CHAPTER 1

INTRODUCTION TO THE PREPARATION AND

PRESENTATION OF FINANCIAL STATEMENTS

Page
1.1 Outcomes for the chapter 2

1.2 Background to reporting standards 2

A. CONCEPTUAL FRAMEWORK

1.3 Objective of the conceptual framework 4

1.4 Scope of the framework 4

1.5 Underlying assumptions 7

1.6 Elements of financial statements 7

1.7 Recognition of elements of financial statements 10

1.8 Measuring the elements of financial statements 11

B. PRESENTATION OF COMPANIES ANNUAL FINANCIAL

STATEMENTS

1.9 Introduction 13

1.10 General requirements in terms of the Companies Act of 2008 13

1.11 Faithful representation of company financial statements 13

1.12 Complete set of financial statements 14

1.13 General features of financial statements 14

1.14 Structure and content of financial statements 17

1.15 Schematic representation 38

C. IFRS FOR SMEs

1.16 Background and definition of SMEs 39

1.17 Differences between full IFRS and IFRS for SMEs 40

Questions 41

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 CHAPTER 1
INTRODUCTION TO THE PREPARATION AND
PRESENTATION OF FINANCIAL STATEMENTS

1.1 THE OUTCOMES FOR THE CHAPTER ARE TO:

1.1.1 understand the conceptual framework.

1.1.2 identify and define the elements of financial statements.
1.1.3 apply the recognition and measurement principles of the elements of
financial statements.
1.1.4 distinguish between the components of financial statements.
1.1.5 understand and be able to discuss the overall considerations for the compilation
of financial statements.
1.1.6 understand and be able to apply the structure and contents of financial
statements to a given set of facts.
1.1.7 identify the entities able to use IFRS for SMEs
1.1.8 identify the main users of the financial statements of a SME.
1.1.9 identify the differences between full IFRS and IFRS for SME’s for the topics
covered in Financial Accounting 188 and 288.

The following topics have been discussed in Financial Accounting 188 and you should
be able to:
• understand the conceptual framework
• identify and define the elements of financial statements
• apply the recognition and measurement principles of the elements of
financial statements
• prepare company financial statements to comply with the minimum requirements
of International Financial Reporting Standards and the companies act.

1.2 BACKGROUND TO REPORTING STANDARDS

GAAP (generally accepted accounting principles) is a general term for a set of financial
accounting standards and reporting guidelines used to prepare accounting information
in a given environment. The main source of GAAP is the regulatory framework which
includes statute (for example, the Companies Act – refer 1.10), and accounting
standards. GAAP may also be informed by best practice in the absence of rules in a
specific area.

The SA GAAP standards were discontinued in 2012, and accounting practice in South
Africa is therefore informed by IFRS, IFRS for SMEs (see section C) and Standards of
Generally Recognised Accounting Practice (GRAP) .

International Financial Reporting Standards (IFRSs) are issued by the International

Accounting Standards Board (IASB). The IASB is supported by a network of national
accounting standard-setting bodies that undertakes research on financial reporting
issues, provides guidance on the IASB’s priorities, et cetera. IFRSs are developed

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through consultation with a wide range of users of financial statements. They are
preceded by an exposure draft that is open for public comment, and are supported by
a basis for conclusions.

International Sustainability Disclosure Standards are issued by the International

Sustainability Standards Board (ISSB), to provide guidance on sustainability
disclosures for the financial markets, including reporting on climate and other
environmental, social and governance (ESG) matters.

The adoption of IFRS has the following advantages:

• IFRS Accounting Standards bring transparency by enhancing the international
comparability and quality of financial information, enabling investors and other
market participants to make informed economic decisions.

• IFRS Accounting Standards strengthen accountability by reducing the

information gap between the providers of capital and the people to whom they
have entrusted their money:
o they provide information needed to hold management to account; and
o as a source of globally comparable information, they are also of vital
importance to regulators around the world.

• IFRS Accounting Standards contribute to economic efficiency by helping

investors to identify opportunities and risks across the world, thereby improving
capital allocation. Use of a single, trusted accounting language lowers the cost
of capital and reduces international reporting costs for businesses.

However, a disadvantage of adopting IFRS is the perception of difficulty.

Internationally , the International Federation of Accountants (IFAC) has published

International Public Sector Accounting Standards (IPSAS) prescribing the
accounting treatment to be followed by public sector bodies. These standards are
derived from IFRS, with adaptations relevant to a public sector context where
appropriate. The preface to these standards states that the IFRS Conceptual
Framework is still relevant in public sector accounting. In South Africa, the public
sector applies Standards of GRAP (Generally Recognised Accounting Practice)
instead of the IPSAS, with National Treasury providing GRAP Accounting guidelines.

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 A. CONCEPTUAL FRAMEWORK

1.3 OBJECTIVE OF THE CONCEPTUAL FRAMEWORK

The purpose of the IFRS Conceptual Framework for Financial

Reporting (“Conceptual Framework”) is:
• to assist the IASB to develop IFRS Accounting Standards based on
consistent concepts;
• to assist preparers to develop consistent accounting policies when no
Standard applies or a Standard allows a choice;
• to assist all parties to understand and interpret the Standards.

A conceptual framework is principle-based. The alternative to a conceptual

framework is a formal set of rules for every transaction. The problem with such a
system is that people will try to circumvent those rules. Using a conceptual framework
allows a degree of flexibility and interpretation by the user but ensures that the user
stays within the bounds of the Conceptual framework

1.4 SCOPE OF THE FRAMEWORK

1.4.1 Objective of general purpose financial reporting

The objective of general purpose financial reporting is to provide financial information

about the reporting entity that is useful to existing and potential investors, lenders and
other creditors (primary users) in making decisions about providing resources to the
entity.

General purpose financial statements cannot provide all the information that is needed
by users. Users also have to consider general economic conditions, political events
and the industry in which the entity operates in their decision making process. The
financial statements are not directed at regulators, management of the entity and the
general public, but they can still use it.

General purpose financial statements are not designed to show the value of a reporting
entity, but they provide information to help estimate the value of the reporting entity.
The financial statements are, to a large extent, based on estimates, judgments and
models rather than exact depictions. The framework establishes the concepts that
underline those estimates, judgements and models.

1.4.2 Qualitative characteristics of useful financial information

Qualitative characteristics are features that make information in financial statements

useful for the users. The two groups of characteristics according to the framework are
discussed below:

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1.4.2.1 Fundamental qualitative characteristics

Financial information is useful, when it is relevant and a faithful representation of what

it purports to represent.

