined contribution plans – Post employment benefit plans under which
an entity pays 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 the current and prior periods.

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 ▪ Defined Benefit plans: Are post-employment benefit plans other than
defined contribution plans.
▪ Multi-Employer Plan- This can either be a defined contribution or a
defined benefit plan that pools the assets contributed by various
companies that are not under common control and uses those assets to
provide benefits to employees of more than one entity
▪ Actuarial gains and losses: These are gains or losses arising from the
changes in actuarial assumptions. Actuarial gains is the excess of the
actual fair value of the net benefit assets over the expected value of the
net benefit assets at the reporting date. Or the excess of the expected
value of the net benefit liabilities over the actual present value of the net
benefit liabilities at the reporting date. Actuarial losses is the excess of
the expected value of the net benefit assets over the actual fair value of
the net benefit assets at the reporting date. Or the excess of the actual
present value of the net benefit liabilities over the expected value of the
net benefit liabilities at the reporting date.
▪ Plan Assets- those assets held by long term employee benefit fund,
including any qualifying insurance policies.
▪ The Returns on Plan Assets: These are interest, dividends and other
revenue derived from the plan assets, together with realised and
unrealised gains or losses on the plan assets, less any cost of
administering the plan and less any tax payable by the plan itself.
▪ Present Value of a defined benefit obligation -the present value before
deducting any plan assets or any expected payments required to settle the
obligation that has occurred as a result of the service of employees in the
current and previous periods.
▪ Current Service Cost: This is the increase during a period in the present
value of a defined benefit obligation which arises because the benefits are
one period closer to settlement.
▪ Interest Cost: This is the increase during a period in the present value of
a defined benefit obligation which arises because the benefits are one
period closer to settlement. That is, interest charges associated to the
entity’s pension fund obligations.
▪ Past Service Cost: This is the increase in the present value of the defined
benefit obligation for employee service in prior period, arising in the
current period from the introduction of, or changes to, post-employment
benefits or other long-term employee benefits. Past service cost may be
either positive or negative (i.e. may either increases or reduces
existing benefits obligations).
▪ Fair Value: This is the price that would be received to sell an asset or paid
to transfer or settle a liability in an orderly transaction between market
participants at the measurement date.

Categories of Employee Benefits

The Standard identifies four main categories of employee benefit:

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 ▪ Short-term employee benefits example salaries and wages, social security
contributions, paid annual leave, paid sick leave, paid maternity and
paternity leave, profit and bonuses paid within one year, non-monetary
benefits e.g. cars, free goods etc
▪ Post-employment benefits e.g. pension and post-employment medical care
and life insurance
▪ Termination benefits e.g. redundancy and early retirement payment.
▪ Other long-term employee benefits e.g. sabbatical leave, long service
benefit, profit share, bonuses or deferred compensation payable 12
months after the year end.

Accounting For Short-term Benefits

▪ When an employee has rendered services to an entity during an
accounting period, the entity should recognize the amount of short term
employee benefit to be paid in exchange for that services as:

✓ a liability (accrued expense), after deducting any amount already paid;

and
✓ an expense (unless another IAS requires or permits the inclusion of
the benefits in the cost of an asset example IAS 2 and IAS 16)

The entity must account for expenses on an accruals basis.

Short Term Compensated Absence

▪ An entity shall recognise the expected cost of short term employee benefits
in the form of compensated absences as follows:
✓ In the case of accumulating compensated absences, when the
employee renders the service that increases their entitlement
to future compensated absences
✓ In the case of non-accumulating compensated absences,
when the absences occur
✓ An entity shall measure the expected cost of accumulating
compensated absences as the additional amount that the
entity expects to pay as a result of the unused entitlement that
has accumulated at the end of the reporting period
Profit Sharing and Bonus
▪ An entity shall recognise the expected cost of profit sharing and bonus
payments when and only when
✓ the entity has a present legal or constructive obligation to
make such payments as a result of past event; and
✓ 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.

Defined Contribution Plans

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Defined contribution plans are post-employee benefit plans under which an
entity:
▪ Pays fixed contribution into a separate entity (plan); and
▪ Has no legal or constructive obligation to pay further contributions if the
plan does not hold sufficient assets to pay all employees benefit for service
in the current and prior periods
▪ Any actuarial and investment risk of defined contribution plans are
assumed by the employee or the third party (insurance company)

Accounting For Defined Contribution Plans

▪ Contributions should be recognized as an expense in the period they are
payable (except where labour cost is included in asset)
▪ Any unpaid contribution due at the end of the financial year is recognized
as a liability (accrued expenses)
▪ Any excess contributions paid should be recognized as an asset (prepaid
expenses) to the extent that the payment will reduce future payment or
lead to cash refund.
▪ Where the contributions do not fall due entirely within 12 months after
the period end in which the employee performed the service, discounting
will apply (see Defined Benefit plan)

Defined Benefits Plan

Defined benefit plans are post-employment benefit plans under which an entity:
✓ is obligated to provide agreed benefits to current employees
✓ assumes risk that arise when the plan will not be sufficient to pay the
agreed pension to the employee (and therefore the entity) will have to
provide any shortfall
✓ through the services of an actuary calculate how much that must be paid
into the plan each year in order to provide promised pension and amount
set aside for the current service cost to meet the obligation
✓ The estimate made by the actuary in respect of the value of the plan asset
and liabilities are usually different at the end of the reporting period with
the last actuarial valuation because of the variables used. These variables
include:
- Expected rate of return on plan asset;
- Interest (discount) rate;
- Inflation;
- Rate of employee turnover;
- Probability of death in service.
✓ These differences are referred to as actuarial gains and loses (i.e.
experience adjustments)
✓ Discounting is used because obligations often will be settled several years
after the employee gives the service

Accounting For Defined Benefit Plan

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 ▪ Actuarial assumptions should be used in determining future employees’
benefits in respect of both current and prior years. Example of such
assumptions may include employee turnover, mortality rates future
increases in salary etc.
▪ Future benefits should be attributable to service performed by employees
in the current and in prior periods using the Projected Credit Unit Method
(more of this later)
▪ The fair value of any plan asset should be established
▪ The size of any actuarial gains or losses should be determined, and the
amount of these that will be recognized
▪ If the benefit payable under the plan have been improved, the extra cost
arising from past service should be determined

Defined Benefit Plan – Statement of Financial Position

The amount to be recognised in the SOFP for defined benefit obligation is

determined as follows:
Present value of defined obligation at the end XXX
Fair value of plan asset at the end (XXX)
XXX
Unrecognised actuarial gains/(losses) XXX
Unrecognised past service cost (XXX)
XXX

Defined Benefit Plan – Statement of Comprehensive Income

The expense that should be recognised in the statement of comprehensive

income (income statement) is the total of:
The current service cost XXX
Interest cost XXX
The expected return on any plan asset XXX
Recognised actuarial gains or losses XXX
Past service cost recognized XXX
XXX

The interest cost should be the present value of the defined benefit obligation at
the start of the year multiplied by the discount rate.

Explanatory Notes
▪ The discount rate adopted should be determined by reference to market
yields (at year end) on high quality fixed-rate corporate bonds. In the
absence of a firm root for such market, the yield on comparable
government bonds should be used. Maturity of the bond used should be
similar to expected maturity of the benefit obligation.

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 ▪ Interest cost - The increase during the period in the present value of the
defined benefit obligation that arises because the benefits payable are one
period closer to the settlement of the scheme.
▪ Current service cost - The increase in the present value of the defined
benefit obligation that occurs as a result of employee service in the current
period.
▪ Past service cost - The increased present value of a defined benefit
obligation for employee service in previous periods that has arisen because
of the introduction of changes to the benefits payable to employees. Past
service costs may be positive or negative depending on whether the
benefits are improved or reduced.
▪ Return on plan assets - the interest, dividends, and any other income
that is derived from the plan assets together with any realized or
unrealized gains or losses on those assets less the cost of administering
the plan and any tax payable by the plan.
▪ Plan assets are the stocks and shares purchased using the funds
contributed by the employer alone or plus employee.

Return on Plan Asset

▪ The expected return on plan assets is one component of the expense
recognised in income statement, not the actual return.
▪ The difference between the expected return and the actual return on plan
assets is an actuarial gain or loss.
▪ This difference may also be included in income statement as part of the
actuarial gains and losses on the defined benefit obligation but only when
the actuarial gain and losses are outside the 10% corridor for these gains
or losses otherwise they will not be included in the expense item as they
will be deemed insignificant.

