Exercise 1.11DEFINITIONS OF ELEMENTS AND RECOGNITION CRITERIA

Explain how you would account for the following items, justifying your answer by reference to the Conceptual Frameworks definitions and recognition criteria:(a)A trinket of sentimental value only.(b)You are guarantor for your friends bank loan:(i) You have no reason to believe your friend will default on the loan.(ii) As your friend is in serious financial difficulties, you think it likely that he will default on the loan.(c)You receive 1000 shares in X Ltd, trading at $4 each, as a gift from a grateful client.(d)The panoramic view of the coast from your cafs windows, which you are convinced attracts customers to your caf.(e)The court has ordered your firm to repair the environmental damage it caused to the local river system. You have no idea how much this repair work will cost.

(a)Trinket of sentimental value Fails the para 49(a) asset definition as it does not constitute future economic benefits, defined in para 53 as the potential to contribute, directly or indirectly, to the flow of cash and cash equivalents to the entity. Recognition criteria are irrelevant, as there is no asset to recognise.

(b)Guarantor for friends loan

(i)Friend unlikely to default on his loan Meets the para 49(b) liability definition: (1) present obligation legal obligation via the guarantor contract; (2) past event signing the guarantor contract; (3) settlement involving outflow of economic benefits payment of the guarantee. Fails probability recognition criterion, as it is not likely that you will be required to pay on the guarantee. Hence, no liability can be recognised. However, note disclosure of the guarantee may be warranted (para 88).

(ii)Friend likely to default on his loan Again, meets the liability definition as per (i) above. Meets both recognition criteria probable that outflow of economic benefits will be required, and settlement amount can be reliably measured (amount owing). Hence, a liability should be recognised. Also meets the expense definition and recognition criteria. Definition: (1) decrease in economic benefits in the form of a liability increase you now owe the amount of your friends loan; (2) during period the liability increase arose during period; (3) results in equity decrease if liabilities increase and assets do not change, equity decreases. Recognition criteria: The decrease in future economic benefits has arisen, as you now owe the amount of your friends loan. The bank can advise exactly how much your friend owes and so it can be reliably measured.

(c)Receipt of 1000 shares in X Ltd, trading at $4 each, as a gift from a grateful client. The receipt of the shares meets the asset definition: (1) represent FEBs (via future sales or dividend stream); (2) controlled by you (only you can benefit from either selling them or receiving dividends); (3) past event (their receipt). They also meet the asset recognition criteria: probable that FEBs will eventuate (via sale or dividend stream); and the shares have a value (they are trading at $4 each) that can be reliably measured (this value can be verified via stock exchange etc.). The shares also meet the income definition and recognition criteria. Definition: (1) increase in EBs in the form of an asset increase you now own the shares; (2) during period the shares were received during period; (3) results in equity increase if assets increase and liabilities do not change, equity increases. Recognition criteria: The increase in FEBs has arisen, as you now own the shares (asset). The shares value is known and so can be reliably measured.

(d)Cafs panoramic view The view fails the definition as the entity does not control the FEBs that are expected to flow from the view the entity cannot deny or regulate access by others to the view. Recognition criteria are irrelevant, as there is no asset to recognise.

(e)Court order to repair environmental damage caused to the local river system. You have no idea how much this repair work will cost. The court order meets the liability definition: (1) present obligation legal obligation; (2) past event order has been made; (3) settlement will involve outflow of EBs future payment for repair of damage. Fails reliable measurement recognition criterion, as you have no idea as yet how much the repair work will cost. Hence, no liability can be recognised. However, note disclosure of the court order may be warranted (para 88). However, if you know a minimum amount that you will have to pay, then the reliable measurement criterion is met for this amount. The probability criterion is met as it is certain (given that you have been ordered by the court) that you will have to pay the repair cost. Again, note disclosure may still be warranted advising that the cost may be well in excess of this amount.

Exercise 3.1VALUATION PREMISE FOR MEASUREMENT OF FAIR VALUE

Discuss how you would measure these fair values.

1.Determine the asset or liability that is the subject of measurement:In this case, there are 2 assets that could be measured at fair value, namely land and factory. An alternative would be to consider the land and the factory as a single asset.

2.Determine the valuation premise consistent with the highest and best useThe land could be sold for residential purposes for an estimated $1m. Given the cost to demolish the existing factory of $100000, the land could be sold for residential purposes for $900000. Measuring fair value in this fashion assumes a specific use and is based on an in-exchange valuation premise as the land is considered on a stand-alone basis.

The land and factory could also be sold as a package for use by market participants in conjunction with other assets. The factory has been depreciated by the reporting entity to half its original cost. Given the cost to build a new factory is $780000, a depreciated replacement cost of the existing factory could be said to be $390000. However as the factory could presumably be viably built on a cheaper block of land i.e. one not usable for residential purposes, it is unlikely that there is a market for the land and the factory on an in-use basis. A market participant would be forced to pay the $900000 for the factory and the land given the alternative use of the land for residential purposes.

3.Determine the most advantageous market for the assetsThe most advantageous market would appear to be the selling of the property for residential purposes.

