PAPER –1: FINANCIAL REPORTING PART – I : RELEVANT AMENDMENTS, NOTIFICATIONS AND ANNOUNCEMENTS A.

Applicable for November, 2016 Examination 1.

Indian Accounting Standards The topic “Introduction of Indian Accounting Standards (Ind AS); Comparative study of ASs vis-à-vis Ind ASs; Carve outs/ins in Ind ASs vis-à-vis International Financial Reporting Standards (IFRSs)” had been included in the syllabus and is applicable for November, 2016 Examination. Considering the significance and relevance of Ind AS, the above topic has been included in the syllabus and the students are expected to have an overall knowledge of the contents covered therein. However, considering the extensive coverage of the contents covered in such topic, from the examination perspective, simple problems involving conceptual or application issues may be asked in the examination.

2.

Applicability of Ind AS 32, 107 and 109 on the topic ‘Accounting and Reporting of Financial Instruments’ The entire IAS 39 “Financial Instruments: Recognition and Measurement”, on which AS 30 “Financial Instruments: Recognition and Measurement” was based, has been replaced by IFRS 9 “Financial Instruments”. Therefore, the Government of India opted to notify Ind AS 109 “Financial Instruments” in correspondence to IFRS 9 and not IAS 39. Also, AS 30, AS 31 and AS 32 on ‘Financial Instruments’ were earlier proposed to be made mandatory for Level I entities only. However, after notification of Ind AS in February, 2015, these entities will be applying the provisions stated in Ind AS 32, Ind AS 107 and Ind AS 109 and not AS 30, AS 31 and AS 32 for accounting of financial instruments. Therefore, it is felt appropriate to make applicable Ind AS 32, Ind AS 107 and Ind AS 109 in place of AS 30, AS 31 and AS 32 to the topic ‘Accounting for Financial Instruments’. Accordingly, Ind AS 32 “Financial Instruments: Presentation”, Ind AS 107 “Financial Instruments: Disclosures” and Ind AS 109 “Financial Instruments” are made applicable to the topic ‘Accounting for Financial Instruments’ instead of AS 30 “Financial Instruments: Recognition and Measurement”, AS 31 “Financial Instruments: Presentation” and AS 32 “Financial Instruments: Disclosures” for November, 2016 examination. In view of the complexities involved, simple practical problems involving conceptual issues or application issues may be asked in the examination.

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FINAL EXAMINATION: NOVEMBER, 2016

3.

Applicability of certain new Guidance Notes Following two New Guidance Notes are applicable for November, 2016 examination for the first time viza. Guidance Note on Accounting for Expenditure on Corporate Social Responsibility Activities. b. Guidance Note on Guidance Note on Accounting for Derivative Contracts. Both the abovementioned Guidance Notes may be referred at the following links respectively: http://resource.cdn.icai.org/38254asb27888csr.pdf http://resource.cdn.icai.org/38253asb27888dc.pdf

4.

Dividend Distribution Tax (a) With effect from 1st Oct, 2014 dividend and income distribution tax is leviable on gross dividend / income and not on the net dividend / income distributed to shareholders and unit holders as per Income- tax Act, 1961. (b) The rate of DDT is fifteen per cent (excluding surcharge of 12% plus secondary and higher education cess is (2+1) 3%).

5.

Relevant Sections of the Companies Act, 2013 The relevant Sections of the Companies Act, 2013 notified up to 30 thApril, 2016 are applicable for November, 2016 Examination.

B.

Not applicable for November, 2016 examination 1.

Non-applicability of Amendments made by MCA in the Companies (Accounting Standards) Rules, 2006 and Companies (Indian Accounting Standards) Rules, 2015 Any new AS or Ind AS or revised version of AS or Ind AS, notified by the MCA, is being made applicable for CA examination only after one year of its notification. Accordingly, amendments made by the MCA on 30.3.2016 in the Companies (Accounting Standards) Rules, 2006 and Companies (Indian Accounting Standards) Rules, 2015 are not made applicable for November, 2016 examination.

2.

Overview of International Financial Reporting Standards (IFRS) The topic “Overview of International Accounting Standards (IAS) / International Financial Reporting Standards (IFRS), Interpretations by International Financial Reporting Interpretation Committee (IFRIC), Significant differences vis-a-vis Indian Accounting Standards; Understanding of US GAAPs, Applications of IFRS and US” has been excluded from the syllabus and the same is not applicable for November, 2016 Examination.