Actuarial Gain or Loss

▪ This will arise on both Obligation and Asset.

Actuarial gain or loss on obligation is determined as follows:

Present value of obligation at beginning XXX

Interest cost XXX
Current service cost XXX
Past service cost XXX
Benefits paid (XXX)
Actuarial loss on obligation (balancing figure) XXX
Present value of obligation XXX

Actuarial gain or loss on Assets is determined as follows:

Fair value of plan assets at beginning XXX
Expected return on plan assets XXX
Contributions XXX
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 Benefits paid (XXX)
Actuarial gain on plan assets (balancing figure) XXX
Fair value of plan assets at close XXX

Recognition of Gain and Loss

▪ A company should recognize a portion of its actuarial gains and losses as
income or expense if the net cumulative unrecognized actuarial gains and
losses at the end of the previous reporting period, (i.e. at the beginning of
the current financial year) exceeds the greater of:
✓ 10% of the present value of the defined benefit obligation at the beginning
of the year, and
✓ 10% of the fair value of the plan assets at the same date.
▪ These limits should be calculated and applied separately for each defined
plan.
✓ The excess determined by the above method is then divided by the
expected average remaining lives of the employees in the plan.
▪ This method is called the 10% corridor approach.

Disclosure Requirements of IAS 19

1. The amount recognised as an expense in the period

2. A general description of the type of plan operated
3. The charge to total comprehensive income for the year separated into the
appropriate components
4. The entity’s accounting policy on recognition of actuarial gains or losses
on re-measurements
5. A reconciliation of the assets and liabilities recognised in the statements
of financial position
6. A reconciliation showing movements during the period in the net asset or
liability recognised in the statements of financial position
7. Explanations of the characteristics of the entity’s defined benefit plans and
risks associated with them
8. Description of how the entity’s defined benefit plans may affect the
amount, timing and uncertainty of the entity’s future cash flows.

IAS 41 – AGRICULTURE

The objective of this Standard is to prescribe the accounting treatment and

disclosures for agricultural activity. It deals mainly with the accounting
treatment for biological assets during the period of growth, degeneration,

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production, and procreation, and for the initial measurement of agricultural
produce at the point of harvest.

SCOPE

This Standard shall be applied to account for the following when they relate to
agricultural activity:

(a) Biological assets, except for bearer plants;

(b) Agricultural produce at the point of harvest; and

(c) Conditional or unconditional grants relating to a biological asset measured

at its fair value less costs to sell.

This Standard does not apply to:

(a) Land related to agricultural activity;

(b) Bearer plants related to agricultural activity. However, this Standard applies
to the produce on those bearer plants;

(c) Government grants related to bearer plants;

(d) Intangible assets related to agricultural activity; and

(e) Right-of-use assets arising from a lease of land related to agricultural activity.

Effective date

This Standard becomes operative for annual financial statements covering

periods beginning on or after 1 January 2003. Earlier application is encouraged.
If an entity applies this Standard for periods beginning before 1 January 2003,
it shall disclose that fact.

Defined terms

Agricultural activity is the management by an entity of the biological

transformation and harvest of biological assets for sale or for conversion into
agricultural produce or into additional biological assets.

Agricultural produce is the harvested produce of the entity’s biological assets.

A bearer plant is a living plant that:

(a) Is used in the production or supply of agricultural produce;

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(b) Is expected to bear produce for more than one period; and

(c) Has a remote likelihood of being sold as agricultural produce, except for
incidental scrap sales.

A biological asset is a living animal or plant.

Biological transformation comprises the processes of growth, degeneration,

production, and procreation that cause qualitative or quantitative changes in a
biological asset.

Costs to sell are the incremental costs directly attributable to the disposal of an
asset, excluding finance costs and income taxes.

A group of biological assets is an aggregation of similar living animals or plants.

Harvest is the detachment of produce from a biological asset or the cessation of

a biological asset’s life processes.

Recognition

An entity shall recognise a biological asset or agricultural produce when, and

only when:

(a) The entity controls the asset as a result of past events;

(b) It is probable that future economic benefits associated with the asset will
flow to the entity; and

(c) The fair value or cost of the asset can be measured reliably.

Agricultural produce should be recognised as an inventory in the statement of

Financial Position. While changes in the carrying amount of the agricultural
produce should be recognised as income or expense in Profit or Loss. However,
this may be rare as such produce is usually sold or processed within a short
time.

Biological assets:

A biological asset shall be measured on initial recognition and at the end of each
reporting period at its fair value less costs to sell, except where the fair value
cannot be measured reliably. Agricultural produce that is harvested for trading
or processing activities should be measured at fair value at the date of harvest
and thereafter IAS 2 “Inventory” should be applied.

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Subsequent gains or losses

Biological assets:

(a) A gain or loss arising on initial recognition of a biological asset at fair value
less costs to sell and from a change in fair value less costs to sell of a biological
asset shall be included in profit or loss for the period in which it arises.

(b) A loss may arise on initial recognition of a biological asset, because costs to
sell are deducted in determining fair value less costs to sell of a biological asset.
A gain may arise on initial recognition of a biological asset, such as when a calf
is born.

Agricultural assets:

Agricultural produce harvested from an entity’s biological assets shall be

measured at its fair value less costs to sell at the point of harvest. Such
measurement is the cost at that date when applying IAS 2 Inventories or another
applicable Standard.

Agricultural assets:

(a) A gain or loss arising on initial recognition of agricultural produce at fair

value less costs to sell shall be included in profit or loss for the period in which
it arises.

(b) A gain or loss may arise on initial recognition of agricultural produce as a

result of harvesting.

Presentation and disclosure

An entity shall present and disclose information that enables users of the
financial statements to evaluate the financial effects of agricultural produce and
biological assets:

In the Notes to the financial statement:

(a) An entity shall disclose the aggregate gain or loss arising during the current
period on initial recognition of biological assets and agricultural produce and
from the change in fair value less costs to sell of biological assets.

(b) An entity shall provide a description of each group of biological assets.

(c) If not disclosed elsewhere in information published with the financial

statements, an entity shall describe:

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 (i) The nature of its activities involving each group of biological assets; and

(ii) Non-financial measures or estimates of the physical quantities of:

• Each group of the entity’s biological assets at the end of the period; and

• Output of agricultural produce during the period.

(d) The existence and carrying amounts of biological assets whose title is
restricted, and the carrying amounts of biological assets pledged as security for
liabilities.

(e) The amount of commitments for the development or acquisition of biological

assets.

(f) The financial risk management strategies related to agricultural activity.

(g) An entity shall present a reconciliation of changes in the carrying amount of

biological assets between the beginning and the end of the current period.

The reconciliation shall include:

(i) The gain or loss arising from changes in fair value less costs to sell;

(ii) Increases due to purchases;

(iii) Decreases attributable to sales and biological assets classified as held for
sale (or included in a disposal group that is classified as held for sale);

(iv) Decreases due to harvest;

(v) Increases resulting from business combinations;

(vi.) Net exchange differences arising on the translation of financial statements

into a different presentation currency and on the translation of a foreign
operation into the presentation currency of the reporting entity;

(vii.) Regarding government grants, disclosures should be made as to the

nature and extent of the grants, any condition that have not been fulfilled and
any significant decreases in the expected level of the grants.

FINANCIAL INSTRUMENTS
IAS 32: Financial Instruments: Presentation. These deal with the
classification of financial instruments between liabilities and equity;
presentation of certain compound instruments.

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IAS 39 Financial Instruments: Recognition and measurement, which deals
with Recognition and de-recognition of financial instruments; the measurement
of financial instruments; Hedging accounting.
IFRS 7 Financial Instruments: Disclosures, which revised, simplified and
incorporated disclosure requirements previously in IAS 32.
IFRS 9 Financial Instruments, which replaces the provisions of IAS 39
regarding the classification and measurement of financial asset liabilities.

