THE INSTITUTE OF CHARTERED ACCOUNTANTS, GHANA NOVEMBER 2015 PROFESSIONAL EXAMINATIONS EXAMINERS GENERAL COMMENTS CORPORATE REPORTING (3

THE INSTITUTE OF CHARTERED ACCOUNTANTS, GHANA NOVEMBER 2015 PROFESSIONAL EXAMINATIONS EXAMINERS GENERAL COMMENTS CORPORATE REPORTING (3.1) GENERAL PE...
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THE INSTITUTE OF CHARTERED ACCOUNTANTS, GHANA NOVEMBER 2015 PROFESSIONAL EXAMINATIONS EXAMINERS GENERAL COMMENTS CORPORATE REPORTING (3.1)

GENERAL PERFORMANCE Generally, there was improvement in performance as compared to previous diets. However, performance in centres outside Accra continued to be poor; probably effective tuition was lacking in those areas. There was no similarity of answers to suggest any possible copying. STANDARD OF THE QUESTION PAPER Consistency This paper covered all the topics in the syllabus unlike the previous diet which did not examine forty five percent of the topics in the syllabus. Ambiguities/Errors Generally the questions were clear in their requirements. However, b of question 2 b) stated, “Explain the FOUR (4) criteria that need to be satisfied before expenditure can be recognised as an intangible asset under IAS 38”. It should be noted that IAS 38 specifically identified only two (2) criteria. No doubt, this requirement made many candidates produce criteria which were not part of IAS 38.

COVERAGE OF THE SYLLABUS The questions were spread well enough to cover all areas of the syllabus. The syllabus weightings were fully respected in this diet. Refer to the Table of Weightings below: Table of Weightings Question No.

Topic

1.

Consolidated statements

Paper Weighting

Syllabus Weighting

Diff.

financial 20

20

-

2a 2b&c

Financial reporting framework Financial reporting standards

5 20

5 20

-

3

Current development in financial reporting

15

15

-

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4

5a&b 5c&d

Specialised entities and specialised transactions Appraisal of financial performance The Professional and ethical duties of an accountant

15

15

-

15

15

-

10

10

-

100

100

-

Totals

STRENGTHS OF CANDIDATES Candidates showed improved understanding of the techniques of consolidation and scored high marks in that area. WEAKNESSES OF CANDIDATES Weaknesses of candidates can be summarized as follows: i. Candidates were weak in integrated reporting, social and environmental reporting, professional ethics and accounting for financial instruments. ii. Some candidates showed lack of effective time management in answering questions. They spent too much time on questions they believed they could handle; this left them little time to tackle other questions satisfactorily. iii. Some candidates answered the same question on several non-consecutive pages without cross-referencing the pages. Also, some answered two different questions on the same page. These show that they jumped into answering the questions without proper planning. iv. Some candidates did not prepare adequately for the examination and as a result scored very low marks.

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THE INSTITUTE OF CHARTERED ACCOUNTANTS, GHANA NOVEMBER 2015 PROFESSIONAL EXAMINATIONS CORPORATE REPORTING QUESTIONS

QUESTION ONE

The consolidated statement of financial position of SCANAS Ltd Group as at 31 December 2014 and the comparative for 2013 are shown below: 2014

2013

GH¢’000

GH¢’000

16,800 2,900 8,000 27,700

15,600 2,400 7,800 25,800

11,600 9,400 2,200 1,400 24,600

12,000 8,200 1,800 4,100 26,100

52,300

51,900

Non-controlling interest Total equity

14,800 400 7,300 22,500 6,500 29,000

10,000 400 6,300 16,700 6,100 22,800

Non-current liabilities: Long term loans

14,000

18,000

8,700 600 9,300

10,200 900 11,100

Assets Non-current assets: Property, plant and equipment Goodwill Investment in associate Current assets: Inventories Account Receivables Held for trading investment Cash and cash equivalent

Total assets Equity and Liabilities Equity attributable to owners of the parent: Ordinary shares (issued at GH¢1.00) Capital surplus Retained earnings

Current liabilities: Account Payables Income tax

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Total liabilities

23,300

29,100

Total equity and liabilities

52,300

51,900

The consolidated income statement for SCANAS Ltd for the year ended 31 December 2014 is shown below: GH¢’000 Revenue

12,000

Cost of sales

(8,400)

Gross profit

3,600

Distribution costs

(400)

Administrative expenses

(1,260)

Finance costs

(450)

Share of profit of associate

500

Profit before tax

1,990

Income tax

(600)

Profit for the year

1,390

Attributable to: Owners of the parent

1,200

Non-controlling interest

190 1,390

Additional information: (i)

There were no disposals of property, plant and equipment in the year. Depreciation charged in arriving at profits totaled GH¢1,800,000.