PAPER – 1 : FINANCIAL REPORTING

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PART – II : QUESTIONS AND ANSWERS QUESTIONS AS 1 1.

(a) A Ltd. has filed an application with the High Court to merge with its subsidiary B Ltd. with effect from 1.4.2015. As per the books of accounts, a loan was given by A Ltd. to B Ltd. and B Ltd. had given assets to A Ltd. on lease. In view of the aforesaid pending application, A Ltd. had neither disclosed the interest income on the loan given to B Ltd. nor the lease rentals payable by it to B Ltd. during the year 2015-2016. Comment whether the treatment done by A Ltd. is correct in light with AS 1.

AS 2 (b) Z Limited ordered 13,000 kg. of chemicals at ` 90 per kg. The purchase price includes excise duty of `5 per kg. in respect of which full CENVAT credit is admissible. Further, state VAT is leviable at ` 2.5 per kg on purchase price. Freight incurred amounted to ` 30,000. Normal transit loss is 4%. The company actually received 12,400 kg and consumed 10,000 kg. of chemicals. The company has received trade discount later on in the form of their credit note of ` 1 per kg. The chemicals were delivered in containers. The containers were not reusable, hence sold for ` 500. The administrative expenses incurred to bring the chemicals were `10,000. Compute the value of inventory and allocate the material cost as per AS 2. AS 3 2.

(a) Classify the following into operating, investing or financing activities as per AS 3 ‘Cash Flow Statement’: (i)

Interest paid by the financial enterprise

(ii) Dividend paid (iii) Tax deducted at source on interest received from the subsidiary company (iv) Deposit with Bank for a term of two years (v) Insurance claim received towards loss of machinery by fire. (b) Which activity does the purchase of business falls under and whether netting off of aggregate cash flows from disposal and acquisition of business units is possible? AS 4 3.

(a) With reference to AS 4 "Contingencies and Events Occurring after the Balance Sheet Date", state whether the following events will be treated as contingencies,

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FINAL EXAMINATION: NOVEMBER, 2016

adjusting events or non-adjusting events occurring after balance sheet in case of a company which prepares accounts on the basis of financial year. (i)

A major fire has damaged the assets in a factory on 5th April, 2016, 5 days after the year end. However, the assets are fully insured and the books have not been approved by the Directors.

(ii) A suit against the company's advertisement was filed by a party on 10th April, 2016, 10 days after the year end claiming damages of ` 20 lakh. (iii) It sends a proposal to sell an immovable property for ` 30 lakh on 31st March, 2016. The book value of the property is ` 20 lakh as on year-end date. However, the deed was registered as on 15th April, 2016. (iv) The terms and conditions for acquisition of business of another company have been decided by March, 2016 end. But the financial resources were arranged in April, 2016 and amount invested was ` 40 lakh. (v) Theft of cash of ` 2 lakhs by the cashier on 31st March, 2016 was detected the next day after the financial statements have been approved by the Directors. AS 5 (b) XYZ Ltd. is in the process of finalizing its account for the year ended 31st March, 2016. The company seeks your advice on the following: (i)

The company's sale tax assessment for assessment year 2013-14 has been completed on 14th February, 2016 with a demand of `5.40 crore. The company paid the entire due under protest without prejudice to its right of appeal. The company files its appeal before the appellate authority wherein the grounds of appeal cover tax on additions made in the assessment order for a sum of `3.70 crore.

(ii) The company has entered into a wage agreement in May 2016 whereby the labour union has accepted a revision in wage from June 2015. The agreement provides that the hike till May 2016 will not be paid to the employees but will be settled to them at the time of retirement. The company agrees to deposit the arrears in Government Bonds by September 2016. Assume that the negotiations for hike in wages had already started in the year 2015-16 i.e. before the balance sheet date. AS 7 4.