Definition of Terms
Financial Instrument: This is any contract that gives rise to both a financial
asset to one entity and a financial liability or equity instrument to another entity.
Financial Asset: This is any asset that is cash or equity instrument of another
entity (e.g. shares of another entity). It can equally be described as a contractual
right to receive cash or another financial asset from another entity; or to
exchange financial instruments with another entity under conditions that are
potentially favourable to the entity.
Financial Liability: This is any liability that is contractual obligation to deliver
cash or another financial asset to another entity. It can also be referred to as a
contractual obligation to exchange financial instruments with another entity
under conditions that are potentially unfavourable; or a contract that will or may
be settled in the entity’s own equity.
Equity Instrument: This is any contract that evidences a residual interest in
the assets of an entity after deducting all of its liabilities.
Compound Financial Instruments: These are financial instruments that
contain both a liability and an equity element.
Derivative: This is any financial instrument that derives its value from the
changes in the price or rate of an underlying item. Common examples of
derivatives are forward contracts, futures contracts, options and swaps (i.e.
currency or interest rate swaps).

NB: That all derivatives must be settled at a future date and it requires no initial
net investment or an initial net investment that is smaller than would be required
for other types of contracts that would be expected to have a similar response to
changes in market factors.
Underlying Item: This is specified interest rate, financial instrument price,
commodity price, foreign exchange rate, index of prices or rates, credit rating or
credit index, or other variables.
Forward Contracts: These are agreements to buy or sell an asset at a fixed
amount in a specified future date.
Futures Contracts: This is similar to forward contracts except that contracts
are standardized and traded on an organized exchange market.
Credit Risk: This is the risk that one party to a financial instrument will cause
a financial loss for the other party by failing to discharge or fulfill its obligation.
Liquidity Risk: This is the risk that an entity will encounter difficulty in meeting
obligations associated with financial liabilities. That is, the risks of loss to an

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investor from the inability to sell a security to another investor at a price close
to its true value.
Market Risk: This is the risk that the fair value or future cash flows of a
financial instrument will change in value (i.e. fluctuates) as a result of changes
in market prices. Market risk comprises three types of risk: Currency risk,
interest rate risk and other price risk.
Currency Risk: This is the risk that the fair value or future cash flows of a
financial instrument will change in value (i.e. fluctuates) as a result of changes
in foreign exchange rates.
Interest Rate Risk: This is the risk that the fair value or future cash flows of a
finance instrument will change in value (i.e. fluctuates) as a result of changes in
market interest rates.
Other Price Risk: The risk that the fair value or future cash flows of a financial
instrument will change in value (i.e. fluctuates) as a result of changes in market
prices other than those arising from changes in interest rate risk or currency
risk.
Effective Interest Rate: This is the rate that exactly discounts estimated future
cash payments or receipts through the expected life of the financial instrument
to the net carrying amount of the financial asset or liability.

Examples of Financial Assets are as follows:

- Trade Receivables
- Options
- Shares (when used as an investment)

Examples of financial liabilities are as follows:

- Trade payables
- Debentures loans payable
- Redeemable preference (non-equity) shares
- Forward contracts standing at a loss.

According IAS 32, the following items are not financial instruments:
- Physical assets such as inventories, Property, Plant and Equipment,
Leased assets and intangible assets (patents, trademarks etc.)
- Prepaid expenses; deferred revenue and most warranty obligations
- Accrued expense and income in advance
- Liabilities or assets that is not contractual in nature
- Contractual rights/obligations that do not involve transfer of a financial
asset, e.g. commodity futures contracts, operating leases.
- Contingent rights and obligations meet the definition of financial assets
and financial liabilities respectively, even though many do not qualify for
recognition in financial statements. This is because the contractual rights
or obligations exist because of a past transaction or event (e.g. assumption
of a guarantee).

Financial Liabilities and Equity

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The main aim of IAS 32 is to ensure that financial instruments are presented
according to their substance and not merely their legal form. In particular,
entities that issue financial instruments should classify them as either financial
liabilities or equity components. The classification of a financial instrument as a
liability or as equity depends on the following:
a. The substance of the contractual arrangement on initial recognition
b. The definitions of a financial liability and an equity instrumrnt.

Contingent Settlement Provisions

An entity may issue a financial instrument where the way in which it is settled
depends on:
a. The occurrence or non-occurrence of uncertain future events, or
b. The outcome of uncertain circumstances.

Such financial instruments should be classified as financial liabilities unless the

possibility of cash settlement is remote.

Compound Financial Instruments

Some financial instruments contain both a liability and an equity element. In
such cases, IAS 32 requires the component parts of the instrument to be
classified separately, according to the substance of the contractual arrangement
and the definitions of a financial liability and an equity instrument.
One of the most common types of compound instrument is convertible debt. This
creates a primary financial liability of the user and grants an option to the holder
of the instrument to convert it into an equity instrument (usually ordinary
shares) of the issuer.

Although in theory there are several possible ways of calculating the split, the
following methods is recommended by IAS 32:
Calculate the present value for the liability component (i.e. debt component).
Deduct the calculated debt component from the total instrument value to derive
the equity component.

NB
Interest, dividends, (i.e. dividend on preference shares), losses and gains relating
to a financial liability should be recognized as finance costs in the profit or loss.
Interest, dividends, losses and gains relating to financial assets should be
recognized as investment income in the profit or loss.

Offsetting a Financial Asset and a Financial Liability

Financial asset and financial liability should be presented separately in the
statement of financial position, i.e. Offsetting is not permitted. However,
offsetting would be allowed if the following conditions are met:
The entity has a legally enforceable right of set off, and
Intends to settle on a net basis, or to realize the asset and settle the liability
simultaneously, i.e. at the same moment.
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Recognition of Financial Instruments
IFRS 9 applies to all entities and to all types of financial instruments except
those specifically addressed by other standards.

Initial Recognition
Financial instruments should be recognized in the statement of financial position
when the entity becomes a party to the contractual provisions of the instrument.

De-recognition
De-recognition is the removal of a previously recognized financial instrument
from an entity’s statement of financial position. An entity should derecognize a
financial asset when:
- The contractual rights to the cash flows from the financial asset expire, or
- The entity transfers substantially all the risks and rewards of ownership
of the financial asset to another party
- An entity should derecognize a financial liability when it is extinguished –
i.e., when the obligation specified in the contract is discharged or cancelled
or expires.
- It is possible for only part of a financial asset or liability to be derecognized.

Classification of Financial Assets

IFRS 9 classifies financial assets into two of:
Financial assets measured at amortized cost, or
Financial assets measured at fair value.
IFRS 9 classification is made on the basis of both:
The entity’s business model for managing the financial assets, and
The contractual cash flow characteristics of the financial assets.

Measurement of Financial Instruments

Initial Measurement
Financial instruments are initially measured at the transaction price that is fair
value of the consideration given. This implies that, a financial asset or financial
liability should originally be measured at its fair value plus, in certain
circumstances, any directly attributable transaction costs, such as fees and
commissions paid to brokers and advisers.
Where an entity holds investments in equity instruments that do not have quoted
price in an active market and it is not possible to calculate their values reliably,
they should be measured at cost.
Subsequent Measurement of Financial Assets
According to IFRS 9, after the initial recognition, all financial assets and financial
liabilities should be measured at either:
- Amortized cost, using the effective interest method, or
- At fair value.

Financial Assets Measured at Amortized cost

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Amortized cost of a financial asset is the amount at which the financial asset is
measured at initial recognition (i.e. at fair value) plus effective interest due on
the instrument, minus interest actually received on the instrument, minus
principal repayment if any.

NB: Investments whose fair value cannot be reliably measured should be

measured at cost.

Financial Assets Measured at Fair Value

Where a financial asset is classified as measured at fair value is established at
each period end in accordance with IFRS 13 Fair Value Measurement. That
standard requires that a fair value hierarchy is applied with three levels of input:
Note that changes in fair value are recognized in profit or loss.

There are two exceptions to this rule:

- The asset is part of a hedging relationship
- The financial asset is an investment in any equity instrument not held for
trading (i.e. it is held for long term). In this case the entity can make an
irrevocable election to recognize changes in the fair value in other
comprehensive income.

Impairment of Financial Assets

At each year end, an entity should assess whether there is any objective evidence
that a financial asset or group of assets is impaired. Where there is objective
evidence of impairment, the entity should determine the amount of any
impairment loss.

Financial Assets carried at Amortized Cost

The impairment loss is the difference between the asset’s carrying amount and
its recoverable amount. The asset’s recoverable amount is the present value of
estimated future cash flows, discounted at the financial instrument’s original
interest rate. The amount of the impairment loss should be recognized in profit
or loss. The impairment loss decreases at a later date (and the decrease relates
to an event occurring after the impairment was recognized) the reversal is
recognized in profit or loss. The carrying amount of the asset must not exceed
the original amortized cost (i.e. must not exceeds what the value of the asset
should have been if impairment loss never occurred).