(ii) SCANAS Ltd acquired 90% of the ordinary shares of AT Ltd on 1 September 2014 for a cash consideration of GH¢460,000 plus the issue of 1 million ordinary share of SCANAS which had a deemed value of GH¢3.60 per share at the date of acquisition. The fair values of the net assets acquired were as follows: GH¢’000 Property, plant and equipment Inventories

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800 2,200

Receivables Cash and cash equivalents Payables

700 200 (500) 3,400

SCANAS Ltd made no other purchases or sales of investments in the year. The group policy is to value the net assets.

(iii)Finance costs include interest on loans and any gains on held for trading investments. All interest due was paid in the year.

Required: Prepare the consolidated statement of cash flows for SCANAS Ltd for the year ended 31 December 2014. (20 marks)

QUESTION TWO

a) The International Accounting Standards Board (IASB) Conceptual Framework for Financial Reporting sets out the concepts that underlie the preparation and presentation of financial statements for external users.

Required: Discuss the relevance and possible limitations of the Conceptual Framework for Financial Reporting.

(5 marks)

b) IAS 38 Intangible assets deals with the recognition and subsequent measurement of intangible assets.

Required: a. Explain the term ‘intangible asset’, and state the intangible assets that fall within the scope of IAS38.

(2 marks)

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b. Explain the FOUR (4) criteria that need to be satisfied before expenditure can be recognised as an intangible asset under IAS 38.

(8 marks)

c) Alafia Limited issued a GH¢5,000,000 18% convertible loan note at par on 1 January 2012 with interest payable annually in arrears. Three years later, on 31 December 2014, the loan note becomes convertible into equity shares on the basis of GH¢100 of loan note for 50 equity shares or it may be redeemed at par in cash at the option of the loan note holder. The financial accountant of Alafia Limited has observed that the use of a convertible loan note was preferable to a non-convertible loan note as the latter would have required an interest rate of 24% in order to make it attractive to investors.

The present value of GH¢1 receivable at the end of the year, based on discount rates of 18% and 24% can be taken as: Year

18%

24%

1

0.847

0.806

2

0.718

0.650

2

0.609

0.524

Required: (i) Show the accounting treatments for the convertible loan note in Alafia Limited’s income statement for the years ended 31 December 2012, 2013 and 2014; and the statement of financial position as at 31 December 2012, 2013 and 2014. (8 marks)

(ii) Pass journals to record entries at the end of 2014 assuming (i)

The share option is taken

(1 mark)

(ii)

The loan is repaid

(1 mark)

[Total = 25 marks]

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QUESTION THREE a) International Integrated Reporting Council’s long term vision is a world in which integrated thinking is embedded within mainstream business practice in the public and private sectors. The cycle of integrated thinking and reporting, resulting in efficient and productive capital allocation, will act as a force for financial stability and sustainability. Many are those who think that the concept of integrated reporting should be given prominence and if possible, legislated and made compulsory for all listed entities.

Required: i) Describe the scope of integrated reporting; and

(2 marks)

ii) Discuss the benefits of integrated reporting to preparers and users of financial statements. (4 marks)

b) High quality corporate reporting has become an important issue for many corporate entities. However, the recommendations to improve it are sometimes questioned on the basis that the marketplace for capital can determine the nature and quality of corporate reporting. It could be argued that additional accounting and disclosure requirements would only distort a market mechanism that already works well and would add costs to the reporting mechanism, with no apparent benefit. On the contrary, it could also be argued that increased disclosure reduces risks and offers a degree of protection to users. However, increased disclosure has several costs to the preparer of financial statements.

Required: Discuss the relative costs to the preparer and benefits to the users of financial statements of increased disclosure of information in financial statements.

(4 marks)

c) One of the current issues in accounting is the concept of social and environmental reporting. Many are those who think that the concepts of social and environmental reporting should be given prominence and if possible, legislated and made compulsory for all listed entities.

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Required: i) Describe the nature of social and environmental reporting?

(2 marks)

ii) Discuss the relevance of social and environmental reports to users of financial statements. (3 marks)

[Total = 15 marks]

QUESTION FOUR

a) Describe the primary objective of current cost accounting.

(2 marks)

b) Using relevant examples, clearly distinguish between monetary items and non-monetary items as they relate to accounting for price-level changes.

(2 marks)

c) An entity is considering adjusting its historical cost based financial statements to reflect economic reality. Make an argument for and against the use of current purchasing power accounting as a method of adjusting financial statements for price-level changes. (4 marks)

d) The following information relate to the business of Joe and Joy who operate a firm that buys and sells batik shirts. The financial position of the firm, as revealed by the statement of financial position as at 31 December 2013 using historical cost measurements, was as follows: GH¢ Share capital: Joe

1,000

Joy

800 1,800

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GH¢ Non-current Assets Inventory

1,200 600 1,800

The non-current asset shown on the statement of financial position was acquired on 31 December 2013 and has an estimated life of 5 years, with no scrap value.