(a) Plus Constructions undertake to construct a·bridge for the Government of Uttar Pradesh. The construction commenced during the financial year ending 31.03.2016 and is likely to be completed by the next financial year. The contract is for a fixed price of ` 12 crore with an escalation clause. The cost to complete the whole contract is estimated at ` 9.50 crore. You are given the following information for the year ended 31.03.2016:

PAPER – 1 : FINANCIAL REPORTING

Cost incurred upto 31.03.2016

` 4 crore

Cost estimated to complete the contract

` 6 crore

5

Escalation in cost is 5% and accordingly the contract prices increased by 5%. You are required to ascertain the stage of completion and also to state the revenue and profit to be recognized for the year as per AS 7. AS 9 (b) Easy Ltd. is preparing its financial statements for the year ended 2015-16. The management is proposing to show the total excise duty of ` 6,25,000 and the basic custom duty paid for ` 3,50,000 as a deduction from the gross sales of ` 56,25,000 while preparing the Statement of Profit and Loss. However, the accountant of the company feels that by doing so the net sales will be shown at lesser value and this will not give a good picture of the company. Therefore, he suggested that the excise duty may not be shown as deduction from the sales value. Comment on the views of the management as well as of the accountant in light with the relevant existing accounting standard. Also calculate the net sales of Easy Ltd. AS 11 and AS 16 5.

(a) Huge Ltd. acquired at the start of the financial year a fixed asset from USA at a price of US $ 1,25,000 and made a down payment of US $ 25,000. The exchange rate was ` 61.50 per dollar at the date of transaction. The balance amount was payable in 4 equal half yearly instalments with interest @ 8% per annum. The exchange rates on due dates of instalment have been ` 61.60; ` 61.80; ` 61.90; and ` 62.10. The asset was under construction during the period of six months from its acquisition. Ascertain the amount to be capitalized and the gain or loss to be recognized in each of the years.

AS 12 (b) Anshuman Ltd. purchased a fixed asset for `50,00,000. Government grant received towards it is 20%. Residual value is `8,00,000 and useful life is 8 years. Assumed that the depreciation is on the basis of Straight Line Method, asset is shown in the Balance Sheet net of grant. After one year, grant becomes refundable to the extent of `7,00,000 due to noncompliance of certain conditions. Pass Journal entries for 1st and 2nd year in the books of the company. AS 13 6.

(a) Dynamic Ltd. invested in the shares of another company on 31st October, 2015 at a cost of ` 4,50,000. It also earlier purchased Gold of ` 5,00,000 and Silver of ` 2,25,000 on 31st March, 2013.

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FINAL EXAMINATION: NOVEMBER, 2016

Market values as on 31st March, 2016 of the above investments are as follows: Shares `3,75,000; Gold `7,50,000 and Silver `4,35,000 How will the above investments be shown in the books of account of Dynamic Ltd. for the year ending 31st March, 2016 as per the provision of AS13?

j

AS 14 (b) Astha Ltd. is absorbed by Nistha Ltd.; the consideration being the takeover of liabilities, the payment of cost of absorption not exceeding ` 10,000 (actual cost ` 9,000) the payment of the 9% debentures of ` 50,000 at a premium of 20% in 8% debentures issued at a premium of 25% at face value and the payment of `15 per share in cash and allotment of three 11% preference shares of ` 10 each at a discount of 10% and four equity share of `10 each at a premium of 20% fully paid for every five shares in Astha Ltd. The number of share of the vendor company are 1,50,000 of ` 10 each fully paid. Calculate purchase consideration as per AS 14. AS 15 7.

(a) A company has a scheme for payment of settlement allowance to retiring employees. Under the scheme, retiring employees are entitled to reimbursement of certain travel expenses for class they are entitled to as per company rule and to a lump-sum payment to cover expenses on food and stay during the travel. Alternatively employees can claim a lump sum amount equal to one month pay last drawn. The company’s contentions in this matter are: (i)

Settlement allowance does not depend upon the length of service of employee. It is restricted to employee’s eligibility under the Travel rule of the company or where option for lump-sum payment is exercised, equal to the last pay drawn.

(ii) Since it is not related to the length of service of the employees, it is accounted for on claim basis. State whether the contentions of the company are correct as per relevant Accounting Standard. Give reasons in support of your answer. AS 19 (b) On 1st January, 2015, Sahara Ltd. sold equipment for ` 6,14,460. The carrying amount of the equipment on that date was ` 1,00,000. The sale was a part of the package under which Help Ltd. leased the asset to Sahara Ltd. for ten years term. The economic life of the asset is estimated as 10 years. The minimum lease rents payable by the lessee has been fixed at ` 1,00,000 payable annually beginning from 31st December, 2015. The incremental borrowing interest rate of Sahara Ltd. is estimated at 10% p.a. Calculate the net effect on the Statement of Profit and Loss in the books of Sahara Ltd.

PAPER – 1 : FINANCIAL REPORTING

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AS 22 8.