• Relevance

Information is relevant to users if it can influence their decisions. The information can
make a difference if it has the following characteristics:

i. Predictive value

Information can be used by users to make their own predictions.

ii. Confirming value

Information provides feedback (confirms or changes) about previous

evaluations.

The materiality of the information must also be taken into account to determine the
relevance thereof. Information is material when its omission or misstatement influences
the economic decisions of users who rely on the financial statements. Materiality is
determined by the size of the item or error in relation to the specific circumstances
where it was omitted or represented incorrectly. Materiality can differ from entity to
entity.

• Faithful representation

Financial statements represent economic phenomena in word and numbers, to be

useful the information must faithfully represent the events that it purports to represent.
The following are characteristics of faithful representation:

i. Completeness

Material omissions can result in information being false and misleading and
therefore unreliable and irrelevant.

ii. Neutrality

Information is neutral as it is presented not to achieve a predetermined result.

Neutrality is supported by the exercise of prudence.

iii. Free from error

Information must be free from error in terms of description and the process to
produce the information.

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1.4.2.2 Enhancing qualitative characteristics

The usefulness of financial information is enhanced if it has the following

characteristics:

• Comparability

Users want comparable information to judge tendencies over time and between similar
entities to evaluate their own relative financial position/performance. Measuring and
presenting financial results of similar transactions and other events must therefore be
done consistently across the entity over a period of time and also consistently for
different entities. It is therefore important that entities disclose comparable figures in
their financial statements for at least one year.

• Verifiability

Verifiability helps assure users that information faithfully represents the economic
events it purports to represent. It means that different knowledgeable and independent
observers could reach consensus.

• Timeliness

Information must be available on a timely basis for users to influence their decisions.

• Understandability

Information must be reasonably understandable to users. For this purpose it is

accepted that users have reasonable knowledge of business and economic activities
as well as accounting and that they will be prepared to study the information single-
mindedly. However, information on complex matters should not be left out merely
because certain users find it difficult to understand.

1.4.2.3 The cost constraint on useful financial reporting

The balance between benefit and cost is more of a constraint than a qualitative
characteristic. To obtain the information, the benefits from financial information must
exceed the cost involved. The estimation of benefits and cost is mainly a judgement
process.

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1.5 UNDERLYING ASSUMPTIONS

According to the framework, the following two assumptions are underlying to the
preparation of financial statements:

1.5.1 Going concern

Financial statements are prepared with the assumption that the entity will continue to
be in business in the foreseeable future. It is therefore accepted that the entity neither
plans nor is compelled to scale down materially on its activities or to turn them into
cash.

1.5.2 Accrual basis (This is implied in the framework but not stated specifically as
such.)

Financial statements are prepared in accordance with the accrual basis. According to
this, transactions and other events are accounted for when they occur, and not as late
as the date on which cash is received or paid. Financial statements prepared on the
accrual basis, provide the user with information on transactions in the past that resulted
in the movement of cash as well as information on the future payment of the entity’s
obligations or the future recovery of amounts due to the entity.

1.6 ELEMENTS OF FINANCIAL STATEMENTS

The financial implications of transactions and events are classified according to their
economic characteristics which are called elements. The elements that relate directly
to the measurement of the financial position as reflected in the statement of financial
position are assets, liabilities and equity. The elements that relate directly to the
measurement of performance as reflected in the statement of comprehensive income
are income and expenses.

The framework explains elements as follows:

1.6.1 Assets

An asset is a present economic resource controlled by the entity as a result of past

events. An economic resource is a right that has the potential to produce economic
benefits.

The control of the asset can result from the possession of a legal title, although
ownership is not essential to qualify as an asset. The entity only needs to control
benefits that flow from the possession of the asset.

The future economic benefits of an asset, is the potential to contribute directly or

indirectly to the inflow of cash or cash equivalents to the entity.

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An asset can be tangible or intangible.

Assets are divided into 2 broad groups namely:

• non-current assets (e.g. property, plant, equipment, vehicles, patents,
trademarks, investments)
• current assets (e.g. cash, inventory, debtors)

DR ASSETS CR
“increase” “decrease“

1.6.2 Liabilities

A liability is a present obligation of an entity to transfer economic resources arising

from past events.

A distinctive characteristic of a liability is that it has a present obligation. An obligation

is a duty or a responsibility to act or perform in a specific manner. Obligations may be
legally enforceable as a result of a binding agreement or legal requirement.
Obligations also originate from normal business practice, general use and the desire
to maintain healthy business relations or to act fairly.

The settlement of a liability normally comprises the sacrifice of resources with an

economic benefit, to comply with the claim of the other party.

Liabilities are divided into 2 broad groups, namely:

• non-current liabilities (e.g. long-term loans)
• current liabilities (e.g. creditors, bank overdrafts, provisions)

DR LIABILITIES CR
“decrease” “increase“

1.6.3 Equity/ownership interest

Equity is the residual interest in the assets of the entity after deducting all its liabilities.

The amount, against which equity is shown in the statement of financial position, is
dependent on the measurement of assets and liabilities. Very rarely will the amount of
total equity correspond with the total market value of the entity’s shares.

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Equity can be subdivided as follows:

• capital, which is the difference between capital contributions (cash or any other
asset that the owner made available to the entity to use in its ordinary activities)
and capital withdrawals (cash or any other asset of the entity that is taken by
the owner for personal use)

• profit/loss, which is the difference between income and expenses

DR EQUITY CR
“decrease” “increase“

1.6.4 Income

Income is an increase of assets, or decrease in liabilities that result in an increase in

equity, other than those relating to contributions by equity participants.

The definition of income encompasses both revenue and gains. Revenue that arises
in the course of the ordinary activities of an entity comprises amongst others, sales,
fees, interest, dividends, royalties and rent. Gains represent other items that do not
necessarily arise from the ordinary activities of an entity e.g. gains that arise from the
sales of non-current assets.

1.6.5 Expenses

Expenses are decrease in assets or increase of liabilities that result in a decrease in

equity, other than those relating to distributions to equity participants.

Expenses include losses as well as current expenses. Current expenses are expenses
arising from the ordinary activities of an entity e.g. cost of sales, wages, interest, rentals
and depreciation. Losses result from sales of non-current assets as well as from
disasters e.g. fires and floods.