HEDGING
IAS 39 requires hedge accounting only where there is a designated hedging
relationship between a hedging instrument and a hedge item. Hedging, for
accounting purposes, means designating one or more hedging instruments so
that their change in fair value is an offset, in whole or in part to the change in
fair value or cash flows of a hedged item

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A hedge item is an asset, liability, firm commitment, or forecasted future
transaction that; exposes the entity to risk of changes in fair value or changes in
future inflows, and that is designated as being hedged.
A hedging instrument is a designated derivative or (in limited circumstances)
another financial asset or liability whose fair value or cash flows are expected to
offset changes in the fair value or cash flows of a designated hedged item. A non-
derivative financial asset or liability may be designated as a hedging instrument
for hedge accounting purposes only if it hedges the risk of changes in foreign
currency exchange rates.
Hedge Effectiveness is the degree to which changes in the fair value or cash
flows of the hedged item attributable to a hedged risk are offset by changes in
the fair value or cash flows of the hedging instrument.
In simple terms, entities hedge to reduce their exposure to risk and uncertainty,
such as changes in prices, interest rates or foreign exchange rates. Hedge
accounting recognizes hedging relationships by allowing (for example) losses on
a hedged item to be offset against gains on a hedging instrument.

Types of Hedging Relationship

1. Fair Value Hedge: A hedge of the exposure to changes in the fair value of
a recognized asset or liability, or an identified portion of such an asset or
liability, that is attributable to a particular risk and could affect profit or
loss.
2. Cash Flow Hedge: A hedge of the exposure to variability in cash flows that
is attributable to a particular risk associated with a recognized asset or
liability (such as all or some future interest payments on variable rate debt)
or a highly probable forecast transaction (such as an anticipated purchase
or sale), and that could affect profit or loss.

Conditions for Hedge Accounting

The hedging relationship must be designated at its inception as a hedge based
on the entity’s risk management objective and strategy. There must be formal
documentation (including identification of the hedged item, the hedging
instrument, the nature of the risk that is to be hedged and how entity will assess
the hedging instrument’s effectiveness in offsetting exposure to changes in the
hedged item’s fair value or cash flows attributable to the hedged risk).
The hedge is expected to be highly effective in achieving offsetting changes in fair
value cash flows attributable to the hedged risk.
For cash flow hedges, a forecast transaction that is the subject of the hedge must
be highly probable and must present an exposure to variation in cash flows that
could ultimately affect profit or loss.
The effectiveness of the hedge can be reliably measured
The hedge is assessed on an ongoing basis (annually) and has been effective
during the reporting period.

Accounting Treatment for Fair value Hedges

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The gain or loss resulting from re-measuring the hedging instrument at fair value
is recognized in profit or loss. The gain or loss on the hedged item attributable
to the hedged risk should adjust the carrying amount of the hedged item and be
recognized in profit or loss.

IAS 34 – INTERIM FINANCIAL REPORTING

Scope of IAS 34
IAS 1 requires that financial statements should be produced at least annually.
Many companies are required by national regulations to produce accounts on a
half-yearly basis or sometimes on a quarterly basis. For example, in the UK the
Financial Services Authority requires listed companies whose shares are traded
on the London Stock Exchange to produce accounts at the half year stage
(‘interim accounts’) and at the year-end (‘annual report’). This is one of their
conditions of listing.

IAS 34 Interim financial reporting does not specify the frequency of interim
reporting: this is a matter for national regulations, which may vary between
countries. IAS 34 focuses on providing guidance on the form and content of these
interim accounts.
It encourages publicly-traded companies to prepare interim accounts and to file
them with the national authority no later than 60 days after the end of the
interim period.

Form and content of interim financial statements

IAS 34 requires that, as a minimum, an interim financial report should include:
- a condensed statement of financial position
- a condensed statement of profit or loss and other comprehensive income,
presented as either a condensed single statement or a condensed separate
statement of profit or loss followed by a condensed statement of other
comprehensive income
- a condensed statement of changes in equity
- a condensed statement of cash flows, and
- selected explanatory notes.

In the statement that presents the components of profit or loss an entity should
present the basic and diluted EPS for the period.
An entity could provide a full set of financial statements or additional selected
information if it wishes to do so. If it chooses to produce a full set of financial
statements for its interim accounts, the entity must comply with IAS 1.
The interim statements are designed to provide an update on the performance
and position of the entity. It should focus on new activities, events, and
circumstances that have occurred since the previous annual financial
statements were issued. They should not duplicate information that has already
been reported in the past.

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Periods for which interim financial statements must be presented
Interim reports must include the following financial statements (condensed or
complete):
- A statement of financial position at the end of the current interim period
and a comparative balance sheet at the end of the previous financial year.
- Statements of profit or loss and other comprehensive income for the
current interim period and cumulatively for the current financial year to
date.
- Comparative statements of profit or loss and other comprehensive income
for the comparable interim period last year, and the comparable
cumulative period last year.
- A statement of changes in equity for the current financial year to date, with
a comparative statement for the comparable year-to-date period in the
previous year.
- A statement of cash flows cumulatively for the current financial year to
date, with a comparative statement for the comparable year-to-date period
in the previous year.

Recognition and measurement

An entity should use the same accounting policies in the interim accounts that
it uses in the annual financial statements.
Measurement for interim purposes should be made on a year-to-date basis. For
example, suppose that a company uses quarterly reporting and in the first
quarter of the year, it writes down some inventory to zero. If it is then able to sell
the inventory in the next quarter, the results for the six-month period require no
write down of inventory, and the write-down of inventory should be reversed for
the purpose of preparing the interim accounts for the first six months of the year.
An appendix to IAS 34 gives some guidance on applying the general recognition
and measurement rules from the IASB Conceptual Framework to the interim
accounts. Some examples are given below.

Intangible assets
The guidance in IAS 34 states that an entity should follow the normal recognition
criteria when accounting for intangible assets. Development costs that have been
incurred by the interim date but do not meet the recognition criteria should be
expensed. It is not appropriate to capitalize them as an intangible asset in the
belief that the criteria will be met by the end of the annual reporting period.

Tax
Interim period tax should be accrued using the tax rate that would be applicable
to expected total earnings.

Use of estimates in interim financial statements

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The interim financial statements should be reliable and relevant. However IAS
34 recognises that the preparation of interim accounts will generally rely more
heavily on estimates than the annual financial statements. An appendix of IAS
34 provides examples.

Pensions
A company is not expected to obtain an actuarial valuation of its pension
liabilities at the interim date. The guidance suggests that the most recent
valuation should be rolled forward and used in the interim accounts.

Provisions
The calculation of some provisions requires the assistance of an expert. IAS 34
recognises that this would be too costly and time-consuming for the interim
accounts. IAS 34 therefore states that the figure included in the annual financial
statements for the previous year should be updated without reference to an
expert.

Inventories
A full count of inventory may not be necessary at the interim reporting date. It
may be sufficient to make estimates based on sales margins to establish a
valuation for the interim accounts.

DISTRIBUTABLE PROFITS BASED ON LOCAL LEGISLATIONS

Distributable profit is the profit of an enterprise that can be shared among equity
investors by way of dividend.

It is generally estimated by removing accumulated realized losses from

accumulated realized profits.

Accumulated realized losses are all items regarded as incurred and charged in
the income statement. Examples include:
- Depreciation based on the cost of non-current assets
- Contingent liabilities that have been provided
- Intangible assets written off
- Losses on disposals
- All forms of provisions

On the other hand, accumulated realized profits are all items regarded as earned
and credited to the profit and loss accounts. Examples include:
- Retained profit
- General reserve
- Profits from disposals
- Depreciation charged on the excess between revalued amount of assets
over their costs.