4.Determine the valuation techniqueThe market approach would be the appropriate valuation technique given that there are observable market inputs in relation to the selling prices of similar properties.

The land has a fair value based on market prices for similar properties of $900000. The factory has a zero fair value as a separate asset.

Example 3.2 of the Illustrative Examples considers a similar situation to this case.

The highest and best use of the land is determined by comparing:(i)the value of the land as a vacant block for residential purposes which would include the factory at a zero fair value, and(ii)the value of the land as currently developed for industrial use which would include the factory as an ongoing asset.

The highest and best use is the higher of these two values.

If (i) is chosen, then the factory has a zero fair value and no subsequent depreciation would be determined.If (ii) is chosen, then it would be necessary to determine the fair value of the land separate from the fair value of the factory in order to depreciate the factory. It could be argued that that the fair value of the factory equals the difference between the fair value of the land for residential purposes and the fair value of the combined assets.

Exercise 3.4CHARACTERISTIC OF AN ASSET

Outline any provisions in IFRS 13 that relate to consideration of restrictions on the measurement of fair value of assets, and how the situation described above the restrictions would affect the measurement of the fair value of the property by MedSea.

The relevant paragraphs of IFRS 13 are: 11, 20, 28(b) as well as BC46 and BC100A definition of these paragraphs is given in the relevant sections for IFRS 13

Note that the adjustment for a restriction is not a level 1 input, and if the adjustment is significant, the fair value measure would be categorised at a lower level of the fair value hierarchy.

The asset considered in this case is the house and the land. There are no restrictions on the house but there are restrictions on the land. There are 2 restrictions on the land:-the trees cannot be cut down until Mr Merman dies; and-there is a gas pipeline across one corner of the land.

The restriction on the cutting down of the trees is enforceable on MedSea but not on any subsequent buyers of the property. Because the restriction is specific to MedSea and not to other market participants the restriction is not considered in measuring the fair value of the property fair value measurement is not entity-specific. Therefore the fair value of the land is based on the higher of its fair value as the grounds of the current property, ie on an in-use valuation premise and its fair value in exchange to market participants ie on an in-exchange valuation premise, considering the use of the property as a residential building site. The restriction on the property in relation to the felling of the trees is not a consideration in this measurement process.

The restriction in relation to the gas pipeline is a condition specific to the asset itself in the same way as the condition or location of an asset is specific to an asset. This restriction is transferred to subsequent buyers of the property, the market participants. Measurement of the fair value of the property must then take into consideration the existence of the restriction and the effect on the valuation of the property. For example, if a building cannot be built over the pipeline as the gas authorities may need access to the pipeline, then this restricts the size of any building that could be built on the property. This affects the value of the land regardless of whether an in-use or an in-exchange valuation premise is applied.

Exercise 9.11APPLYING THE LOWER OF COST AND NRV RULE

Calculate the value of inventory on hand at 30 June 2013 in accordance with the requirements of IAS 2.

(NRV = estimated selling price less cost of completion and disposal)

ItemQtyCost per unitTotal CostNRV per unitTotal NRVLowerAdjust

$$$$$

A14586002.301 380.003.261 956.00Cost-

A19658153.402 771.002.952 404.25NRV366.75

B67307497.345 498.669.056 778.45Cost-

DO943981.23120.540.8886.24NRV34.30

G81231563.56555.365.03784.68Cost-

W21671 4926.129 131.047.3010 891.60Cost-

Therefore, inventory on hand would be:

Inventory (at cost)$16 565.06Inventory (at NRV) 2 490.49Total inventory$19 055.55

Exercise 11.5REVALUATION OF ASSETS

1. Prepare the journal entries during the period 1 July 2014 to 30 June 2015 in relation to the equipment2. According to accounting standards, on what basis may management change the method of asset measurement, for example from cost to fair value

1.Sonner Ltd31 December 2014

Depreciation expense Machine ADr15 000Accumulated depreciationCr15 000(1/2 x 10% x $300 000)

Depreciation expense Machine BDr10 000Accumulated depreciationCr10 000(1/2 x 10% x $200 000)

Machine AMachine B

Cost300 000Cost200 000Accum depn135 000Accum depn40 000165 000160 000Fair value180 000Fair value155 000Increment15 000Decrement5 000

Accumulated depreciation Machine ADr135 000Machine ACr135000(Writing the asset down to carrying amount)

Machine ADr15 000Gain on revaluation of machinery (OCI)Cr15 000(Revaluation of asset)

Income tax expense gain on revaluation of asset (OCI)Dr4 500Deferred tax liabilityCr4 500(Tax-effect of revaluation)

Gain on revaluation of machinery (OCI)Dr15 000Income tax expense (OCI)Cr4 500Asset revaluation surplus Machine A Cr10 500(Accumulation of net revaluation gain in equity)

Accumulated depreciation Machine BDr40 000Machine BCr40 000(Writing the asset down to carrying amount)

Loss revaluation decrement (P/L)Dr5 000Machine BCr5 000(Revaluation of machine from $200 000to $155 000)

30 June 2015

Depreciation expense Machine ADr15 000Accumulated depreciationCr15 000(1/6 x x $180 000)