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1.7 RECOGNITION OF ELEMENTS OF FINANCIAL STATEMENTS

Recognition is the process of including an item, which complies with the definition of
an element and satisfies the criteria for recognition, in the balance sheet or income
statement.

An item (assets or liability), which complies with the definition of an element, should be
recognised when if it results in both relevant information about assets, liabilities, equity,
income and expenses and a faithful representation of those items, because the aim is
to provide information that is useful to investors, lenders and other creditors

The relevance of an item is influenced by:

• Low probability of a flow of economic benefits

• Existence uncertainty

The faithful representation of an item is influence by:

• Measurement uncertainty
• Recognition inconsistency
• Presentation and disclosure

Recognition of income and expenses

The, financial statements/ recognition of incomes and expenses, are linked because
the recognition of one item (or a change in its carrying amount) requires the recognition
or derecognition of one or more other items (or changes in the carrying amount of one
or more other items).

For example:
(a) the recognition of income occurs at the same time as:
(i) the initial recognition of an asset, or an increase in the carrying amount of an asset;
or
(ii) the derecognition of a liability, or a decrease in the carrying amount of a liability.

(b) the recognition of expenses occurs at the same time as:

(i) the initial recognition of a liability, or an increase in the carrying amount of a liability;
or
(ii) the derecognition of an asset, or a decrease in the carrying amount of an asset.

• Income is recognised simultaneously with an increase in assets or decrease in

liabilities
Assets = Equity + Liabilities

Opening balance 2 000 1 000 1 000

Transaction 1 500 500
Transaction 2 300 (300)
Closing balance 2 500 1 800 700

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 • Expenses are recognised simultaneously with an increase in liabilities or
decrease in assets

Assets = Equity + Liabilities

Opening balance 2 000 1 000 1 000

Transaction 1 (200) (200)
Transaction 2 (400) 400
Closing balance 1 800 400 1 400

1.8 MEASURING THE ELEMENTS OF FINANCIAL STATEMENTS

Measurement is the process of determining the amount at which the elements of the
financial statements are recognised and reflected in the statement of financial position
and the statement of comprehensive income. This will depend on the choice of the
correct measurement basis.

The Conceptual Framework refers to just two main measurement bases: historical cost
and current value.
• Historical cost is based on the transaction price when an asset was
acquired/created or a liability was incurred. This measurement basis does
not generally reflect changes in values.

Advantages of Historical Cost

• Easy to understand and follow, because it does not change.
• Amounts are reliable as they are evidenced by a purchase transaction
and can always be verified (e.g. to an invoice or payment).
• Objective amounts are more difficult to manipulate, reducing the
possibility of “creative accounting”.
• Conservative measures prevent overvaluation.
• Widely used throughout the world.

Disadvantages of Historical Cost

• There is a “mismatch” in reporting profit as current revenues are
matched with out-of- date historical costs (e.g. cost of goods sold and
depreciation).
• Values of assets in the statement of financial position do not equate
to the economic benefits to be earned from their use.
• The gains from merely holding onto an asset are not distinguished
from operating profits.
• Historical cost accounting does not reflect the general rise in prices
(inflation) which affects an economy. The higher price inflation, the
greater the overstatement of operating profit.

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 • Current value does reflect changes in value. The Conceptual Framework
refers to three current value measurements:
Fair value The price in an orderly transaction between market
participants, as defined in IFRS 13 Fair Value
Measurement

Value in use/ Value in use is the present value of cash flows

Fulfilment value expected to be derived from using an asset and its
ultimate disposal. Fulfilment value is the present
value of resources transferred to fulfil a liability.
These are entity-specific values.

Current cost The cost of an equivalent asset/consideration that

would be received for an equivalent liability, at the
measurement date.

Current cost is an entry value; the value at which the entity would acquire the asset
(or incur the liability) at current market prices. Fair value and value in use
are exit values, focusing on the values which will be gained from the item.

Current value accounting has several advantages over historical cost accounting:
• Current value provides information that is more relevant to users of the
financial statements, especially for companies with an older asset base.
• In times of inflation, current values of assets and liabilities are likely to be
much higher than their recorded amount.

Implementing current value accounting models has invariably caused problems and
has never achieved the backing of the preparers and analysts who prefer the more
conservative approach of historical cost accounting.
• There is no one “current value”
• Availability of information. Although some current values are easily
obtained (e.g. replacement cost of inventory), the calculation of "value-in-
use") can be very subjective (and therefore less reliable).
• Valuations may be almost impossible to verify and comparisons between
companies made even more difficult.
• The majority of users may not understand what the figures represent.

The measurement basis that is mostly used by entities in the preparation of financial
statements is a combination of historical cost and one of the other three.

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 B. PRESENTATION OF COMPANIES’ ANNUAL FINANCIAL STATEMENTS
(IAS1)

1.9 INTRODUCTION

Companies are a form of enterprise regulated by the Companies Act of 2008 which
differs from other forms of entities. A company is a separate entity for legal purposes.

The objective of company’s annual financial statements is to provide information on

the financial position, performance and cash flows of an entity which may be useful to
various users in making economic decisions.

The interested parties of the annual financial statements include:

• shareholders
• auditor
• management
• directors
• employees
• company secretary
• creditors
• South African Revenue Service
• Banks

1.10 GENERAL REQUIREMENTS IN TERMS OF THE COMPANIES ACT OF 2008

According to section 29 of the Companies Act of 2008, the annual financial statements
must:
• meet the financial reporting standards;
• reflect the company’s state of affairs fairly;
• show the company’s transactions and financial position;
• show the company’s assets, liabilities, income and expenses in the prescribed
format;
• show the date on which the financial statements were compiled;
• show the accounting period that is applicable;

1.11 FAITHFUL REPRESENTATION OF COMPANY FINANCIAL STATEMENTS

Faithful representation requires the faithful presentation of the consequences of

transactions and events according to the definitions and recognition criteria of assets,
income and expenses as set out in the Framework. Faithful representation also
requires the following:

• selection and application of accounting policy

• presenting information in a way that is complete, neutral and free of material
errors.

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The following standards that have been issued must be taken into account when
preparing financial statements:

• Conceptual framework for financial reporting 2018

• IAS 1 – Presentation of financial statements

The Framework for the preparation and presentation of financial statements has been
fully dealt with. IAS 1 gives an explanation of the overall considerations (fair
presentation, going concern, accrual basis, materiality and aggregation, offsetting,
comparative information and consistency) for the presentation of financial statements,
guidelines for the structure of the financial statements and minimum requirements for
the contents of financial statements.