Data recorded in respect of the year ended 31 December 2014 is as follows: GH¢ Sales

2,200

Purchases at historical cost

700

Closing inventory: at historical cost

220

at replacement cost

270

Cost of goods sold at replacement cost

1,200

It was also estimated that the replacement cost of non-current assets had risen to GH¢1,400 by 31 December 2014.

Required:

Prepare an income statement for the year ended 31 December 2014 and a statement of financial position as at 31 December 2014 using:

(i) Historical cost accounting; and

(3 marks)

(ii) Current cost accounting.

(4 marks)

[Total = 15 marks]

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QUESTION FIVE

a) It has been suggested that ratio analysis is not necessarily the best way of assessing a company’s performance.

Required: i) Describe TWO ( 2 ) items of information which should be looked at to make ratio analysis more meaningful.

(3 marks)

ii) Explain FOUR (4) limitations of the use of accounting ratios in appraisal of financial performance.

(4 marks)

b) Below are the financial ratios for the year 2014 for Nyentieobia Limited, a company engaged in the buying and shipment of shea butter products. The ratios for the industry have also been provided. Nyentieobia Limited 0.52:1 1.20:1 46 days 70 days 58 days 3.6% 85% 1.4 times 18% 8% 28% 4.2 times

Quick ratio Current ratio Debtors collection period Creditors payment period Inventory holding period Dividend yield Debt to equity Dividend cover Gross profit margin Net profit margin Return on capital employed Net assets turnover

Industry Average 0.84:1 1.80:1 41 days 50 days 48 days 9% 45% 3.4 times 28% 12.8& 14% 1.9 times

Required: Provide an assessment of Nyentieobia Limited in comparsion with the industry in respect of profitability, liquidity, efficiency and shareholders’ investment. (8 marks)

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c) The directors of Muni Limited are involved in takeover talks with another entity. In the discussions, one of the directors stated that there was no point in an accountant studying ethics because the profession already has a set of moral beliefs that are followed and these are created by simply following generally accepted accounting practice. He further stated that in adopting a defensive approach to the takeover, there was no ethical issue in falsely declaring Muni Limited’s profits in the financial statements used for the discussions because, in his opinion, the takeover did not benefit the company, its executives or society as a whole.

Required: Discuss the above views of the director regarding the fact that there is no point in an accountant studying ethics and that there was no ethical issue in the false disclosure of accounting profits. (5 marks)

d) Accounting professionals are responsible for acting in the public interest, and for promoting professional ethics. The directors of Jungle Limited feel that when managing the affairs of a company the profit motive could conflict with the public interest and accounting ethics. In their view, the profit motive is more important than ethical behaviour and codes of ethics are irrelevant and unimportant.

Required: Discuss the views of the directors regarding the fact that codes of ethics are irrelevant and unimportant.

(5 marks)

[Total = 25 marks]

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SUGGESTED SOLUTIONS QUESTION ONE SCANAS Ltd Group Consolidated Statement of cash flows for the year ended 31 December 2014 GH¢’000 GH¢’000 Cash flow from operating activities Profit before tax 1,990 Adjustment for non-cash and non-operating items: Depreciation 1,800 Goodwill impairment 500 Share of profit of associate (500) Gain on held for trading investment [2,200-1,800] (400) Changes in working capital: Decrease in inventory [11,600-2,200] -12,000 2,600 Increase in receivables [9,400-700] -8,200 (500) Decrease in payables [8,700-500] -10,200 (2,000) Cash inflow from operating activities Taxation paid [900+600-600]

3,400 (900)

Net cash inflow from operating activities

2,590

Cash flow from investing activities Acquisition of PPE [16,800 – 15,600 – 800 + 1,800] Acquisition of subsidiary, net of cash acquired [460 -200] Dividend received from associate [7,800+500-8,000] Cash outflow from investing activities

(2,200) (260) 300

Cash flow from financing activities Proceeds from issue of shares [10,000+8,600-14,800] Dividend paid to shareholders of parent Dividend paid to non – controlling shareholders Loan repayment [18000-14000] Cash outflow from financing activities

1,200 (200) (130) (4,000)

Net decrease in cash and cash equivalents Cash and cash equivalents at 1 January 2014 Cash and equivalents at 31 December 2014

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(2,160)

(3,130) (2,700) 4,100 1,400

Workings [All in GH¢’000] 1)

Goodwill

Opening balance Arising on acquisition

2,400 1,000 3,400 (2,900) 500

Closing balance Impairment 2)

Goodwill on acquisition Consideration transferred [1 m shares x GH¢3.60+GH¢460,000 Non-controlling interest [10% of GH¢3,400.000] Value of net assets acquired Goodwill

3)

4,060 340 4,400 (3,400) 1,000

Changes in working capital Balance b/f On acquisition Balance c/d Increase/(decrease)

Inventories 12,000 2,200 14,200 11,600 (2,600)

Receivables 8,200 700 8,900 9,400 500

Payables 10,200 500 10,700 8,700 (2,000)

EXAMINER’S COMMENTS

The question tested the preparation of a consolidated statement of cash flows. It was very well answered; candidates scored very high marks. However, a number of candidates did not pay attention to classification of the cash flows.