(a) Goonj Ltd. is a full tax free enterprise for the first ten years of its existence and is in the second year of its operation. Depreciation timing difference resulting in a tax liability in year 1 and 2 is ` 200 lakhs and ` 400 lakhs respectively. From the third year it is expected that the timing difference would reverse each year by ` 10 lakhs. Assuming tax rate of 40%, find out the deferred tax liability at the end of the second year and any charge to the Profit and Loss account.

AS 25 (b) Dhyaan Limited reported a Profit Before Tax (PBT) of ` 4 lakhs for the third quarter ending 30-09-2016. On enquiry you observe the following based on which give the treatment required under AS 25: (i)

Dividend income of ` 4 lakhs received during the quarter has been recognized to the extent of ` 1 lakh only.

(ii) 80% of sales promotion expenses ` 15 lakhs incurred in the third quarter has been deferred to the fourth quarter as the sales in the last quarter is high. (iii) In the third quarter, the company changed depreciation method from WDV to SLM, which resulted in excess depreciation of ` 12 lakhs. The entire amount has been debited in the third quarter, though the share of the third quarter is only ` 3 lakhs. (iv) ` 2 lakhs extra-ordinary gain received in third quarter was allocated equally to the third and fourth quarter. (v) Cumulative loss resulting from change in method of inventory valuation was recognized in the third quarter of ` 3 lakhs. Out of this loss ` 1 lakh relates to previous quarters. (vi) Sale of investment in the first quarter resulted in a gain of ` 20 lakhs. The company had apportioned this equally to the four quarters. Prepare the adjusted profit before tax for the third quarter. AS 20 9.

From the information furnished you are required to compute the Basic and Diluted EPS (earnings per share) for accounting year 01-04-2015 to 31-03-2016 and adjusted EPS for the year 01-04-2014 to 31-03-2015. Net profit for the year ended 31-03-2015 Net profit for the year ended 31-03-2016 No. of equity shares as on 01-04-2015 Bonus issue on 01-01-2016 No. of 12% Convertible Debentures of ` 100 each

` 75,50,000 ` 1,00,25,000 50,00,250 1 share for every 2 held 1,00,000

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FINAL EXAMINATION: NOVEMBER, 2016

issued on 01-01-2016 Conversion ratio of Debentures Tax rate

10 shares per debenture 30 percent

AS 29 10. (a) The company has not made provision for warrantee in respect of certain goods considering that the company can claim the warranty cost from the original supplier. Comment. Guidance Note on Accounting for Derivatives (b) Almighty Ltd. is an exporter of goods. In the month of July 2015, it receives the order for supply of goods to US customers in the month of January 2016 and as per the payment cycle with the customers, it expects to realise USD 100,000 in April 2016. Almighty Ltd. has decided to fully hedge the sales from foreign currency risk. Immediately after getting the order, to hedge the firm commitment in foreign currency it enters into a derivative transaction with Wealth Bank, for future sale of USD 100,000 in the month of April 2016 @ ` 65 per USD (Spot Rate was ` 64.50 per USD). For this purpose, it is assumed that the company has entered into a cash flow hedge, which is generally the case for hedging foreign currency risk. Further, it is assumed that: •

At the time of booking of sale in January 2016, the USD rate was ` 61, and forward rate for delivery on April 30, 2016 was ` 61.20.

•

On the reporting date on March 31, 2016, the USD rate was ` 60.50, and forward rate for delivery on April 30, 2016 was ` 60.60.

•

At the time of realisation USD rate was ` 60 on April 30, 2016.

The above transaction should be accounted by ignoring the impact of discounting of MTM of the hedging instrument. Pass necessary journal entries. Ind AS– Differencesvis-a-vis existing AS 11. (a) Explain some key differences between Ind AS 1 “Presentation of Financial Statements” and Existing notified AS 1 “Disclosure of Accounting Policies”. Carve outs in Ind AS from IFRS (b) Explain carve out in Ind AS 17 from IAS 17 with respect to “Leases” alongwith the reason.

PAPER – 1 : FINANCIAL REPORTING

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Applicability of Ind AS (c) Company A is a listed company and has three Subsidiaries Company X, Company Y and Company Z. As on 31st March 2014, the net worth of Company A is ` 600 crore, net worth of Company X is ` 100 crore, Company Y is ` 400 crore and Company Z is ` 210 crore. All the three subsidiaries are non-listed public companies. Comment in case of following three situation: A

During the financial year 2014-15, Company A has sold off its entire investment in Company X on 31st December 2014. Therefore, Company X is no longer a subsidiary of Company A for the purposes of preparation of financial statements as on 31st March 2015. Should Company X prepare its financial statements as per the Companies (Accounting Standards) Rules, 2006 or the Companies (Indian Accounting Standards) Rules, 2015?