1.12 COMPLETE SET OF FINANCIAL STATEMENTS

In terms of IAS 1, a complete set of financial statements consists of:

• Statement of financial position as at the end of the period;

• Statement of comprehensive income for the period;
• Statement of changes in equity for the period;
• Statement of cash flows for the period;
• Notes, consisting of accounting policies and explanatory notes.

1.13 GENERAL FEATURES OF FINANCIAL STATEMENTS

1.13.1 Fair presentation

Financial statements should fairly present the financial position, financial performance
and cash flows of the enterprise, as required by the conceptual framework. It requires
the faithful representation of the effects of transactions in accordance with the definition
and recognition criteria for assets, liabilities, income and expenses.

The appropriate application of IFRSs, with additional disclosure where necessary, is

presumed to result in financial statements that achieve a fair presentation.

1.13.2. Compliance with IFRSs

If financial statements comply with all the requirements of IFRSs, that fact should be
disclosed in the notes. Financial statements shall not be described as complying with
IFRSs unless they comply with all the requirements thereof.

In the extreme circumstances when management concludes that departure from a

requirement in IFRS is necessary to achieve fair presentation, an entity shall disclose
the following:

• the fact that management has concluded that the financial statements
fairly represent the entity’s financial position, financial performance and
cash flows;
• management has complied with all material aspects of the accounting
standards except those in order to achieve fair presentation;

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 • disclose the standard from which the entity has departed;
• nature of the departure and treatment thereof; and
• reasons why the treatment required by the standard would be misleading
in the circumstances

1.13.3 Going concern

Financial statements shall be prepared on a going concern basis unless management

either intends to liquidate the entity or cease trading. Uncertainties relating to events
or conditions which may cast significant doubt upon the entity’s ability to continue as a
going concern shall be disclosed, as well as the reasons for the decision to prepare
the annual financial statements on the going concern basis.

1.13.4 Accrual basis

Financial statements must be compiled on the accrual basis. Therefore transactions

are accounted for when they occur and not when the cash is received or paid.

1.13.5 Materiality and aggregation

Each material class of similar items shall be shown separately.

Items that are dissimilar because of their nature or function are also presented
separately unless they are immaterial.

Materiality is determined by looking at the nature and size of an item. A user regards
an item as being material, if a different decision would have been made on non-
disclosure of that item.

1.13.6 Offsetting

Assets and liabilities should not be offset except when offsetting is permitted or
required by a specific standard.

Income and expense items should only be offset when:

• an IFRS standard requires or permits it for example profit or loss on
sale of assets, or
• gains, losses and related expenses arising from the same or similar
transactions, are immaterial.

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1.13.7 Frequency of reporting

Financial statements should be compiled at least annually.

When, in exceptional circumstances, an enterprise's statement of financial position

date changes and annual financial statements are presented for a period longer or
shorter than one year, an enterprise should disclose, in addition to the period covered
by the financial statements:
• the reason for the change and
• the fact that the comparative figures are not comparable.

1.13.8 Comparative information

Comparative information should be disclosed in respect of the previous period for:

• all numerical information in the financial statements, and
• descriptive or narrative information must also provide comparative
information when it is relevant to an understanding of the current period's
financial statements.

Comparative figures help users of financial statements to analyse trends in financial

information.

Should disclosure be changed in the current period, comparatives must also be

amended, unless impractical. If impractical, the following must be disclosed:
• the reason why no change was made, and
• the nature of the change if the comparatives had been changed.

1.13.9 Consistency of presentation

The presentation and classification of items in the financial statements must remain
the same within each accounting period and from one accounting period to the next,
unless:
• there is a change in the nature of operations, or
• the change would bring about more appropriate disclosure, or
• a Standard requires the change.

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1.14 STRUCTURE AND CONTENT OF FINANCIAL STATEMENTS

1.14.1 Identification of financial statements

Financial statements should be clearly identified and distinguished from other

information in the same published document.

Each component of the financial statements should also be clearly identified.

The following information must be prominently displayed and repeated (when

necessary) for a proper understanding of the information presented:
• the name of the reporting entity;
• whether the financial statements cover the individual enterprise or a
group of enterprises;
• the date of the end of the reporting period;
• the components of the financial statements;
• the presentation currency; and
• the level of rounding used in presenting amounts.

1.14.2 Statement of financial position

This statement has two sections, namely

• assets
• equity and liabilities.

Assets must be classified in the subsections current or non-current. Equity and

liabilities are classified using subsections total equity, non-current liabilities and current
liabilities. Equity represents the difference between assets and liabilities.

1.14.2.1 The face of the statement of financial position

According to IAS 1 the statement of financial position should include at least the
following line items:
• property, plant and equipment
• investment property
• intangible assets
• financial assets (excluding investments which are accounted for using
the equity method, trade and other receivables and cash or cash
equivalents)
• equity accounted investments
• inventory
• trade and other receivables
• cash and cash equivalents
• trade and other payables
• deferred tax assets and liabilities
• liabilities and assets for current tax
• provisions
• financial liabilities (excluding trade and other payables and provisions)
• issued capital and reserves
• non-controlling interest.

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Additional items may be presented if it leads to a better understanding of the entity’s
financial position.

Example 1
An example of a company’s statement of financial position is set out below:

Statement of financial position on 28 February 2018

Note R
ASSETS
Non-current assets
Property, plant and equipment 2 165 000
Intangible assets 3 30 000
Investment in subsidiaries 4 100 000
Financial assets 5 45 000
Total non-current assets 340 000

Current assets
Inventory 6 28 000
Trade receivables 43 000
Cash and cash equivalents 13 000
Total current assets 84 000

Total assets 424 000

EQUITY AND LIABILITIES

Equity
Share capital 7 73 000
Revaluation surplus 50 000
Retained earnings 189 000
Total equity 312 000

Non-current liabilities
Long-term loan 8 50 000
Deferred tax 9 5 000
Total non-current liabilities 55 000

Current liabilities
Creditors 34 000
Current portion of long term loan 8 5 000
Tax payable 10 000
Dividends payable 5 000
Provisions 10 3 000
Total current liabilities 57 000

Total liabilities 112 000

Total equity and liabilities 424 000

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1.14.2.2 Notes to the Statement of Financial Position