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From the foregoing, if distributable profit is to be calculated for a private
company, denoted by “Ltd”, it will simply be as follows:

₦
Accumulated realized profits or gains xx
Less: Accumulated realized losses (xx)
Distributable profit xx

Computation of Distributable Profit for a Public Liability Company

The general principle of calculating distributable profit by subtracting
accumulated realized losses from accumulated realized profits will not work for
a public company, denoted by “PLC”.
In this regard, the distributable profit of a public company is the difference
between its Net asset and share capital plus undistributable reserves. This can
be summarized as follows:

₦ ₦
Net asset xxx
Less:
Share capital xx
Un-distributable Reserves:
Share premium xx
Capital Redemption Reserve xx
Excess of unrealized profits over unrealized
Losses xx (xxx)
Distributable profit xx

ANALYSIS OF FINANCIAL STATEMENT FOR GROUP AND NON GROUP

ESTABLISHEMENTS

LEARNING OBJECTIVES
Students should be able:
✓ To understand the contents of annual financial statement;
✓ To compute ratios from an annual financial statements;
✓ To interpret and analyze ratios computed for decisions making;
✓ To use ratios computed in carrying out performance evaluation;
✓ To identify and apply financial performance indicators;
✓ To carry out a SWOT ( Strength, Weakness, Opportunities and Threats)
analysis of any organization;

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 ✓ To identify limitations of annual financial statements, ratios and
performance measurement instruments;
✓ To understand segmental analysis.

INTRODUCTION
From time to time Entrepreneurs want to know how well their managers have
managed their businesses. Hence, there is the need for managers to account
for their stewardship of businesses. This then makes it necessary to render
periodic accounts to entrepreneurs which over the years have become an
annual routine. Therefore, we talk of Corporate Reports and Accounts or
Annual Financial Statements.
As time goes by businesses begin to expand such that the number of
entrepreneurs in one business begin to increase just as the number of those
who depend (users of financial statements) on the account for one thing or
the other. It therefore became necessary to regulate the contents of these
financial statements inorder that users can obtain maximum benefits from its
use. S334 (1) of Companies and Allied Matters Act (CAMA) Cap C20 LFN
2004 requires every company to prepare financial statements every year.

CONTENTS OF FINANCIAL STATEMENTS

The content of financial statements is regulated by the following:
i. The Company and Allied Matters Act (CAMA) Cap C20 LFN 2020;
ii. Accounting Standards:
- International Accounting Standards (IAS) No 1 – Presentation of
Financial Statements

COMPANIES AND ALLIED MATTERS ACT (CAMA) CAP C20 LFN 2020
Section 334 (2) of CAMA Cap C20 LFN 2020, as amended, requires the
following to be included in a company’s annual financial statements:
a) Statement of Accounting Policies;
b) The statement of Financial Position (Balance Sheet) as at the last day of
the year;
c) A statement of Comprehensive Income (Profit and Loss) or in the case
of a company not trading for profit, an income and expenditure account for
the year;
d) Notes to the accounts;
e) Auditors’ reports;
f) The directors’ reports;

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g) A statements of cash flow (IAS 7);
h) A value added statement for the year;
i) A five year financial summary; and
j) In the case of a holding company; the group financial statements
k) Section 359(6) of CAMA Cap C20 LFN 2020 requires every public
company to include the audit committee’s report.

Section 334 (3) of CAMA Cap C20 LFN 2020 states that the financial
statements of a private company need not include the matters stated in
paragraph (a), (g),(h) and(i) above. This is however a minimum requirement
and private companies are encouraged to include these items in their financial
statements.
Financial Statements are periodic reports prepared annually usually at the end
of every financial year in report of the economic activity of an entity. These
statements form an integral parts of an entity’s corporate report.

IAS 1 – PRESENTATION OF FINANCIAL STATEMENTS

IAS1 requires all enterprises preparing separate or group financial statements
to include the following in its annual financial statements:
a) Annual statement of financial position as at the end of the period (a
Balance Sheet);
b) A statement of Comprehensive income for the period ( a profit and loss
account) or Income and Expenditure account;
c) A statement of changes in equity for the period (shows movement in
reserves);
d) A statement of cash flow for the period;
e) Notes comprising a summary of significant accounting policies and other
relevant explanatory information;
f) A statement of financial position as at the beginning of the earliest
comparative period when an entity applies an accounting policy
retrospectively or makes a retrospective restatement of items in its
financial statements or when it reclassifies items in its financial
statements.
It further requires that an entity should present with equal prominence all the
contents of financial statement in a complete set of financial statements. It
also requires the disclosure of the following:
a) Name of the reporting enterprise;
b) Weather the accounts cover the single enterprise or a group enterprise;

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 c) The reporting date or the period covered by the financial statements;
d) The reporting currency;
e) The level of precision used in presenting the figures in the financial
statement.
In practice however, the following are also included in financial
statements:
a) Notice of AGM
b) Results at a glance
c) Chairman’s statement
d) Directors’ report
e) Corporate governance
f) Graphs, pie chart, bar chart, etc. showing performing indicators
g) Proxy form
h) Admission card
i) Statement of unclaimed dividend.

USERS AND THEIR INFORMATION NEEDS

Users of financial statement consist of investors, employees, lenders, suppliers
and other trade creditors, customers, government and their agencies and the
public. Discussed below are the information needs of these users of financial
information:
1. Investors – these are the providers of risk capital otherwise known as
equity shareholders. They require:
I. Information to help make decisions about buying or selling shares,
taking up rights issues and voting;
II. Information about the level of dividend past, present and future
and any changes in share price;
III. Information about whether the management has been running
the company efficiently;
IV. Information about the position indicated by the income
statement, balance sheet and earnings per share (EPS),
V. Investors will want to know about the liquidity position of the
company, the company’s future prospects, and how the
company’s shares compare with those of its competitors.
2. Employees– They needs information about the security of employment
and future prospects for jobs in the company, and to help with collective pay
bargaining.

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3. Lenders – They need information to help them decide whether to lend
to a company. They will also need to check that the value of any security
remains adequate, that the interest repayments are secured ,that the cash is
available for redemption at the appropriate time and that any financial
restrictions (such as maximum debt/equity ratio) have not been breached.
4. Suppliers – They need to know whether the company will be a good
customer and pay its debts.
5. Customers – They need to know whether the company will be able to
continue producing and supplying goods.
6. Governments – The government’s interest in a company may be one of
creditor or customer as well as being specifically concerned with compliance
with tax and company law, ability to pay tax and the general contribution of
the company to the economy.
7. The Public – The public at large would wish to have information for all
the reasons mentioned above, but it could be suggested that it would be
impossible to provide general purpose accounting information which was
specifically designed for the needs of the public.

Financial statements cannot meet these user’s needs but financial statement
which meet the need of investors (providers of risk capital) will meet most of
the needs of other users.

The framework emphasizes that the preparation and presentation of financial

statements is primarily the responsibility of an entity’s management.
Management also has an interest in the information appearing in financial
statements and expressing weather the ratios indicates a weakness or strength
in the company affairs.

ANALYSIS OFANNUAL REPORTS

Analysis of financial statement involves the establishment of the relationships
between key financial variables over a given period of time. These
relationships are referred to as ratios. Therefore, ratios show the relationships
between or among variables in the financial statement.
A look at the balance sheet or profit and loss account may not tell you
whether a company did well or poorly. In other words, it will tell you
whether the company is financially strong or financially vulnerable. It is
therefore necessary to carry out an analysis and interpretation of the financial
statement.

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Interpretation of financial statement involves giving meaning to ratios
individually or by comparison and assessing whether the ratios indicates a
weakness or strength in the company’s affairs.

CLASSIFICATION OF RATIOS
1. ACCORDING TO ORIGIN OR TYPE OF ACCOUNT (i.e. Source of
data)
a. Income Statement Ratios: These are ratios derived exclusively using data
obtained from the Profit or Loss Account e.g. net profit margin, gross profit
margin, fixed interest cover, etc.
b. Statement of Financial Position Ratios: These are ratios derived from
statement of financial position information e.g. current ratio, acid test ratio,
gearing ratios etc.
c. Combined Ratios: These ratios require information from both the
income statement and the statement of financial position e.g. receivables
(debtors) turnover, creditor’s payment period, ROCE, EPS, DPS, etc.
2. CLASSIFICATION OF RATIOS ACCORDING TO USES
A. Profitability and Returns
B. Short term Solvency and Liquidity ratios (Efficiency or Activities)
C. Long term Financial Stability ratios or long term solvency ratios
D. Shareholders/Investment ratios

A. PROFITABILITY AND RETURNS

Businesses exist mainly with the primary purpose of creating wealth for their
owners, profitability ratios therefore provides an insight to the degree of
success in achieving this primary objective. They express profit made or
earned in relation to other key figures in the financial statements or to some
business resource. The following are the common examples of Profitability
ratios:

a) GROSS PROFIT (GP) MARGIN OR PERCENTAGE

This is the margin that the company makes on its sales and is expected to
remain reasonably constant. It measures the proportion or percentage of sales
revenue earned as profit after deducting only cost of sales. It is measured in
% as follows:
Gross Profit Margin = Gross Profit X 100
Sales

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FACTORS AFFECTING GROSS PROFIT PERCENTAGE
This ratio is affected by the following variables and a change in GP% may be
traced to a change in these variables:
i. Selling price – Change in Selling price is normally deliberate though
sometimes unavoidable e.g. because of increased competition;
ii. Sales mix – Often deliberate;
iii. Production cost –Change in materials, labor or production overhead
cost;
iv. Inventory Cost – errors in counting, valuing or cut-off, inventory
shortages, damages etc.