B

During the financial year 2015-16, Company A has sold off its investment in Company Y on 31st December, 2015. Therefore, Company Y is no longer a subsidiary of Company A for the purposes of preparation of financial statements as on 31 March 2016. Should Company Y prepare its financial statements as per the Companies (Accounting Standards) Rules, 2006 or the Companies (Indian Accounting Standards) Rules, 2015?

C

During the financial year 2016-17, Company A has sold off its investment in Company Z on 31st December 2016, therefore company Z is no longer a subsidiary of Company A for the purposes of preparation of financial statements as on 31st March 2017. Should Company Z prepare its financial statements as per the Companies (Accounting Standards) Rules, 2006 or the Companies (Indian Accounting Standards) Rules, 2015?

Corporate Financial Reporting – Schedule III to the Companies Act, 2013 12. (a) Y Ltd purchased goods on 24 months credit but the creditor has the call option that can be exercised after 15 months. On the reporting date such trade payable was outstanding for 4 months (i.e. payable after 20 months from the reporting date). Is the trade payable current or non-current? (b) Where should the balances with banks to the extent held as margin money or security against the borrowings, guarantees, other commitments be disclosed? (c) Would it make any difference if the agreement allows the lender to demand immediate repayment of loan in case of default or breach of other debt covenant?

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FINAL EXAMINATION: NOVEMBER, 2016

However, the lender has not demanded repayment till authorization of financial statements for issue. Accounting for Corporate Restructuring 13. (a) Following is the summarized Balance Sheet of C Ltd. as on 31st March, 2016: Liabilities Equity shares of `10 each fully paid up Bonus shares Share option outstanding Account

` 12,50,000 1,00,000 4,00,000

Revenue Reserve

15,00,000

Securities Premium

2,50,000

Profit & Loss Account Capital Reserve

1,25,000 1,00,000

Revaluation Reserve Unpaid dividends

1,00,000 1,00,000

12% Debentures (Secured) Advance from related parties (Unsecured)

18,75,000 10,00,000

Current maturities of long term borrowings Application money received for allotment due for refund

16,50,000 2,00,000

Fixed Assets

86,50,000 46,50,000

Current Assets

40,00,000 86,50,000

The Company wants to buy back 25,000 equity shares of `10 each, on 1st April, 2016 at `20 per share. Buy back of shares is duly authorised by its Articles and necessary resolution has been passed by the Company towards this. The payment for buy back of shares will be made by the Company out of sufficient bank balance available shown as part of Current Assets. Comment with your calculations, whether buy back of shares by the Company is within the provisions of the Companies Act, 2013. If yes, pass necessary journal entries towards buy back of shares and prepare the Balance Sheet after buy back of shares.

PAPER – 1 : FINANCIAL REPORTING

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(b) Given below are the Balance Sheet of two companies as on 31st December, 2015. A Limited Liabilities Share Capital: Issued and fully paid up 50,000 8% Cumulative

` Assets

`

Patent

1,00,000

Building 5,00,000 Plant and Machinery

Preference Shares of Rs. 10 each

Furniture

5,40,000 15,10,000 75,000

1,50,000 Equity shares of ` 10 15,00,000 Investment each

1,55,000

General Reserve Profit and Loss account

7,65,000 Stock 1,25,000 Sundry Debtors

3,58,000 72,000

60,000 Cash and Bank 29,50,000

1,40,000 29,50,000

Sundry Creditors

B Limited Liabilities Share Capital: Issued and fully paid 50,000 Shares of ` 10 each Profit and Loss Account Sundry Creditors

Assets Goodwill Motor Car 5,00,000 Furniture 45,000 Stock 31,000 Sundry Debtors Cash and Bank 5,76,000 `

` 62,000 1,26,000 58,000 2,40,000 70,000 20,000 5,76,000

It has been agreed that both these companies should be wound up and a new · company AB Ltd. should be formed to acquire the assets of both the companies on the following terms and conditions: (i)

AB Ltd. is to have an authorized capital of ` 36,00,000 divided into 60,000, 8% cumulative preference shares of `10 each and 3,00,000 equity shares of ` 10 each.