(a) Non-current assets

(i) Property, plant and equipment

In respect of each class property, plant and equipment:

• measuring bases for determining the gross amount
• depreciation methods
• useful life or depreciation rates
• gross carrying amount and accumulated depreciation
• reconciliation of the carrying amount at the beginning and end of the
period including amongst other things the following:
- additions
- increases or decreases as a result of revaluation
- depreciation
- disposals

Example 2
An example of the note relating to property, plant and equipment is set out below:

2.Property, plant and equipment

28 February 2018 Property Plant Equipment Total

R R R R

Carrying amount beginning of year 50 000 40 000 35 000 125 000

- Cost price 50 000 48 000 40 000 138 000
- Accumulated depreciation 0 (8 000) (5 000) (13 000)
Additions 0 32 500 20 000 52 500
Revaluation reserve 20 000 0 0 20 000
Improvements 5 000 0 0 5 000
Depreciation 0 (7 500) (5 000) (12 500)
Disposals 0 (15 000) (10 000) (25 000)
Carrying amount end of year 75 000 50 000 40 000 165 000
- Cost price 75 000 65 000 50 000 190 000
- Accumulated depreciation 0 (15 000) (10 000) (25 000)

The property has been revalued according to the market value on (date), by (name and
qualification of valuator), a sworn valuator.

A first mortgage loan on land and buildings serves as security for the loan.

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(ii) Intangible assets

In respect of each class of intangible asset with the difference between internally
generated intangible assets and other intangible assets:
• useful life non-ending or ending
• amortisation rates and methods for intangible assets with an ending
useful life
• useful life if ending
• gross carrying amount and accumulated amortisation
• reconciliation of the carrying amount at the beginning and end of the
period including amongst other things the following:
- additions
- amortisation
- disposals
• additional disclosure for intangible assets with a non-ending useful life

Example 3
An example of the note relating to intangible assets is set out below:

3 Intangible assets

Patents and licences

R
Carrying amount beginning of the year 16 000
- Cost price 20 000
- Accumulated amortisation (4 000)

Additions 15 000

Amortisation (1 000)

Carrying amount end of the year 30 000

- Cost price 35 000
- Accumulated amortisation (5 000)

(iii) Investment in subsidiaries

If a company exercises control over another company, the company which is being
controlled becomes the controlling company’s subsidiary. Usually if a company owns
more than 50% of another company’s issued share capital, control is being exercised.

Disclose the following information i.r.o each subsidiary:

- names of the company
- place of business
- percentage of the issued share capital and voting rights held by the
controlling company

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Example 4
An example of the note relating to investment in subsidiaries is set out below:

4. Investment in subsidiaries

% shareholding
Place of and voting
Name of company business rights R

ABC Ltd. Gauteng 70 55 000

XYZ Ltd. Cape Town 55 40 000

Loan to ABC Ltd. 5 000

100 000

The loan to ABC Ltd. is not interest bearing, unsecured and repayable by xxx.

(iv) Financial assets

If an entity buys another company’s shares, the interest of the entity in the other
company will be shown as an investment in the statement of financial position.

For purposes of Financial Accounting 288, assume that investments will be shown at
fair value and that any adjustment to the fair value will be recognised as a “fair value
adjustment” in the statement of comprehensive income.

For a listed company, the fair value of its shares is the current trading price on the JSE.
For an unlisted company, a specialised valuation technique is used to determine the
fair value of the shares. Any difference between the original cost price and the fair
value of the share or the difference which may originate as a result of subsequent
changes to the fair value, is recognised in the statement of comprehensive income as
a “fair value adjustment”.

Disclose the following i.r.o financial assets:

- name of company
- number and classes of shares owned
- listed or unlisted
- fair value of assets

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Example 5
An example of the note relating to financial assets is set out below:

5. Financial assets
R
Listed
xxx ordinary shares in xxxxx Ltd. 30 000
Unlisted
xxx preference shares in xxxxx (Pty) Ltd. 15 000

45 000

The fair value of listed shares is the market value at which the share traded on the
JSE at year-end.

The fair value of unlisted shares is the current market price as determined by an
independent valuer.

(b) Current assets

(i) Inventory

In respect of inventory disclose:

• accounting policy, including cost formulas

• total carrying amount and carrying amount according to classification
• net realisable value if lower than cost price
• amount of inventory recognised as an expense during the period
• amount of any write-off of inventory
• carrying amount of inventory pawned as security for liability

Example 6
An example of the note relating to inventory is set out below:

6. Inventory
R
Inventory on hand consists of:
- Raw materials 5 000
- Work in progress 7 000
- Finished products 15 200
- Consumable goods 800

28 000

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(c) Equity

(i) Share capital

In respect of share capital disclose:

• number of authorised shares

• number of issued and fully paid shares
• reconciliation of the number of outstanding shares at beginning and end
of year
• rights, preferences and restrictions on shares
• shares held by the company or a subsidiary
• shares reserved for future issues with conditions and amounts
• amount of any share capital or number of shares the directors have been
authorised by the shareholders to issue, in terms of the authorisation and
period for which it was granted.

Example 7
An example of the note relating to share capital is set out below:

7. Share capital
R
Authorised
- XXX Ordinary shares
- XXX Cumulative preference shares

Issued
- XXX Ordinary shares 40 000
- XXX Cumulative preference shares 33 000

73 000

Reconciliation of number of shares

Cumulative
Ordinary Preference
shares shares
Balance – beginning xxx xxx
Issued xxx xx
Repurchased (xxx)
Converted xxx
Balance – closing xxx xxx

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(ii) Other reserves

- Revaluation surplus
- Retained earnings

Refer to example 17 (Statement of changes in equity) for disclosure required.

(iii) Dividends

Dividends, per class of share, paid or declared are disclosed in the statement of
changes in equity. However, the following (if applicable) must also be disclosed in a
note to the financial statements:
• the amount of dividends proposed or declared, after year-end, but before
the financial statements are authorised for issue and thus have not been
recorded in the statement of changes in equity.
• the amount of any cumulative preference dividends in arrears and thus
not recognised.

(d) Non-current liabilities

(i) Long-term loans

• distinguish between interest-bearing and non-interest-bearing loans

• interest rates
• repayment terms (including instalments and renewal dates).