Depreciation expense Machine BDr15 500Accumulated depreciationCr15 500(1/5 x x $155 000)

Machine A$Machine B$Carrying amount165 000Carrying amount139 500Fair value163 000Fair value136 500Decrement2 000Decrement3 000

Accumulated depreciation Machine ADr15 000Machine ACr15 000(Writing down to carrying amount)

Loss on revaluation of machinery (OCI)Dr2 000Machine ACr2 000(Revaluation downwards)

Deferred tax liabilityDr600Income tax expense (OCI)Cr600(Tax-effect of revaluation decrement on assetpreviously revalued upwards)

Asset revaluation surplus Machine ADr1 400Income tax expense (OCI)Dr600Loss on revaluation of machinery (OCI)Cr2 000(Reduction in accumulated equity due to revaluation decrement)

Accumulated depreciation Machine BDr15 500Machine BCr15 500(Writing down to carrying amount)

Loss revaluation decrementDr3 000Machine BCr3 000(Writing down to fair value)

2: Basis for change in accounting policy

Refer to IAS 8 paragraph 9.(?? IAS 116 paragraph 31)

Discuss the cost basis method and the fair value method in relation to the relevance and reliability of information.

Current information is generally more relevant than past information. Determination of cost is generally more reliable than determination of fair value.

Discuss the trade-off between relevance and reliability, that is, as information becomes less reliable it also loses its relevance. A fair value measure may, because of its timeliness, be more relevant but if the measure becomes more unreliable, the relevance of the information decreases.

Exercise 11.14DEPRECIATION CALCULATION

1. Discuss how the costs relating to the aircraft should be accounted for2. Determine the expenses recognised for the 2014-2015 financial year.

1. Discuss:- the advantages of a components approach versus a simple depreciation of the $10 million dollars over the 10-year period.- the treatment of the upgrades of cockpit equipment- accounting for inspections

2. Aircraft body:

Annual expense of $5000 for inspection for cracksDepreciation expense = 1/10 (3 000 000 3/7 x $2 100 000) = $210 000

Engines:

Depreciation expense = 4 000 000/4 = $1 000 000Maintenance expense = $300 000

Fittings

Seats: Depreciation = 1/3 x $1 000 000 = $333 333Annual expense = $100 000Carpets: Depreciation = 1/5 x 50 000 = $10 000Cleaning = $10 000

Electrical: PassengerAnnual expense = $15 000Depreciation = 1/6 x $200 000 = $33 333Electrical: CockpitAnnual expense = $250 000Depreciation = 1/10 x $1 500 000 = $150 000

Food preparation equipment:

Annual expense = $20 000Depreciation = 250 000/6 = $41 667

For the 2014-15 year:

Total other expenses = $700 000Annual depreciation = $778 333

Exercise 11.17ACQUISITIONS, DISPOSALS, DEPRECIATION

(show all workings and round amounts to the nearest dollar)Prepare journal entries to record the transactions and events for the period 1 July 2013 to 30 September 2016 (Narrations are not required.)

Meerbeck Ltd

General journal entries

DATEDETAILSDrCr

2013

1 JulyEquipment39 800

Cash39 800

5 JulyEquipment4 200

Cash4 200

2014

30 JuneDepreciation Equipment4 220

Accumulated depreciation - Equipment4 220

($44 000 $1 800)/10 = $4220

2015

30 JuneDepreciation Equipment12 900

Accumulated depreciation - Equipment12 900

{($44 000 $1200)/4 = $8560 + prospective adjustment for change in estimates [$8560 4220] = $4340}

30 JuneAccumulated depreciation Equipment17 120

Equipment(Write down to carrying amount)

17 120

Equipment3 120

Gain on revaluation of equipment (OCI)3 120

(Fair value $30 000; Carrying amount $26 880; Revaluation increase $3120)

Income tax expense (OCI)936

2016 Deferred tax liability(Tax-effect of revaluation increment)

Gain on revaluation of equipment (OCI)Income tax expense (OCI)Asset revaluation surplus(Transfer to accumulated equity subsequent to revaluation of asset)

3 120

936

9362184

30 JuneDepreciation Equipment9 600

Accumulated depreciation Equipment9 600

($30 000 $1200)/3 = $9600

2016

30 JuneAccumulated depreciation Equipment9 600

Equipment9 600

(Write down to carrying amount)

Loss on revaluation of plant (OCI)Loss on revaluation of plant (P&L)Plant(Fair value $16 000; Carrying amount $20 400; Revaluation decrease $4400)

Deferred tax liabilityIncome tax expense (OCI)(Tax effect on decrement relating to prior increment)

Asset revaluation surplus31201280

936

2 184

4 400

936

Income tax expense (OCI)936

Loss on revaluation of plant (OCI)(Reduction in accumulated equity due to devaluation of plant)3 120

2016

30 SeptDepreciation expense Equipment1 850

Accumulated depreciation - Equipment1 850

3/12 x [$16 000 $1200]/2

Accumulated depreciation Equipment1 850

Carrying amount of Equipment14 150

Equipment16 000

Cash8 400

Proceeds on sale Equipment8 400