(ii) AB Ltd. is to purchase the whole of the assets of A Ltd. (except cash and bank balances) for ` 28,25,000 to be settled as to ` 5,75,000 in cash and as to the balance by issue of 1,80,000 equity shares, credited as fully paid, to be treated as valued at ` 12.50 each. (iii) AB Ltd. is to purchase the whole of the assets of B Ltd. (except cash and bank balances) for `4,91,000 to be settled as to ` 16,000 in cash and as to the

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FINAL EXAMINATION: NOVEMBER, 2016

balance by issue of 38,000 equity shares, credited as fully paid, to be treated as valued at `12.50 each. (iv) A Ltd. and B Ltd. both are to be wound up, the two liquidators distributing the shares in AB Ltd. in kind among the equity shareholders of the respective companies. (v) The liquidator of A Ltd. is to pay the preference shareholders `12 in cash for every share held in full satisfaction of their claims. (vi) AB Ltd. is to make a public issue of 60,000, 5% cumulative preference shares at a premium of 10% and 30,000 equity shares at the issue price of ` 12.50 per share, all amount payable in full on application. It is estimated that the cost of liquidation (including the liquidators' remuneration) will be `10,000 in case of A Ltd. and ` 5,000 in case of B Ltd. and that the preliminary expenses of AB Ltd. will amount to ` 24,000 exclusive of the underwriting commission of `38,900 payable on the public issue. You are required to prepare the initial Balance Sheet of AB Ltd. on the basis that all assets other than goodwill are taken over at the book value. Consolidated Financial Statements 14. (a) On 31.3.2015, the Balance Sheet of Arohi Ltd. and Soumaya Ltd. were as follows:

Share Capital (` 100 each) Reserves Sundry Creditors Provision for Taxation Profit & Loss A/c

Arohi Ltd. 15,00,000

&

5,34,000

Soumaya Ltd. 1,35,000

11,15,000

4,28,000

4,38,000

1,50,000 Plant & Machinery 3,83,000 Stock

6,42,000

3,92,000

3,53,000

2,11,000 Debtors

7,80,000

2,70,000

32,000

6,000

2,18,000

1,18,000

33,21,000

13,49,000

9,50,000

80,000

33,21,000

Soumaya Ltd. 5,00,000 Land Building

Arohi Ltd.

1,05,000 Prepaid Expenses Cash at Bank 13,49,000

Both companies have arrangements with their bankers for overdraft facilities to meet contingencies.

PAPER – 1 : FINANCIAL REPORTING

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On 1.10.2015, Arohi Ltd. acquired 80% of the share in Soumaya Ltd. to pay them, Arohi Ltd. allotted, by way of consideration, 7.5% fully paid Redeemable Preference Shares (newly created) of the value of ` 6,00,000 in the capital of the company. The shares are redeemable after 10 years. Trading results for 2015-16 showed that Arohi Ltd. had earned a profit of ` 3,00,000 after writing off 10% depreciation on Plant and Machinery and after providing for taxation. It paid a dividend of 12% on equity shares. After writing off 10% depreciation on its Plant and Machinery, Profit and Loss Account of Soumaya Ltd. showed loss of ` 1,20,000. Arohi Ltd. decided to make a provision in its books against its share of loss of Soumaya Ltd. There was no addition to or retirement of fixed assets in 2015-16. The current assets and liabilities (other than bank balance or overdraft) stood as follows on 31.3.2016: Arohi Ltd.

Soumaya Ltd.

Assets Stock

6,10,000

4,08,000

Debtors Prepaid Expenses

7,50,000 22,000

2,60,000 6,000

Soumaya Ltd. Liabilities

1,10,000

-

Arohi Ltd. Sundry Creditors

4,50,000

90,000 2,50,000

Provision for Taxation

2,90,000

-

Prepare the Consolidated Balance Sheet of the two companies as at 31.3.2016. (b) Jointly Controlled Entity (JCE) sold to venturer (who holds 40% share in JCE) goods costing ` 1,00,000 at ` 1,50,000. Entire stock is held at ` 1,20,000 at net realisable value by venturer. Show how the stock will be reflected in the Consolidated Financial Statement. Financial Instruments 15. Arush Ltd. issued Debentures amounting to ` 100 lacs. As per the terms of the issue it has been agreed to issue equity shares amounting to ` 150 lacs to redeem the debentures at the end of 3rd year. Assume that comparable market yield is 10% for year 0 and 1, and 10.5% for Year 2 end. Show accounting entries. Share Based Payments 16. At the beginning of year 1, the enterprise grants 1,000 stock options to each member of its sales team, conditional upon the employees remaining in the employment of the