Gross profit margin maybe compared over time to ascertain if it behaves in

the expected manner. For example, if G.P% does not increase in proportion
with increase in sales, the discrepancy may be due to:
a) Increase in purchase cost – Determine whether this costs are under the
company’s control (i.e. does it manufacture the goods sold);
b) Inventory write-offs – Is this peculiar to the industry in which the
company operates? Or is the market volatile, such as fashion retailing?
c) Other costs that are allocated to cost of sales like Research and
Development expenditures.
Intercompany comparison of G.P margin can be very useful but comparison
is more useful when done for companies in the same industry. For example a
company with high volume of sales like food retailing is able to support low
margins while accompany with low sales volume, like a manufacturing
company needs higher margins to support low sales volume.
INTERPRETATION
Low margins usually suggest poor performance but may be due to expansion
costs (launching of new products) or trying to increase market share. Low
margins usually suggest scope for improvement.
Above average margins are usually a sign of good management although
usually high margins may make the competitors keen to join in enjoying the
high margin.

b) NET PROFIT (NP) MARGIN OR PERCENTAGE

The Net Profit margin or operating profit margin shows the relationship
between Net Profit and sales revenue in percentage. It is calculated as follows:
Net profit % = Profit before Interest and tax X 100
Sales Revenue

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It is a secondary ratio.

FACTORS AFFECTING NET PROFIT MARGIN

Any change in NP margin should be considered further:
i. Are they in line with changes in G.P%?
ii. Are they in line with changes in sales?
iii. Is fixed cost increasing or decreasing with revenue?
iv. Is there any individual cost category that has increased or decrease
significantly?
It is necessary to align accounting policies of companies before carrying out a
comparison of their Net Profit Margins because depreciation can be computed
in so many methods and each method affect profit differently.

c) RETURN ONCAPITAL EMPLOYED (ROCE)

This is a primary ratio and a very important ratio in measuring profitability.
It shows how efficiently a business is using its resources. It measures the overall
performance of a business by comparing inputs (capital invested) with outputs
(profit). ROCE measures the overall returns from all investments. It is
measured in % as follows:
ROCE = Profit X 100 = Profit before interest & tax
Capital Employed capital + Reserves + Long term loans
NB: PBIT = PBT + Finance costs.

ROCE can equally be calculated using either of formulae below:

a) ROCE = Profit before interest and tax X 100

Total assets (excluding deferred tax liability)
b) ROCE = Profit before tax X 100
Capital + Reserves

ROCE for the current year should be compared with:

I. The prior year ROCE –provided there is no change in any policy or
suitable adjustment has been made.
II. A target ROCE – where target ROCE has been set by a budget.
III. The cost of borrowing.
IV. Other company’s ROCE in the same industry.
NOTES:

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 I. Non replacement of fixed assets leads to reduction in their value and
increase in ROCE.
II. Profit is measured as operating profit or PBIT.
III. Capital employed is measured as equity plus interest bearing finance.
IV. Capital employed should exclude carrying amounts of associate
companies and investments where the profits exclude investment
income.
INTERPRETATION
The higher the ROCE, the better and, vice versa; a low return can easily
become a loss should the business suffers a downward turn. For meaningful
comparison, companies of similar size and age should be analyzed.
d) Returns on Total Assets
These compare the profit for the period (PBIT) with the total assets employed
by the entity in generating the profit during the same period. That is, it
measures the amount of return earned on every N1 invested on assets.
Returns on total assets = Net Income X 100
Total Assets
= Net Profit before interest & tax X 100
Total Assets

e) Returns on Shareholders Equity/Funds (ROSE/ROSF)

The ROSF compares the amount of profit for the period available to the
owners with the owners’ stake in the business during the same period. That
is, it measures the amount of return on ordinary shareholders’ investment
based on current period performance.

ROSE/ROSF = Net Profit after taxation and Preference dividend

Ordinary share capital + reserves

B. SHORT TERM SOLVENCY AND LIQUIDITY RATIOS (Efficiency and

Activity Ratios)
These are ratios used in judging the ability of an enterprise to meet its short
term maturing obligations.
Ratios under this category are:
a.) CURRENT RATIO
It measures an entity’s ability to meet its short term liabilities as they fall due
of short term assets. That is, the ratio indicates the extent to which assets that
will be converted into cash within a year to cover claims of short-term

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payables or creditors. The acceptable norm for current ratio is 2:1, meaning
that for a business to be considered liquid and healthy; its current assets should
double its current liabilities. It is measured as X : 1 as follows:
Current Ratio = Current Asset :1
Current Liabilities
NB: The current liabilities will not include secured bank overdraft.

A traditional number of ratios 2: 1 were universally considered ideal for most

businesses until recently when a norm of 1.5: 1 is considered necessary to
consider the adequacy of current ratio in the light of what is normal to the
business because certain factors affect current ratio and are peculiar to certain
types of business.

FACTORS AFFECTING CURRENT RATIOS

I. High or low levels of inventory;
II. High or low levels of trade payable;
III. High cash levels which could be put to better use;
IV. Seasonal nature of business may impact on 1 – 3 above
V. Nature of the inventory may impact on (i) above.
In arriving at a conclusion on current ratio, it is necessary to consider:
i. Availability of further finance –e.g. Is the overdraft at its limit? This
is hardly disclosed and is relevant to decision taken;
ii. When will the long term liabilities fall due and what is the source
finance arrangement for the repayment.
INTERPRETATION
The higher the ratio of X: 1, the better i.e. the more credit worthy an entity
is.

b.) QUICK RATIO OR ACID TEST RATIO

It shows an entity’s ability to pay its short term debts from liquid resources
exclusive of inventory. In other words, it measures the ability to pay short
term debts as they fall due if inventories are slow moving.
Quick ratio sometimes is calculated on basis of a six – week’s period i.e. quick
assets are seen as assets that can be turned to cash in six weeks.
It is calculated in X: 1 as follows:
Quick Ratio = Current Assets –Closing Inventory : 1
Current Liabilities
INTERPRETATION

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The normal levels range from 1: 1 to 0.7: 1.It is necessary to consider the
nature of business when interpreting the ratio. However, the higher ratio of
X: 1 the more credit worthy an entity is.
Notes:
1) Quick Assets include Bank, Cash, short term investments, and Trade
receivable. Inventory and prepayment are excluded.
2) Quick liabilities include bank overdraft which is repayable on
demand, trade payables, tax payable, dividend etc.
3) Core bank overdrafts are excluded from quick liabilities.

c.) CASH RATIO

Cash Ratio measures the ability of the business to settle its short-term
obligations as and when due using its highly liquid assets (i.e. cash and cash
equivalents). A cash ration of about 0.84 means that the business will be able
to settle about 84% of its short term obligations (current liabilities) as and
when due using its cash balance.

Cash Ratio = Cash and Cash Equivalent: 1

Current Liabilities

Working Capital Cycles/Cash Operating Cycle

This is not a ratio, but very important in determining the short-term liquidity
of an entity. Working capital cycle is the total length of time between
investing cash in paying for raw materials at the start of the production process
and its recovery at the end through cash collection from customers.

d.) INVENTORY TURNOVER

It measures the number of times Inventory is replaced within an accounting
year. It therefore measures the rate at which an entity converts its inventory
to sales. It is calculated in number of times as follows:

Inventory Turnover = Cost of Sales = in number of times

Average Inventory
Alternatively, Inventory Holding Period can be used.
Inventory Holding Period
It measures the length of period for which inventories is held before being
sold and replaced. It is calculated in number of years as follows:

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Inventory Holding Period = Average Inventory X 365 days
Cost of sales
It is the inverse of Inventory turnover.
Average Inventory = Opening Inventory + Closing Inventory
2
However, if opening inventory is not available, then the closing inventory
will be used as the average inventory.
NOTE
These ratios measure the efficiency in the utilization of assets. They are usually
expressed in number of times of days.
These ratios can be calculated for each category of stocks e.g. raw material,
finished goods and work in progress (WIP).