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QUESTION TWO a) i) Relevance of the Conceptual Framework for Financial Reporting ( 3 marks) 1) The Conceptual Framework is intended to assist the IASB in the development of future International Financial Reporting Standards (IFRS) and in its review of existing IFRS. The situation is avoided whereby standards are developed on patchwork basis, where a particular accounting problem is recognised as having emerged and resources are then channelled into standardising accounting practice in that area, without regard to whether that particular issue was necessarily the most important issue pertaining at that time without standardisation. Moreover, through the Conceptual Framework, those who are interested in the work of the IASB get more information about the IASB’s approach to the formulation of IFRSs. 2) Although, the Conceptual Framework assists national standard-setting bodies in developing national standards, it is primarily intended to assist the Board in promoting harmonisation of regulations, accounting standards and procedures relating to the presentation of financial statements by providing a basis for reducing the number of alternative accounting treatments permitted by IFRSs. 3) In the preparation and presentation of financial statements, the Conceptual Framework provides guidance to preparers of financial statements in applying IFRS. Some standards may concentrate on the income statement whereas some may concentrate on the valuation of net assets (statement of financial position) but a conceptual framework caters for every aspect of the financial statements. And for auditors who have to assert the true and fair view of those financial statements prepared and presented, the Conceptual Framework assists auditors in forming an opinion on whether the financial statements comply with IFRS. 4) It enables users of financial statements to interpret the information contained in financial statements prepared in compliance with IFRS. Where there is a conflict of interest between user groups on which policies to choose, policies deriving from a conceptual framework will be less open to criticism that the standard-setter gave in to external pressure.

ii) Limitations of the Conceptual Framework for Financial Reporting (2 marks) 1) Financial statements are intended for a variety of users and it is not certain that a single conceptual framework can be devised which will suit all users. 2) Given the diversity of user requirements, there may be a need for a variety of accounting standards, each produced for a different purpose (and with different concepts as a basis).

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3) It is not clear that a conceptual framework makes the task of preparing and then implementing standards any easier than without a framework.

b) Intangible Assets i) An intangible asset is an identifiable non-monetary asset without physical substance. Intangible assets comprise expenditure on computer software, research and development, advertising, brands, etc. It also includes rights under licensing agreements for items such as motion picture films, video recordings, plays, manuscripts, patents and copyrights. (2 marks) ii) Recognition criteria for intangible asset (8 marks) 1) The asset needs to be ‘identifiable’ An asset is identifiable either if it is separable (can be sold without disposing of the business as a whole) or if it arises from contractual or other legal rights, irrespective of separability.

2) Control over the economic benefits derivable from the asset Control involves the power to obtain the future economic benefits flowing from the asset and to restrict the access of others to those benefits. The capacity of an entity to control the future economic benefits would normally, but not necessarily, stem from legal rights that are enforceable in a court of law. 3) Future economic benefits flowing to the entity These benefits may include revenue from the sale of products or services, but could also include cost savings or other benefits arising from the use of the asset by the entity. 4) Cost can be measured reliably ‘Cost’ will often be the cost of purchasing or developing the asset. In the case of an asset acquired in a business combination, ‘cost’ will be the fair value of the asset at the date of acquisition, assuming this fair value can be reliably measured.

c) This question relates to a compound financial instrument (convertible debt). The treatment is in accordance with IAS 39 Financial instruments.

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i) Financial statement extract (6 marks) Income Statement for the year ended 31 December 2012 Finance costs (see working) 1,056,480 Income Statement for the year ended 31 December 2013 Finance costs (see working) 1,094,035.2 Income Statement for the year ended 31 December 2014 Finance costs (see working) 1,140,603.65

Statement of Financial Position as at 31 December 2012 Non-current liabilities 18% convertible loan note (4,402,000 + 1,056,480 – 900,000) Equity (Option to convert)

[5,000,000 – 4,402,000]

4,558,480 598,000

Statement of Financial Position as at 31 December 2013 Non-current liabilities 18% convertible loan note (4,558,480 + 1,094,035.2 – 900,000) 4,752,515.2 Equity (Option to convert) [5,000,000 – 4,558,480]

441,520

Statement of Financial Position as at 31 December 2014 Non-current liabilities 18% convertible loan note (4,752,515.2+ 1,140,603.65 – 900,000) 4,993,118.85 Equity (Option to convert) [5,000,000 – 4,752,515.2]

247,484.8

Workings Determination of debt and equity components of compound financial instrument (2 marks) Item Cash flows Discount Present factor @ value 24% GH¢’000 GH¢’000 Year 1 interest 18% x 5,000 = 900 0.806 725.4 Year 2 interest 18% x 5,000 = 900 0.650 585