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FINAL EXAMINATION: NOVEMBER, 2016

enterprise for three years, and the team selling more than 50,000 units of a particular product over the three-year period. The fair value of the stock options is ` 15 per option at the date of grant. During year 2, the enterprise increases the sales target to 1,00,000 units. By the end of year 3, the enterprise has sold 55,000 units, and the stock options do not vest. Twelve members of the sales team have remained in service for the three-year period. Comment in light of the relevant Guidance Note that whether the company should recognise the expenses on the base of options granted or not. Also state will your answer differ if, instead of modifying the performance target, the enterprise had increased the number of years of service required for the stock options to vest from three years to ten years. Mutual Fund 17. A Mutual Fund raised 100 lakh on April 1, 2016 by issue of 10 lakh units of ` 10 per unit. The fund invested in several capital market instruments to build a portfolio of ` 90 lakh. The initial expenses amounted to ` 7 lakh. During April, 2016, the fund sold certain securities of cost ` 38 lakh for ` 40 lakh and purchased certain other securities for ` 28.20 lakh. The fund management expenses for the month amounted to ` 4.50 lakh of which ` 0.25 lakh was in arrears. The dividend earned was ` 1.20 lakh. 75% of the realized earnings were distributed. The market value of the portfolio on 30.04.2016 was ` 101.90 lakh. Determine NAV per unit. Valuation of Goodwill 18. The following is the extract from the Balance Sheets of Famous Ltd.: Liabilities

As at 31.3.2014 ` in lakhs

As at Assets 31.3.2015 ` in lakhs

As at 31.3.2014 ` in lakhs

As at 31.3.2015 ` in lakhs

Share capital

500

500 Fixed assets

550

650

General reserve

400

425 10% Investment

250

250

260

300

170

110

Profit and Loss account

60

90 Inventory

18% Term loan

180

Trade Payables

35

45 Cash at bank

46

45

Provision for tax

11

13 Fictitious assets

10

8

1,286

1,363

Proposed dividend

165 Trade Receivables

100

125

1,286

1,363

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Additional information: (i)

Replacement values of fixed assets were ` 1,100 lakhs on 31.3.14 and ` 1,250 lakhs on 31.3.2015 respectively.

(ii) Rate of depreciation adopted on fixed assets was 5% p.a. (iii) 50% of the inventory is to be valued at 120% of its book value. (iv) 50% of investments were trade investments. (v) Trade Receivables on 31st March, 2015 included foreign trade receivables of $ 35,000 recorded in the books at ` 35 per U.S. Dollar. The closing exchange rate was $ 1= ` 39. (vi) Trade Payables on 31st March, 2015 included foreign trade payables of $ 60,000 recorded in the books at $ 1 = ` 33. The closing exchange rate was $ 1 = ` 39. (vii) Profits for the year 2014-15 included ` 60 lakhs of government subsidy which was not likely to recur. (viii) ` 125 lakhs of Research and Development expenditure was written off to the Profit and Loss Account in the current year. This expenditure was not likely to recur. (ix) Future maintainable profits (pre-tax) are likely to be higher by 10%. (x) Tax rate during 2014-15 was 50%, effective future tax rate will be 40%. (xi) Normal rate of return expected is 15%. One of the directors of the company Arvind, fears that the company does not enjoy goodwill in the prevalent market circumstances. Critically examine this and establish whether Famous Ltd. has or has not any goodwill. If your answers were positive on the existence of goodwill, show the leverage effect it has on the company’s result. Industry average return was 12% on long-term funds and 15% on equity funds. Value Added Statement 19. Prepare a value added statement for the year ended on 31.03.2016 and reconciliation of total value added with profit before taxation, from the profit and loss account of Heaven Ltd. for the year ended on 31-03-2016. Income: Sales Other income Total Expenditure:

(`in lakhs) 254.00 6.00 260.00

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FINAL EXAMINATION: NOVEMBER, 2016

Operating cost

222.00

Excise duty Interest on bank overdraft

11.20 1.00

Interest on 9% debentures

15.00 249.20

Profit before depreciation Depreciation

10.80 4.10

Profit before tax Provision for tax

6.70 2.40

Profit after tax Proposed dividend

4.30 0.30

Retained profit

4.00

The following additional information are given: (i)

Sales represents net sales after adjusting discounts, returns and sales tax.