FACTORS AFFECTING INVENTORY TURNOVER

The inventory turnover can be affected by:
I. Lack of demand for the goods
II. Poor inventory control.
III. An increase in cost of holding stock (storage, obsolescence)
IV. Bulk purchases to take advantage of trade discount.
V. Attempting to avoid stock out
INTERPRETATION
The higher the inventory turnover ratio the better because it suggests that the
business sells it inventory faster and could be an indication of profitability. On
the other hand, the lower the stock days ratio, the better because it suggest
that stock stays for few days before they are sold. The nature of business shall
be considered when interpreting the ratios.

e.) RECEIVABLES COLLECTION PERIOD (RCP)

It measures the number of days for which credit is allowed. It usually
expressed in days and is calculated as follows:
RCP = Average Trade Receivables X 365 days
Credit Sales
Average Trade Receivables = Opening Trade Receivable + Closing Trade
Receivable
2
However, if opening trade receivables is not available, then it will be closing
receivable (i.e. SOFP value) will be used as average trade receivables.

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It is usually affected by the following:
i. Management policy to attract more trade
ii. A major new customer being allowed
iii. The use of year-end figures which do not represent average during
the year.
iv. Poor credit control.
RCP should be compared with:
i. The stated credit policy
ii. Previous period figure
iii. Industry average
Alternatively, Receivable turnover can be computed as follows:

RECEIVABLESTURNOVER
This measures the number of times, receivables is turnover. It usually
expressed in number of times and is calculated as follows:
RTO = credit Sales
Trade Receivables
INTERPRETATIONS
Change in these ratios is an indication of efficiency or otherwise in the credit
control of an entity. They measure an entity’s credit collection ability.

f.) PAYABLES PAYMENT PERIOD (PPP)

This is also known as credit day’s ratio. It measures the number of days it takes
to settle suppliers of goods and service. It is usually calculated in number of
days as follows:
PPP = Average Trade Payables X 365 days
Credit Purchase
It measures the credit period taken by an entity from its supplies. Always
compare this ratio with prior year and industry average.
Average Trade Payables = Opening Trade Payables + Closing Trade Payables
2
Alternatively, Payables Turnover (PTO) can be computed as follows:
Payables Turnover = Credit Purchases
Trade Payables
It is an inverse of Payables Payment Period.
INTERPRETATION
A high credit may be good as it represents sources of finance. It may however
indicate that the company is unable to pay quickly because of liquidity

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problems. A high credit period may develop a poor reputation as a slow
payer and may be difficult to find new suppliers, existing supplier may decide
to discontinue supply and the company may lose cash discounts.

g) CASHFLOW RATIO
This is the ratio of a company’s net cash inflow to its total debts. It provides
a useful indicator of a company’s cash position by showing the proportion of
debts that is generated by operations in cash.
NOTE
- Net cash inflow is the cash coming into the business from its
operations
- Total debts are short term debts and long term debts inclusive of
provisions.
It is calculated as:
Cash flow Ratio = Net Cash Inflow
Total debt
h) Sales Revenue to Capital Employed (Asset Turnover)
This ratio examines how effectively the assets of the business are being used
to generate sales revenue. That is, it measures how well or efficient an entity
is, on the use of their assets to generate sales revenue. The higher the asset
turnover, the more productive or efficient the business is in the use of assets
to generate sales revenue and vice versa.

Sales Revenue to Capital Employed (i.e. Assets Turnover)

= Sales Revenue
Capital + Reserves + Long-term Loans
Notes: An asset turnover of less than one time may indicates that the business
is less productive while an asset turnover of more than one time may indicates
that the business is productive (or more productive).
A very high or extremely high asset turnover may suggest that the business is
over trading on its asset, that is, it has insufficient assets to sustain the level of
sales revenue achieved. In analyzing assets turnover ratio, the age and
conditions of assets as well as the valuation bases for the assets should be
taken into consideration.

3. LONG TERM FINANCIAL STABILITY RATIOS

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These ratios are used to assess the long term financial position of an entity.
They are used to test an entity’s ability to meet up with interest costs, and
repayment schedules in respect of long term obligations.

a). GEARING
Gearing is the relationship between a company’s fixed interest capital and
equity capital. It measures the degree of risk attached to a company and
sensitivity of earnings and dividends to changes in profitability and activity
level. It is usually expressed in percentage or ratio and it is calculated as
follows:
i. Gearing (debt equity ratio) = Fixed Interest Capital (debt)
Equity Capital (Ordinary share capital +
Reserves + NCI)
ii. Gearing = Fixed Interest Capital (debt)
Total Capital (Fixed Interest capital + Equity)
This shows percentage of capital employed represented by borrowings.
Higher / Low Gearing
A business is highly geared when:
i. A large proportion of fixed interest capital is used;
ii. There is a greater risk of insolvency;
iii. Returns to stakeholders will grow proportionately more if profits are
growing;
iv. There is much burden of interest on the company.
A highly geared company must have relatively stable profit and sustainable
assets for security.
A business is lowly geared when:
i. It can usually borrow more easily i.e. the proportion of fixed interest
capital is not much
ii. Interest burden is not much.

b) INTERESTCOVER
This measure the ability of a company to pay interest out of profits
generated. It is calculated in number of times as follows:
Interest Cover = PBIT
Interest Expenses (Finance cost)
The higher the interest cover, the better. Low interest cover indicates that
shareholders dividend is at risk because most of the profits are eaten up by
interest payments and the company may have difficulty in financing its

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 debts if its profits fall. Interest cover of less than two (2) times, is usually
considered unsatisfactory.

c) PROPRIETARY RATIO
This measures the ratio of shareholders fund to total assets. It indicates the
extent to which total assets is financed by shareholders’ fund. It serves as a
cushion for creditors. It is calculated as follows:

Proprietary Ratio = Shareholders’ Fund x 100

Total Assets
d) TOTAL DEBTS RATIO
This ratio measures the proportion of the business assets that is financed with
debts and in effect also measures the degree of protection to unsecured
creditors in the events of liquidation.
Total Debts Ratio = Total Debts X 100
Total Assets

= Current Liabilities + Long-term Loans Including Red. Pref. shares X 100

Total Assets

4. INVESTORS/SHAREHOLDERS RATIO

a. EARNINGS PER SHARE (EPS)

This is used primarily as a measure of profitability, so an increasing EPS is a
good sign. It impacts on the value of a share and is calculated in kobo as
follows:

EPS = Profit after tax and after preference dividend X 100

No. of Ordinary shares in issue and ranking for dividend

b. PRICE EARNINGS RATIO (P/E RATIO)

This ratio relates the market value of a business’s share to its earnings per
share. The price earnings ratio reveals the number of times by which the
capital of the business is higher than its current level of earnings. P/E ratio
is a major performance indicator ratio because it measures the level of
confidence the market (or public) have in the future of the business. The
higher have the number of times, the greater the confidence.