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Year 3 interest 18% x 5,000 = 900 Year 3 Principal 5,000 Total value of debt component (carrying value) Proceeds of the issue Equity component (Residual)

0.524 0.524

471.6 2,620 4,402 5,000 598

Note: The finance cost in the income statement for 2012, for instance, is computed as GHC4, 402,000 x 24% = GHC1, 056,480. Meanwhile, the interest to be paid is GHC5, 000,000 x 18% = GHC900, 000. This requires an accrual of GHC156, 480 (that is, GHC1, 056,480 – 900,000). This accrual should be added to the carrying value of the debt to arrive at the amortised cost at the end of year 2012. Loan amortised cost schedule (2 marks) Year Liability @ Finance start charge @ 24%

1 2 3 4

4,402,000 4,558,480 4,752,515.2 4,993,118.85*

1,056,480 1,094,035.2 1,140,603.65 -

Interest paid @ 18% / Principal paid or share option taken (900,000) (900,000) (900,000) (5,000,000)

* Difference due to rounding off ii) If the share option is taken, Dr Financial liability 5,000,000 Cr Equity 5,000,000 If the loan is repaid, Dr Financial liability 5,000,000 Cr Cash 1 (4 correct entries x /2 mark = 2 marks)

Liability end

@

4,558,480 4,752,515.2 4,993,118.85 -

5,000,000

EXAMINER’S COMMENTS The question was in three parts. Part a) examined the relevance and limitations of the Conceptual Framework for Financial Reporting. The question was generally well answered. Part b) examined the meaning and recognition of intangible assets as per IAS 38. Even though the question was generally well answered, some candidates provided answers as follows: :”There should be technical feasibility to complete the assets, there should be intention to complete and

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use or sell the asset, there should be adequate financial and technical resources to complete the asset and there should be available market for the asset”. These are additional recognition criteria for internally generated intangible assets [IAS 38.57]. The criteria needed for recognition of intangible assets, being economic benefits flowing to the entity and the ability to measure the cost reliably IAS 38.21 were absent from the list of criteria provided by the candidates. Obviously, those candidates did not have a firm grip of IAS 38. Part c) tested accounting for financial instruments. Although the question was a repeat from a previous diet, it was very poorly answered. Only a few candidates got the calculations and related journal entries correct. The choice of discount rate was problematic.

QUESTION THREE a) Scope of Integrated Reporting According to the International Integrated Reporting Committee (IIRC) integrated reporting is a process that results in communicating the value creation of an entity over time through an Integrated Report. The IIRC defines an Integrated Report as ‘a concise communication about how an organization’s strategy, governance, performance and prospects lead to the creation of value over the short, medium and long term’ Integrated reporting provides information not only on the financials of an entity, but also information on strategy, governance, performance and prospects.

         

The following issues are often the subject matter for integrated reports: Overview of the organisation The strategic direction of the entity Analysis of stakeholder relationships Overview of the external environment Overview of governance structures An explanation of the entity’s business model Strengths, Weaknesses , Opportunities and Threats (SWOT) analysis Basis of resource allocation Analysis of financial performance and financial position Sustainability projection.

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Benefits of integrated reporting The primary benefit of integrated reporting is that it allows a company to better understand, manage and report on multiple dimensions of value. A properly designed set of performance measures often included in integrated reports will give management the incentive and urge to improve performance. For other stakeholders, the report is intended to provide more and better information to increase stakeholder understanding of the company- its management, strategy and operations, and its perils and prospects. It has been suggested that the integrated report will become an organisation’s primary report, which links in with various supporting, more detailed, reports.

b) Costs to the preparer and benefits to the users of financial statements of increased disclosure of information in financial statements. (4 marks) Costs to Preparers (Any 2 points x 1 mark = 2 marks) The main costs to the preparer of financial statements are as follows: i) the cost of developing and disseminating information, ii) the cost of possible litigation attributable to information disclosure, iii) the cost of competitive disadvantage attributable to disclosure. i) The costs of developing and disseminating the information include those of gathering, creating and auditing the information. Additional costs to the preparers include training costs, changes to systems (for example on moving to IFRS), and the more complex and the greater the information provided, the more it will cost the company. ii) Although litigation costs are known to arise from information disclosure, it does not follow that all information disclosure leads to litigation costs. Cases can arise from insufficient disclosure and misleading disclosure. Only the latter is normally prompted by the presentation of information disclosure. Fuller disclosure could lead to lower costs of litigation as the stock market would have more realistic expectations of the company’s prospects and the discrepancy between the valuation implicit in the market price and the valuation based on a company’s financial statements would be lower. However, litigation costs do not necessarily increase with the extent of the disclosure. Increased disclosure could reduce litigation costs.

