Tutorial questions and solutions - Chapter 18 - Accounting policies PDF

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Case study 18.4 Events occurring after the end of the reporting period The statement of financial position of Waterbuck Ltd as at 30 June 2023 includes an asset ‘Debenture money receivable $500 000’ and a liability ‘Debentures $500 000’. Note 12 to the accounts reveals that the issue of the debentures to a private investor was approved by the board of directors on 28 June 2023 but the debenture issue did not take place until 17 July 2023. Required Comment on the accounting treatment of the debenture issue in accordance with the requirements of AASB 110/IAS 10. The issue of the debentures on 17 July 2023 is a non-adjusting event after the end of the reporting period as it is indicative of conditions that arose after the end of the reporting period. Approval by a board of directors does not create a present obligation to repay debentures hence no liability existed as at 30 June 2023 and the debenture asset and liability should not have been recognised. The end of the reporting period adjusting journal should be reversed and the debenture issue, including the amount, disclosed in a note to the financial statements accounts as required by AASB 110, paragraph 21.

Exercise 18.3 Accounting estimates and errors Yung Ltd estimates its future liability for repairs to products sold with a 12-month warranty as a percentage of its net credit sales. Warranty expense and actual repair costs for the last 2 years ending 30 June were as follows.

2021–22 2022–23

Warranty provisions

Actual costs

$ 10 000 11 000

$ 16 000 18 250

Required Comment on Yung Ltd’s accounting method for warranty liabilities. What action should be taken with respect to the accounting estimates? If an investigation during 2023–24 finds that the figure for warranty expense was incorrectly calculated for 2022–23 and should have been $17 500, what action is required under AASB 108/IAS 8? (LO2 and LO3) The significant variances between the provision for warranty and the actual repairs in the two years indicate that either the policy of using a percentage of net credit sales as a means of estimating warranty costs is not appropriate, or the percentage used is not adequate. The company needs to look at changing either its policy or perhaps simply increasing the percentage used. Past claims as a percentage of past net credit sales should provide a reliable measure. If a new percentage is adopted it will be applied prospectively (from 2023-2024 on) according to AASB 108 paragraph 36. If the variance for 2022-2023 was due to an error in calculation then, providing it is material, the figures for 2022-2023 should be retrospectively corrected (according to AASB 108 paragraph 42) by the following entry: Retained earnings (1 July 2024) Provision for warranty

Dr Cr

6 500 6 500

Such a correction would suggest that the variance between the warranties that would have been provided for had the error not occurred ($17 500) and the actual warranties incurred ($18 250) were not material (i.e. only $750 or only 4%) which indicates that the revised level of warranty provision is appropriate.

Exercise 18.4 Events after the reporting period Magpie Ltd operates a fleet of fishing trawlers. The following events took place after the end of the reporting period, 30 June 2022, but before the date the accounts were authorised, 15 September 2022. (a) On 17 July 2022, Magpie Ltd’s main fishing fleet was sunk during a freak storm. Insurance will cover the replacement of the vessels but lost sales representing $275 000 in profits are not covered. (b) On 19 July 2022 Magpie Ltd took delivery of a fishing net for its prawn trawler. The net was purchased from a UK manufacturer on delivered duty paid shipping terms and was in transit at the end of the reporting period. An inspection of the net revealed significant structural flaws and the net was returned to the supplier on 28 July 2022. Magpie Ltd is to receive a full refund of the $325 000 purchase price which had been paid in advance on 29 June 2022. (c) On 29 August 2022 a lawsuit was lodged against the company by the families of crew members drowned in the 17 July storm, alleging negligence, and claiming $2 million in damages. No date has as yet been set for the court hearing. (d) On 1 September 2022 the directors resolved to issue to the public 8 000 5% debentures of $10 each, payable $5 on application and $5 on allotment. Required Classify the above events into adjusting and non-adjusting events after the end of the reporting period, justifying your choice. (LO6) Classification of after reporting period events Assuming all events are material by reason of size and nature: Date 17 July 2022

Classification Non-adjusting

Justification The storm which caused the loss of the fishing fleet and the uninsured loss of profits occurred after the end of the reporting period and impacts on future conditions.

19 July 2022

Adjusting

The receipt and subsequent return of the fishing net provides new information about the assets owned by Magpie Ltd as at the end of the reporting period.

29 August 2022

Non-adjusting

The lawsuit arose as a consequence of an event after the end of the reporting period (the storm on 17 July) and it may have material effects on future cash flows or operations if the company has to pay the $2 million damages claim.

1 September 2022 Non-adjusting

The issue of $80 000 5% debentures to the public does not relate to conditions existing at the end of the reporting period but will have a material impact on future cash flows.

Exercise 18.8 Errors The annual audit of the accounting records and draft financial statements of Mala Ltd as at 30 June 2022 revealed the following errors and omissions. (a) Credit notes totalling $52 000 relating to June sales were posted against sales made in July. (b) The purchase price of $71 200 for a new vehicle on 1 January 2021 was posted to the vehicle maintenance expense account. Motor vehicles are depreciated at 25% p.a. straight-line. (c) A manufacturing assembly line has been taken out of operation pending its sale. The asset had a carrying amount of $40 000 as at 30 June 2022 and is likely to be sold for a profit. (d) No disclosure has been made about a fire in the warehouse during May that caused damage worth $280 000. The warehouse and its contents are fully insured. (e) No adjustment to the allowance for doubtful debts has been made to reflect the fact that a major debtor owing $31 500 went into liquidation after the end of the reporting period. Correspondence with the liquidator indicates that the expected payout will be no more than 10c in the dollar. Required Assume all errors and omissions are material. Prepare the necessary adjustments (if any) for all items. (LO3) 30 June 2022 Sales revenue Dr Accounts receivable Cr (July credit notes raised in respect of June sales) Motor vehicles Retained earnings (Correction of error from prior period)

Dr Cr

52 000 52 000 71 200 71 200

Depreciation expense – Motor vehicles Dr 17 800 Retained earnings Dr 8 900 Accumulated depreciation Cr (Depreciation expense for 18 months; $71 200 x 25% x 1½) Allowance for doubtful debts Dr Accounts receivable Cr (Debt written off as uncollectible: 0.9 x $31 500)

26 700

28 350 28 350

Note: No journal entry is required for the reclassification of the manufacturing assembly line as ‘non-current asset held for sale’ in the statement of financial position as it is expected to be sold for a profit, therefore its fair value less costs to sell is greater than its carrying amount. No disclosure is required regarding the fully-insured warehouse damage as (presumably) there was no adverse impact or financial loss incurred....