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 A higher P/E ratio means that investor will pay more to acquire the business
shares in the future.
It is calculated in number of times as follows:

P/E Ratio = Market Price per share

EPS
It is also known as stock market ratio and earnings multiples. It represents
the market’s view of the future prospects of the share. A high P/E ratio
suggests that high growth is expected. So the higher the P/E ratio, the better

c. EARNINGS YIELD RATIO

This is the inverse of P/E Ratio. It measure the potential returns on ordinary
shareholders’ investment. That is, it measures the amount of return due to
the ordinary shareholders and not necessarily their actual returns. It
measures the stock market rate of capitalizing earnings. It is calculated as
follows:
Earnings Yield = EPS X 100
MPS

d. DIVIDEND PER SHARE

This is that part of earning that is distributable to shareholders. It is simply
the distributed earnings expressed per ordinary share. It is usually expressed
in kobo and is calculated as follows:
DPS = Ordinary share Dividend
No. of Ordinary shares in issue and ranking for dividend

e. DIVIDEND YIELD RATIO

This ratio relates the cash returns from share to its current market value.
That is, it measures the actual return on ordinary shareholders investments.
Dividend yield ratio can help investors to assess the cash return on their
investment in a business. It is calculated in percentage as follows:
Dividend Yield = DPS X 100
MPS
The lower the Dividend Yield the greater the Market expectation of future
growth in dividend and vice versa.

f. DIVIDEND COVER

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 This measure the extent to which earning is available to pay dividend. It is
usually calculated in no. of times as follows:
Dividend Cover = Profit after Tax
Dividend to Ordinary Shareholders
The higher the dividend cover, the greater the guarantee of future dividend
payments

g. DIVIDEND PAYOUT RATIO

This measure the proportion of earnings paid out as dividend and it is
calculated asfollows:
Dividend Payout Ratio = DPS x 100
EPS
Or
= Dividend x 100
Earnings
h. RETENTION RATIO
This measure the proportion of earnings retained in the business for future
growth and expansion and it is calculated as follows:

Retention Ratio = EPS – DPS x 100

EPS
Or
Earnings – Dividend x 100
Earnings
i. NET BOOK VALUE (NET ASSETS) PER ORDINARY SHARE
The ratio indicates the book value of the business attributable to each
ordinary share in issue. Where net asset = total assets less total liabilities
and preference share capital.

Net Book Value (net assets) per ordinary share = Net Assets
No. of Ordinary shares

ANALYSIS OF BANKS’FINANCIAL STATEMENT

To analyse banks financial statements, we use such tools as financial ratios,
cash flow statement, common size financial statement, etc.
Financial Ratio

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 This is the most common tools used in assessing the performance of a bank
because of the sensitivity involved in banking. The stock in trade in banking
industry is cash, this necessitates the consistent regulation of banks
activities.

Bank financial statement analysis in the following forms:

Capital Adequacy: This measures how adequate the capital of a bank is,
that is, if it measures the portion of the bank’s asset that is influenced by
the owner (equity). Examples of ratios computed here are:
1. Equity to total assets = Equity X 100%
Total Assets
2. Equity to loan and advances = Equity X 100%
Loans and Advances
3. Permanent assets to equity = Permanent Asset X 100%
Equity

Asset Quality
This ratio measures how qualitative the loans and advances of a bank is (credit
facilities) i.e. what is the portion of non-performing loans and advances to the
total loans and advances of the bank. Examples of ratios computed here as:
1. Percentage of classified loans to total loan and advances
Classified Loans X 100%
Gross Total Loans and Advances
2. Loan loss reserves (Statutory provision allowance; allowance for risk
asset) to classified loans
= Loans Loss Reserves X 100%
Equity

Management Efficiency
This is an assessment of the quality of a management team of a bank in terms
of experience, qualification, exposure, competences, versatility, etc.

Earnings Growth or Profitability

This ratio measures the performance of a bank in terms of profit or loss. The
ratios computed here are as follows:

1. Pre-tax Margin (Pre-tax Profit Margin)

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 = PBT X 100%
Revenue
NB: Revenue = Interest income
2. Return on Total Assets (ROTA) same as ROCE

= PBIT X 100%
Total Asset
3. Return on Equity = PAT X 100%
Equity
4. Interest Income to loans and Advances
= Interest income X 100%
Loans and Advances
5. Interest Paid to total deposits = Interest Paid X 100%
Total Deposit
6. Operating Expenses to total revenue
= Operating Expenses X 100%
Total Revenue

7. Non-Interest Income total revenue

= Non-Interest Income X 100%
Total Revenue
8. Staff Income to Revenue = Staff Cost X 100%
Revenue

Liquidity
The ratio measure how liquid a bank is to meet customers demand as at when
due.

Example of ratios computed here are:

1. Loans and Advances to total assets = Loans and advances X 100%
Total Assets
2. Cash and Bank balances to total liabilities
= Cash and bank balances X 100%
Total Liabilities
3. Loan and Advances to total deposits
= Loan and Advances X 100%
Total Deposit

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 TYPESOF FINANCIAL STATEMENT ANALYSIS
Financial statement analysis and interpretation can be classified as follows:
1. INTRA FIRM ANALYSIS
This involves the analysis of performance and results within a firm. It
could be inter- departmental in nature, vertical, horizontal or trend
analysis.
a. Inter departmental Analysis (segmental analysis)
This involves the comparison of the results and performance of two or
more departments for the purpose of determining efficiency or
otherwise. It is of importance to management in making certain
management decisions.
b. Vertical Analysis
This is an analysis of proportional change. It involves the expression of
various items of a component of the financial statements as a percentage
in relation to a common base within the same financial statements.
Example: G.P to sales cost of sales to sales. Sales are the common base.
c. Horizontal Analysis
This involves the comparison of current year with the previous year
taking note of any significant change that requires further explanation
and attention. This analysis is usually done in aggregate and in
percentage form.
d. Trend Analysis
This is simple a time series analysis. It involves the comparison of
key/major items in the statement of financial position and Profit or loss
in absolute terms or in percentage or in ratios over a period of time.
This is similar to that shown in five year financial summary as requested
by CAMA Cap C20 LFN 2004. It is a year to year comparison over a
given period of time.
This analysis assists users to appreciate the overall strength and weakness
of an entity. It actually indicates weather a firm is growing or declining.

2. INTER FIRM ANALYSIS/CROSS SECTIONALANALYSIS

This involves the comparison of the performance of one firm with
another firm. For meaningful comparison, it is ideal that the two firms
are in the same industry, of the same size and age. It involves
comparison of the results and performance of competitor companies.

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 This analysis may involve the comparison of a firm with the industry
average. It assists in carrying out a SWOT analysis.
This analysis can be misleading because:
i. Different key policy may be used
ii. Ratios maybe calculated using different formulae
iii. Large organization can achieve economies of scale through
bulk purchase discount, extended credits etc.
iv. Different markets may be served and hence different mix
v. Age of the companies may differ; hence some ratios may be
to the favor of the older companies.

LIMITATIONS OF RATIO ANALYSIS

1. The use of historical cost account and information.
This may distort ratio analysis due to the following:
i. They ignore future action by management;
ii. They can be manipulated by window dressing or creative
accounting;
iii. They may be distorted by differences in accounting policies e.g.
depreciation, stock valuations, leases, provisions etc.
2. The limitations of ratios may distort financial statement analysis. These
are listed below:
i. There is no rule as to what is an ideal ratio;
ii. Some ratios do not have universally accepted definition;
iii. The use of universal norms for ratios may render financial statement
analysis useless because such norms may not be applicable to some
industries;
iv. There are no definitions of ratios in accounting standards so comparison
could be misleading;
v. Statement of Financial Position figures may not necessary be
representative of the financial statement;
vi. Ratios based on historical cost information ignores inflation and distorts
financial statement;
vii. Ratios only reflect monetary transactions;
viii. Changes or differences in accounting policies affect ratios and hence
distorts financial statement analysis.
3. The comparison of companies with different age, size and assets base
may not be realistic

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4. Seasonal Trade – Comparison of companies with different seasonal
trade may distort financial statement analysis because one company may stock
pile at certain period and the other may not. If this period coincides with the
end financial year, then the stock in the balance will be high and will influence
certain ratios.
5. The actions of major shareholders, major customers and distributors and
key management staff usually affect an entity’s performance but are not
reflected in financial statement. Hence, analysis may be distorted.
6. Government policies may affect a business but are not reflected in
financial statements and hence distorts analysis.
7. Human asset is a key asset in any entity. This is not reflected in the
accounts and hence the value of assets appears understated. Ratios based and
total assets value may be distorted.

MODERN APPROACH TO ANALYSING FINANCIAL STATEMENTS

Certain performance indicators have been developed by the International
Accounting Communities to mitigate the limitations of traditional ratios.
These new indicators include:

1. Shareholders Value – This measures the difference between the

discounted future revenue of a firm and the market value of its debt capital.
It is calculated as follows:
Shareholders Value = Present Value of Inflows – Market Value of Debt

2. Market Value Added – These measures the difference between the

market capitalization of a firm and its capital employed. It is given as:
Market Value Added= Market Value of a Firm – Capital Employed

3. Economic Value Added - This measures the difference between the

current earnings before interest and tax and the minimum expected return on
capital employed. It is calculated as follows:
Economic Value Added = Profit before interest and tax- (WACC x Capital
Employed).

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