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iii) Disclosure could weaken a company’s ability to generate future cash flows by aiding its competitors. The effect of disclosure on competitiveness involves benefits as well as costs. Competitive disadvantage could be created if disclosure is made relating to strategies, plans, (for example, planned product development, new market targeting) or information about operations (for example, production-cost figures). There is a significant difference between the purpose of disclosure to users and competitors. The purpose of disclosure to users is to help them to estimate the amount, timing, and certainty of future cash flows. Competitors are not trying to predict a company’s future cash flows, and information of use in that context is not necessarily of use in obtaining competitive advantage. Overlap between information designed to meet users’ needs and information designed to further the purposes of a competitor is often coincidental. Every company that could suffer competitive disadvantage from disclosure could gain competitive advantage from comparable disclosure by competitors. Published figures are often aggregated with little use to competitors. Companies bargain with suppliers and with customers, and information disclosure could give those parties an advantage in negotiations. In such cases, the advantage would be a cost for the disclosing entity. However, the cost would be offset whenever information disclosure was presented by both parties, each would receive an advantage and a disadvantage.

Benefits to users (Any two points x 1 mark = 2 marks) Increased information disclosure benefits users by reducing the likelihood that they will misallocate their capital. This is obviously a direct benefit to individual users of corporate reports. The disclosure reduces the risk of misallocation of capital by enabling users to improve their assessments of a company’s prospects. This creates three important results. (i)

Users use information disclosed to increase their investment returns and by definition support the most profitable companies which are likely to be those that contribute most to economic growth. Thus, an important benefit of information disclosure is that it improves the effectiveness of the investment process.

(ii)

The second result lies in the effect on the liquidity of the capital markets. A more liquid market assists the effective allocation of capital by allowing users to reallocate their capital quickly. The degree of information asymmetry between the buyer and seller and the degree of uncertainty of the buyer and the seller will affect the liquidity of the market as lower asymmetry and less uncertainty will increase the number of transactions and make the market more liquid.

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(iii)

Information disclosure helps users understand the risk of a prospective investment. Without any information, the user has no way of assessing a company’s prospects. Information disclosure helps investors predict a company’s prospects. Getting a better understanding of the true risk could lower the price of capital for the company. It is difficult to prove however that the average cost of capital is lowered by information disclosure, even though it is logically and practically impossible to assess a company’s risk without relevant information. Lower capital costs promote investment, which can stimulate productivity and economic growth.

c)

a. Social and environmental reporting? (2 marks)

Social and environmental reporting is the measurement and reporting of information concerning the impact of a business and its activities on society. It is the disclosure of information in the published annual report or in separate report, of the effect that the operations of the business have on the natural environment. In other words, it is the collation and communication of data financial, quantitative and/or qualitative - about an organisation's interactions with society. b. Relevance of social and environmental reports to users of financial statements. (3 marks) The backbone of social reporting is the explicit recognition that every organisation has a wide range of stakeholders - those who are influenced by and/or, in turn, influence the organisation. In addition to shareholders and other financial participants, the most important of the other stakeholders are usually taken to be the employees, the local community (ies), customers, suppliers, the environment and government(s). From society's point of view, each of these stakeholders have rights to, amongst other things, information about the activities of the organisation - whether or not the organisation chooses to recognise those rights. From the organisation's point of view, it has a range of stakeholders that it must manage and whose interests it must balance if it is to remain a successful enterprise.

EXAMINER’S COMMENTS Question 3 was in three parts: Part a) tested integrated reporting. It was poorly answered. Many candidates understood this to mean social and environmental accounting and answered it as such. Some candidates were totally ignorant of the subject and submitted answers like, “It is the process of world-wide integration of accounting standards whereby the whole world would adopt one reporting standard; the scope of integrated reporting is to streamline business practices in the public and private sectors; integrated reporting require that financial report of the group is presented in an integrated manner

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to neutralize inter-company capital allocation deficiencies”. For the few who were somewhat familiar with integrated reporting, key concepts like, providing information on strategy, governance, performance and prospects as well as communicating the value creation of an entity did not come out strongly enough in their answers. Par b) examined the costs and benefits to users of financial statements of increased disclosure of information in financial statements. Most candidates provided common sense answers; technical reasons such as the cost of possible litigation and the cost of competitive advantage listed by the examiner were absent. Par c) tested social and environmental reporting. This was poorly answered. Many candidates kept repeating the same incoherent discussions on corporate social responsibility and how companies should conduct themselves, environmental pollution, land degradation and general environmental issues that did not relate to the accounting function.

QUESTION FOUR e) Current Cost Accounting (CCA) also called replacement cost accounting method is a method of accounting in which assets and liabilities are valued on the basis of their current replacement cost, and increases in their value as a result of inflation are excluded from calculation of profits. CCA approach recognizes the changes in the prices of individual specific assets and liabilities due to the changes in technology, taste or other factors. CCA method revalues the assets and liabilities on current cost or replacement cost basis. It does not consider the RPI. (2 marks) f) Distinction between monetary items and non-monetary items, as they relate to accounting for price-level changes. (2 marks) Monetary items are those items whose amounts are fixed by contract or otherwise in terms of numbers of currency units (e.g. cedis), regardless of changes in general price levels whiles nonmonetary items are those items whose amounts changes with respect to changes in general price level. Examples of monetary items are cash, receivables, payables and loan capital. Examples of non-monetary items are PPE and inventories.

g) Arguments for and against the use of current purchasing power accounting as a method of adjusting financial statements for price-level changes. (4 marks) Arguments for: •

Profit is measured in real terms excluding inflationary value increments. This enables better forecasts of future prospects to be made.