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Example 8
An example of the note on long-term loans is set out below:

8. Long-term loans
R
Secured
10% mortgage loan 50 000

The loan is repayable in xxx (number) equal instalments of xxx each year
on xxxx (date). The interest rate is xx% and the loan is insured by a first
bond on land and buildings with a book value of xxxxx. (Refer to note 2)

Unsecured
Bank loan 10 000

The loan carries interest at (rate) and is repayable on xxxx (date)

60 000
Less: short-term portion shown under current liabilities (5 000)

55 000

(ii) Deferred tax

The balances of the amount of the deferred-tax asset and liability must be analysed for
every kind of temporary difference.

Example 9
An example of the note relating to deferred tax is set out below:

9. Deferred tax
R
Capital allowances 2 500
Prepaid expenses 1 000
Income received in advance 1 500

5 000

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(e) Current liabilities

(i) Provisions

For every category of provisions, the following must be disclosed in the financial
statements:

• the carrying amount of the provision at the beginning and the end of the period
• additions or increases in provisions
• amounts which are set-off / written-back / used against the provisions
• a short description of the nature of the provision and the expected timing of any
related outflow of economic benefit

Example 10
An example of the note relating to provisions is set out below:

10. Provisions
R
Opening carrying amount 2 000
Additional provisions made during the year 1 000

Closing carrying amount 3 000

A provision of R3 000 has been recognised for expected

warranty claims on products sold during the last three years.

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1.14.3 Statement of comprehensive income

This statement consists of the following two sections, namely:

• Profit or loss for the period; and
• Other comprehensive income. Examples include the following:
o revaluation surpluses and deficits
o gains or losses on sale of financial assets

An entity may choose to present income and expenses in one of the following ways:
• a single statement of comprehensive income (to be applied in Financial
Accounting 288), or
• two separate statements displaying profit or loss separately from other
components of comprehensive income.

The single statement of comprehensive income is required to have an analysis of

expenses recognised in profit or loss using either:
• Classification according to nature of expenses (for example,
depreciation, purchases, wages, transport costs etc.)
• Classification according to function of expenses (for example, cost of
sales, distribution costs, administrative expenses).

The classification by function method often provides more relevant information to users
than the classification by nature. (to be applied in Financial Accounting 288). The
minimum classification that is permitted on the face of the statement of comprehensive
income is between cost of sales and other expenses.

Entities classifying expenses by function must provide additional information on the

nature of expenses in the notes to the financial statements. For example, depreciation,
amortisation.

1.14.3.1 Items disclosed on the statement of comprehensive income

The following information should be disclosed on the face of the statement of

comprehensive income:
• revenue
• finance costs
• equity-accounted income
• income tax expense
• profit or loss
• components of comprehensive income
• total comprehensive income

If necessary, the following allocations of profit or loss for the period must be made:
• profit or loss attributable to owners of the parent
• profit or loss attributable to minority interest (to be dealt with later in the
year)

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Additional items may be presented if it leads to a better understanding of the entity’s
financial performance.

Example 11
An example of a company’s statement of comprehensive income (classification
according to nature of expenses) is set out below:

Statement of comprehensive income for the year ended 28 February 2018

Note R

Revenue 9 XXX
Other income XXX
Change in inventory (XXX)
Raw material and consumables used (XXX)
Employee benefits (XXX)
Depreciation and amortisation (XXX)
Other expenses (XXX)
Finance charges (XXX)
Finance income 10 (XXX)

Profit before tax 11 XXX

Income tax expense 12 (XXX)

Profit for the year XXX

Other comprehensive income:

Profit on revaluation of property XXX
Income tax on other comprehensive income (XXX)

Other comprehensive income for the year, net of tax XXX

Total comprehensive income for the year XXX

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Example 12
An example of a company’s statement of comprehensive income (classification
according to function of expenses and to be applied in Financial Accounting
288) is set out below:

Statement of comprehensive income for the year ended 28 February 2018

Note R

Revenue 9 550 000

Cost of sales (137 500)

Gross profit 412 500

Other income 7 000
Other expenses (309 500)
Distribution cost (4 750)
Administrative expenses (19 250)
Finance charges (6 500)
Finance income 10 20 500

Profit before tax 11 100 000

Income tax expense 12 (30 000)

Profit for the year 70 000

Other comprehensive income:

Profit on revaluation of property 20 000
Income tax on other comprehensive income -

Other comprehensive income for the year, net of tax 20 000

Total comprehensive income for the year 90 000

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1.14.3.2 Items disclosed on the statement of comprehensive income or in the
notes

The following items must be specifically disclosed due to their size, nature and
incidence, which users of financial statements need to assess the performance of the
entity:
• write-down of inventory to net realisable value, as well as the reversal
of such a write-down;
• cost of restructuring of activities;
• disposal of property, plant and equipment;
• disposal of investments;
• discontinued operations;
• settlement of litigation, and
• other reversals of provisions.

1.14.3.3 Notes to the statement of comprehensive income

(a) Income
• the accounting policy for the recognition of income
• the main category of income (e.g. sales, rendering of services, interest,
royalties, dividends)

Example 13
An example of the note on income is set out below:

9. Revenue
R

Income represents the net invoiced sales to customers 550 000

(b) Other income and expenses

In respect of other income:

• Distinguish between dividends received from subsidiaries and other financial
assets.
• Examples:
o profit on disposal of property, plant and equipment
o profit i.r.o fair value adjustment of financial assets
o compensation from insurers for loss of property, plant and equipment.

In respect of other expenses:

• Examples
o loss on disposal of property, plant and equipment
o depreciation and amortisation
o operating lease payments (per asset class)
o losses i.r.o fair value adjustment of financial assets
o employee benefit expenses

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 o directors remuneration (distinguish between services as a director and
other services)
o write-down of inventory to net realisable value
o abnormal stock losses

Example 14
An example of the note profit before tax wherein other income and other expenses are
included is set out below:

10. Profit before tax

R
Profit before tax is shown after taking the following items into account:
Income
- Dividends received from subsidiaries 1 500
- Profit on sale of equipment 3 000
- Compensation from insurers for loss of equipment 9 000
- Profit i.r.o fair value adjustment of financial assets 800

Expenses
- Employee benefits 6 300
- Loss on sale of plant 1 500
- Depreciation
- plant 7 500
- equipment 5 000
- Operating lease payments
- vehicles 5 750
- computer hardware 8 000
- Directors remuneration
- for services as director 33 000
- for other services 165 000
- Abnormal stock loss 1 500
- Write-down of inventory to net realisable value 200