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• • • •

• •

• •

h)

It provides a stable monetary unit with which profit and capital can be valued. It therefore measures the impact on the company in terms of shareholders purchasing power. By applying a single price index to all non-monetary assets, subjective valuation of current value accounting is avoided. The restatement of asset values in terms of a stable money value provides a more meaningful basis of comparison with other companies. CPP accounting is based on historical cost data which is readily verifiable and hence free from subjectivity. Arguments against: The use of indices inevitably involves approximations in the measurement of value. CPP does not show the current values of assets and liabilities. Retail price index is not necessarily appropriate for all assets in the business. In addition, the physical capital of the business is not maintained. An objection of CPP accounting is raised by some authorities who believe that there is no such thing as generalised purchasing power. CPP deals with changes in the general price level and not with changes in prices of individual items. (7 marks) Profit measurement by historical cost: Joe & Joy Income Statement for the year ended 31 December 2014 GH¢ Sales Less Cost of goods sold: Opening inventory 600 Add Purchases 700 1,300 Less Closing inventory 220

GH¢ 2,200

1,080 1,120 240 880

Less Depreciation (GH¢1,200/5) Accounting profit

Profit measured by replacement cost: Joe & Joy Income Statement for the year ended 31 December 2014 GH¢ Sales

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GH¢ 2,200

Less Cost of goods sold (at replacement cost) Depreciation (GH¢1,400/5) Current operating profit Holding gains: Realised through use during the year: Non-current assets; depreciation (GH¢280 - ¢240) Inventory; cost of goods sold (GH¢1,200 - ¢1,080)

1,200 1,000 280 720

40 120 160

Unrealised at the end of the year: Non-current assets; net book values (GH¢1,120 -GH¢960) 160 Inventory (270-220) 50 210 Total holding gains Current operating profit plus holding gains

370 1,090

Historical cost and replacement statement of financial position: Joe & Joy Statement of Financial Position as at 31 December 2014 Historical Cost GH¢ Non-current assets: 1,200 Less: Accumulated depreciation 240 960 Current assets: Inventory 220 Cash (Sales – Purchases) 1,500 2,680 Share capital Retained profit Accounting profit Current operating profit Revaluation reserve

1,800

Replacement Cost GH¢ 1,400 280 1,120 270 1,500 2,890 1,800

880

2,680

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720 370 2,890

Note: The application of replacement cost values attempts to reflect economic reality by maintaining the value of asset balances in line with changes in the value of money and changes in the specific value of the assets concerned.

EXAMINER’S COMMENTS

This question was in four parts: Part a) examined the primary objective of current cost accounting. It was poorly answered as candidates tried to provide common sense answers in place of technical accounting terminology. Many candidates needlessly confused current cost accounting with current purchasing power accounting and freely inter-changed the two as if they meant the same thing. Part b) tested the difference between monetary and non-monetary items. Several candidates did not know the distinction between these items. The following are some of the answers provided: “Monetary items have direct effect on purchasing power, eg increase in interest rate, deflation, increase in cost of capital; non-monetary items include change in taste, change in demand; nonmonetary items are those items whose value cannot be measured, eg compliance level of laws and regulations.” The candidates who brought out the technical difference of monetary items having their values fixed by contract and non-monetary items having their values changing with respect to general price level were very few. Part c) tested arguments for and against the use of current purchasing power accounting as a method of adjusting financial statements for price-level changes. Common sense answers were provided but overall, they were satisfactory. Part d) tested the preparation of a very simple income statement and a statement of financial position using historical cost accounting and current cost accounting methods. Many candidates were able to handle the historical cost accounting but only a few candidates were able to handle the current cost accounting calculations correctly.

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QUESTION FIVE a) i. ii. iii. iv.

1. 2. 3. 4. 5.

6.

Other information to be looked at during ratio analysis (Any 2 points x 1.5 marks = 3 marks): The content of any accompanying commentary on the accounts and other statements. The age and nature of the company’s assets. Current and future developments of the company’s business interests. Any other noticeable features of the report and accounts, such as post balance sheet events, contingent liabilities, a qualified auditor’s report, the company’s taxation position, etc. Limitations of the use of accounting ratios in appraising financial performance. (4 points x 1 mark = 4 marks) Inconsistent definitions of ratios Financial statements may have been deliberately manipulated (creative accounting) Different companies may adopt different accounting policies (e.g. use of historical costs compared to current values) Different managerial policies (e.g. different companies offer customers different payment terms) Statement of financial position figures may not be representative of average values throughout the year (this can be caused by seasonal trading or a large acquisition of non-current assets near the year-end) The impact of price changes over time/distortion caused by inflation.

b) Nyentieobia Limited i) Profitability (2 marks) Both gross profit margin and net profit margin have fallen below the industry average. This may be the result of uncontrolled overhead cost on the presence of large obsolete equipment. Unless steps are taken quickly to improve the income account investors may shift their interest into more profitable companies in the industry.

ii) Liquidity (2 marks) Both quick and current ratios fall far below those of the industry as confirmed by the fact that it takes longer to collect its debt than the industry. The problem may have been worsened by the fact that inventory stay longer at Agrimore Ltd than in the industry which is not the best use to which resources should be put.

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iii) Efficiency (2 marks) Even though Agrimore Ltd takes longer to collect its debts (5 days), this is compensated by an even longer time to settle the debts (20 days). This means that creditors provide free finance for its operations. However, the holding on to inventory for a long time (10 days) cannot be justified. This should be turned over in like manner as that assets turnover far exceeds that of the market.

iv) Shareholders’ Investment (2 marks) Both dividend cover and dividend yield fall below that of the industry. Such a situation is not likely to excite investors especially income – oriented investors who are seeking to recoup their investment in the shortest time possible. This poor performance may be due to the fact that high gearing ratio of Agrimore Ltd has effectively put its future in the hands of debenture holders who are reaping the bulk profits in the form of interest charges.

c) Discuss the above views of the director regarding the fact that there is no point in an accountant studying ethics and that there was no ethical issue in the false disclosure of accounting profits. (5 marks) There are several reasons why an accountant should study ethics. The moral beliefs that an individual holds may not be sufficient because often these are simple beliefs about complex issues. The study of ethics can sort out these complex issues by teaching the principles that are operating in these cases. Often there may be ethical principles which conflict and it may be difficult to decide on a course of action. The study of ethics can help by developing ethical reasoning in accountants by providing insight into how to deal with conflicting principles and why a certain course of action is desirable. Another important reason to study ethics is to understand the nature of one’s own opinion and ethical values. Ethical principles should be compatible with other values in life. For example, one’s reaction to the following circumstances: the choice between keeping your job and violating professional and ethical responsibilities, the resolution of conflicts of interest if they involve family. A good reason for studying ethics is also to identify the basic ethical principles that should be applied. Professional accountants are required to adhere to a set of fundamental principles in the course of their professional duty, such as confidentiality, objectivity, professional behaviour, integrity and professional competence and due care. The main aim of professional ethics is to serve as a moral guideline for professional accountants. By referring back to the set of ethical guidelines, the accountant is able to decide on the most appropriate course of action, which will be in line with the professional body’s stance on ethics.

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Although the takeover does not benefit the company, its executives or society as a whole, the action is deceptive, unethical and hence unfair. It violates the relationship of trust, which the company has with society and the professional code of ethics. There are nothing but good reasons against the false disclosure of profits.

d) Discuss the above views of the directors regarding the fact that codes of ethics are irrelevant and unimportant. (5 marks) The directors should be persuaded that professional ethics are an inherent part of the accounting profession. Professional ethics are a set of moral standards applicable to all professionals. Each professional body has its own ethical code which requires its members to adhere to a set of fundamental principles in the course of their professional duty, such as confidentiality, objectivity, professional behaviour, integrity and professional competence and due care. Often there may be ethical principles which conflict with the profit motive and it may be difficult to decide on a course of action. An accountant has an ethical obligation to encourage the directors to operate within certain boundaries when determining the profit figure. Users are becoming reactive to unethical behaviour by directors. This is leading to greater investment in ethical companies with the result that unethical practices can have a greater impact on the value of an entity than the reporting of a smaller profit figure. Ethical issues are becoming more and more complex and it critical to have an underlying structure of ethical reasoning, and not purely be driven by the profit motive. EXAMINER’S COMMENTS Question 5 was in four parts: Part a) tested limitations of the use of ratios in appraisal of financial performance. It was well answered. Part b) tested the financial analysis of a company with respect to profitability, liquidity, efficiency and shareholders’ investment using ratios. Most candidates simply repeated the ratio differentials provided in the question without being able to explain and respond to WHY the particular situation might have occurred and HOW it could be addressed to bring about improved performance. Some candidates stated and calculated ratios which were not needed despite the fact that all ratios needed for answering the question were specifically provided by the Examiner. Part c) tested why the professional accountant should study ethics. It was very poorly answered. Candidates were unable to respond to the WHY. They rather listed various ethical conduct such as objectivity, integrity, confidentiality, independence, due care and competence and proceeded to discuss them extensively. Part d) tested the relevance of codes of ethics. Again, candidates failed to respond to the request for RELEVANCE. They listed the same ethical conduct as in Part c) and repeated the same discussion. Clearly, they have no understanding of the subject matter under discussion.

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