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(c) Finance income

• Distinguish between interest from subsidiaries and

• Other interest income (bank accounts, debtors en other financial assets)

Example 15
An example of the note on finance income is set out below:

11. Finance income

R

- Interest from subsidiaries 4 000

- Other interest income 16 500

20 500

(d) Income tax

• different classes of tax (normal tax, deferred tax)
• distinguish between current and previous years’ tax

Example 16
An example of the note on income tax is set out below:

12. Income tax expense

R

SA normal income tax – current year 28 000

- previous year 1 000
Deferred tax movement 1 000

30 000

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1.14.4 Statement of Changes in Equity

An enterprise should present as a separate component of its financial

statements, a statement showing:

Statement of Statement of
financial Present increase or decrease in
financial
position net assets
position
2017 2018
• the total comprehensive income for the period
• for each component of equity, a reconciliation between the carrying
amount at the beginning and the end of the period. The following must
be separately disclosed:
• profit or loss;
• other comprehensive income, and
• amounts of transactions with owners (issue of share capital and
dividends).

In addition, an enterprise should present, either within this statement or in the

notes:
• capital transactions with owners and distributions to owners
• the balance of retained profit or loss at the beginning of the period and at
the Statement of financial position date, and the movements for the
period, and
• a reconciliation between the carrying amount of each class of equity
capital and each reserve at the beginning and end of the period, with
separate disclosure of each movement.

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Example 17
An example of a company’s statement of change in equity is set out below:

Statement of changes in equity for the year ended 28 February 2018

Ordinary Preference Revalu Retained Total

share share ation earnings
capital capital surplus
R R R R R

Balance 25 000 20 000 30 000 137 000 212 000

beginning of
year
Ordinary shares 15 000 - - - 15 000
issued
Preference shares - 13 000 - - 13 000
issued
Total comprehensive
income for the year - - 20 000 70 000 90 000
- Profit for the year - 70 000 70 000
- Other
comprehensive 20 000 - 20 000
income for the
year
Ordinary dividend - - - (12 000) (12 000)
Preference - - - (4 000) (4 000)
dividend
Share issue costs - - - (2 000) (2 000)

Balance end of 40 000 33 000 50 000 189 000 312 000

year

1.14.5 Statement of cash flows

The statement of cash flows must be presented in terms of the requirements

of IAS 7 on Statement of cash flows (which will be addressed later in the year).

1 - 34
1.14.6. Notes to the financial statements

1.14.6.1 Structure

The notes to the financial statements should:

• disclose information about the presentation of financial statements and
basis of presentation
• disclose the information required by IFRS that is not presented elsewhere
in the financial statements
• provide additional information that is not presented on the face of the
financial statements, but that is necessary for a fair presentation.

The notes to the financial statements should:

• be presented in a systematic manner and
• should be identified on the face of the Statement of financial position,
Statement of comprehensive income and Statement of cash flows by
means of cross references.

The notes are normally presented in the following order:

• statement of compliance with IFRS standards
• summary of significant accounting policies applied
• supporting information for items presented on the face of financial
statements
• other disclosure, including non-financial disclosure.

The notes must show the total amounts of dividends declared after year-end but before
the financial statements were authorised for issue. This includes the amount per share.

1.14.6.2 Disclosure

The entity must disclose the measurement basis used to compile the financial
statements in accordance with the conceptual framework in the summary of significant
accounting policies.

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Example 18
An example of an accounting policy note is set out below:

1. Accounting policy

The financial statements have been prepared on the historical-cost method and
in accordance with International Financial Reporting Standards. The accounting
policy is in agreement with the policy followed the previous year and is as follows:

1.1 Property, plant and equipment

Property, plant and equipment is initially recognised at cost price. Revalued land
and buildings are subsequently stated at their revalued amounts. All other plant
and equipment is stated at historical cost less accumulated depreciation. Profits
or losses which originate during the revaluation of property, plant and equipment
is recognised in other comprehensive income and accumulates in the revaluation
reserve in the statement of comprehensive income.

Historical costs include costs directly attributable to the acquisition of property,

plant and equipment. Subsequent costs incurred are recognised as part of the
carrying amount of the asset, only if it is probable that the economic benefits
related to the costs flows to the entity and the costs can be measured reliably.

No depreciation is written off on fixed property. Depreciation on vehicles is written

off according to the straight-line method and has a useful life of x years.
Depreciation on equipment is written off at x% per year and according to the
diminishing-balance method.

The residual values of assets are reviewed annually at the financial reporting date
and adjusted if necessary. Any profit or losses on derecognition are recognised
as part of the profit or loss in the statement of comprehensive income.

1.2 Financial assets

Financial assets are measured at fair value. Listed shares are measured at
market value. Every year unlisted investments are measured at net realisable
value as determined by an independent valuer.

1.3 Inventory

Inventory is valued at the lowest of cost price and net realisable value. Cost price
is calculated according to the xxxxx method, which is in accordance with the
previous year.

1.4 Income

Income is recognised as soon as products have been delivered or services

rendered.

1 - 36
 1.5 Intangible assets

1.5.1 Internally generated intangible assets

Internally generated fixed assets have a finite useful life and are accounted for
at cost less accumulated amortisation.
Amortisation is provided for over the useful life of development costs, being 20
years.

1.5.2 Purchased intangible assets

Purchased patents and licences have a finite useful life and are carried at cost
less accumulated amortisation.
Amortisation is provided for over the useful life, being 10 years

1.14.6.3 Other disclosure

The following (if applicable) should also be disclosed in a note to the financial
statements:
• the amount of any dividends declared, after year-end, but before the financial
statements have been authorised for issue, and therefore not recorded in the
statement of changes in equity, and
• the amount of any cumulative preference dividends in arrears and not
recognised.

The following should be published with the financial statements:

• domicile of the entity
• legal form
• country of incorporation
• address of registered office or place of business
• description of the nature of the enterprise's operations and main activities
• names of the enterprise's immediate and eventual parent enterprises.

The financial statements must be clearly identified from other information in the
company’s annual report, therefore it is necessary to repeatedly disclose the following
information:
• name of the company
• time period covered by the financial statements
• currency that information is reported in
• level of rounding used in the disclosure of amounts in the financial statements.

1 - 37
 1.15 SCHEMATIC REPRESENTATION

IAS 1

Statement of
Statement of Statement of changes in Statement of
comprehensive financial equity cash flows
income position

Notes to the financial statements

1 - 38
 C. IFRS FOR SMEs

1.16 BACKGROUND

IFRS for SME’s is a stand-alone standard that was published for the first time in July
2009. The purpose of this standard was to simplify the complex and lengthy full IFRS
standards. Financial statements complying with IFRS for SME’s are more general
purpose statements, but still of a high quality. Only entities that qualify as Small and
Medium-sized Entities (SME’s) in terms of the IFRS for SME’s, can apply it.

The following constitutes a brief overview of the selection process of IFRS for SMEs
as an appropriate reporting framework for companies in South Africa:

Categories of companies that may consider IFRS for SMEs as reporting framework:

• Non-profit company;
• Public company;
• Personal liability company; and
• Private company

Prerequisites for selection of IFRS for SMEs:

(1) Adherence to the scope of IFRS for SMEs:

o No public accountability
o Publishes general purpose financial statements for external users

AND

(2) Public interest score requirements (PI-score)

A Small and Medium-sized Entity is therefore an entity that:

• does not have public accountability; and

• publishes general purpose financial statements for external users.

Public accountability

For purposes of IFRS for SME’s an entity is deemed to have public accountability if:

• its debt or equity instruments are traded in a public market (i.e. the JSE) or it is
in the process of issuing debt or equity instruments for trading in a public
market; or
• it holds assets for a broad group of outsiders in a fiduciary capacity (i.e. financial
institutions).

1 - 39
General purpose financial statements

General purpose financial statements gives information about an entity that are useful
for a wide range of users, therefore none of them can demand tailor made reports to
meet their specific information needs.

The purpose of these financial statements is to assist a wide range of users in making
economic decisions by providing them with information on the financial position,
performance and cash flow of the entity. The focus of the IFRS for SME was therefore
developed keeping the following main users in mind:

• banks lending money to the SME;

• vendors selling products/services to the SME;
• credit rating agencies;
• customers deciding to do business with the SME; and
• the shareholders/owners of the SME that are not involved in managing the SME.

These users would typically be more interested in the short term cash flows, liquidity,
statement of financial position strength and historical profits and losses than the
information needed for the forecasting of long term cash flows, profits and value
typically linked to companies with public accountability.

1.17 DIFFERENCES BETWEEN FULL IFRS AND IFRS FOR SME’s

Since the main purpose of the IFRS for SME standard was to provide a simpler option
for financial reporting without compromising too much on quality, it was built with full
IFRS as a starting point. Types of simplifications compared to full IFRS are:

• some topics being omitted as it is not relevant to a typical SME (e.g. Earnings
per share (IAS 33));
• some accounting policy options not allowed, since a simpler method is
available to SME’s;
• many recognition and measurement principles simplified;
• substantially fewer disclosure requirements; and
• restatements made simpler.

The simplifications were based on:

• typical user needs (more short-term related); and
• cost-benefit maximisation.

Intangible assets:
IFRS for SME’s excludes the possibility of an indefinite life. All indefinite-intangible
assets and goodwill must be amortised over a maximum useful life of ten years. IFRS
for SME’s does not allow the capitalisation of any development costs – it must be
recognised as an expense in the year accrued.

Borrowing costs
IFRS for SME’s does not allow the capitalisation of any borrowing costs – it must be
recognised as an expense in the year accrued.

1 - 40
 CHAPTER 1

INTRODUCTION TO THE PREPARATION AND

PRESENTATION OF FINANCIAL STATEMENTS

QUESTIONS

Page

Question 1.1: Theory and application: asset and liability 42

Question 1.2: Theory and application: asset, expense, correction 43

Question 1.3: Theory and application: asset and liability 44

IFRS for SMEs

1 - 41
QUESTION 1.1

You are the accountant of Extec Ltd. Your company has a 31 October year-end and
provides hydro-electricity to certain parts of South-Africa.

You obtain the following information:

1. On 31 October 2019 Extec Ltd. took out a loan and on the same day, used the
funds to purchase an administration office building. The negotiations for the
purchase of the building already started on 20 October 2019 but the sale deed was
only signed on 31 October 2019, and ownership transferred to the purchaser. The
office building will mainly be used by die administrative personnel of Extec Ltd. and
will be used for management meetings. The loan was taken out at BB Bank and on
31 October 2019 the loan agreement was signed, and the money was received.
According to the loan agreement, the loan must be paid back in 60 evenly monthly
instalments.

YOU ARE REQUIRED TO:

Discuss, in terms of the Conceptual Framework for Financial Reporting, the
classification of the administration office building as well as the loan relating to the
transaction in information no. 1 in the statement of financial position of Extec Ltd. as at
31 October 2019.
You do not need to discuss the recognition criteria.

1 - 42
QUESTION 1.2

Date Designers is an enterprise that prints and sells diaries. The diaries are printed
with the next year’s dates in August each year and distributed to shops from November.
During the current financial year (year end 28 February 2011) there was a printing error
on the first 10 000 diaries printed for 2011.The date in the diaries was accidently
printed as 2010 and not 2011.

The 10 000 diaries cannot be sold or used for anything else.

The following 70 000 diaries’ dates were corrected and there were no other errors
during the printing process.

The accountant recognised the 70 000 diaries as inventory and the 10 000 diaries as
an expense.

The cost to print one diary is R45 and has been already paid in cash.

YOU ARE REQUIRED TO:

Discuss whether the accountant's accounting treatment of the 80 000 diaries was
correct. In your answer refer to the relevant definitions and recognition criteria of all the
applicable elements of the 80 000 diaries.

1 - 43
QUESTION 1.3

PART A

You own a garden services business and want to buy a new lawn mower worth R6 000.
Unfortunately you do not have the necessary cash at this stage. You make an
arrangement with the seller whereby you will mow his lawn free for 6 months as
payment for the lawn mower.

YOU ARE REQUIRED TO:

Identify the elements involved in the above transaction at the start of the agreement.
Support your answer with reference to the definitions of the elements as well the
recognition requirements.

PART B

The following statements are made:

1.None of the companies listed on the JSE may use IFRS for SMEs for preparation
of their financial statements.

2.A company qualifies as an SME in South Africa if it is not listed on the JSE, but
only on the bourse in Botswana, and uses IFRS for SMEs to prepare their
financial statements.

YOU ARE REQUIRED TO

Indicate for each of the abovementioned statements if you agree or not, as well as
provide a reason for your answer.

1 - 44