(ii) Operating cost includes `82.00 lakhs as wages, salaries and other benefits to employees. (iii) Bank overdraft is temporary. Economic Value Added 20. (a) Upwell Ltd. has provided the following information: (` in thousand) Equity Share Capital (` 10 each)

400

15% Preference Share Capital (` 10 each)

200

Reserves and Surplus 15% Debentures 10% Non-trade Investments (Nominal Value ` 100 thousand) Land and Building held as Investment

220 1600 140 20

Advance given for Purchase of Plant

10

Capital Work in Progress

30

Underwriting Commission (not written off) Earnings per share

20 16

Tax rate

30%

Beta factor

1.65

PAPER – 1 : FINANCIAL REPORTING

Market rate of return Risk free rate

17

16.25% 9.85%

Calculate Economic Value Added by the company. Human Resource Accounting (b) The following information is supplied to you about Support Ltd. Capital & Reserves Equity Shares of ` 100 each of which ` 75 has been called up Equity Shares in respect of which calls are in arrear @ 25 per share General Reserve

5,00,000 ` 1,00,000 ` 10,00,000

Profit & Loss account (balance at beginning of the year) Profit/(loss) for the year Industry Average Profitability 8% Debentures of ` 10 each Support Ltd. is proposing to hire the services of Mr. X to turn the company around. Minimum take home salary per month demanded by Mr. X Average Income tax rate on salaries above ` 3 lakhs per annum Provident Fund contribution by Employer per month Profits over and above target expected by hiring Mr. X

` (25,00,000) ` (1,80,000) 12.50% 8,00,000

` 4,00,000 25% ` 50,000 10%

You are required to analyze the proposal and see whether it is worthwhile to employ Mr. X and also suggest the maximum emoluments that could be paid to him. Note: (i)

PF contributions are tax exempt.

(ii) Take home salary is that remaining after employee's contribution to PF @ ` 50,000 per month and after deduction of Income-tax on salary. SUGGESTED ANSWERS / HINTS 1.

(a) Para 27 of AS 1 ‘Disclosure of Accounting Policies’ requires that if the fundamental accounting assumptions, viz. Going Concern, Consistency and Accrual are followed in financial statements, specific disclosure is not required. However, if a fundamental accounting assumption is not followed, the fact should be disclosed.

18

FINAL EXAMINATION: NOVEMBER, 2016

Since the decision of the High Court was pending till the date of preparation of the financial statements, it is not appropriate to assume that the two companies had merged in the said financial year. Accordingly, not recognizing the interest income as well as lease rent payable to the subsidiary company in the financial statements of 2015-16, although they have become due, tantamount to not following the accrual concept with regard to AS 1. This is also contrary to the provisions of the section 128(1) of the Companies Act, 2013 which states that the books of accounts should be kept on accrual basis and according to the double entry system of accounting. Further as per the section, financial statements for every financial year shall give true and fair view of the state of the affairs of the company. (b) Computation of cost of inventory and allocation of material cost

` 11,57,000

Purchase price [13,000 kg. x ` (90- 1)] Less:Excise duty on which CENVAT credit is admissible (13,000 kg. x ` 5)

(65,000) 10,92,000

Add: Freight Allocated administrative expenses

30,000 10,000

A. Total material cost

11,32,000

B. Number of units to be normally received = 96% of 13,000 kg. C. Normal cost per kg. (A/B)

12,480kg. `90.705

Allocation of material cost Kg. Materials consumed Cost of inventory (12,400- 10,000) Abnormal loss Total material cost

`/Kg.

10,000

2,400 90.705(approx.)

` 9,07,050 2,17,692

80

7,258*

12,480

11,32,000

*The difference due to rounding off of cost per kg. has been adjusted. Thus, the inventory will be valued at ` 2,17,692. Notes: 1.

Abnormal loss will be recognized as a separate expense.

2.

Containers are used for delivery of the chemicals and are not reusable. Cost of these containers is treated as selling and distribution expense. The sale value of these containers will be credited to Profit and Loss Account and shall not be

PAPER – 1 : FINANCIAL REPORTING

19

considered for the purpose of valuation of inventory. Alternatively, candidates may deduct ` 500, the sales value of container assuming that the same is applicable to the purchases made, while computing material cost. In that case the material cost will be computed as ` 11,31,500 (`11,32,000 – `500) instead of ` 11,32,000. Accordingly the allocation of material cost will get change. 3. 2.

State VAT has not been included in the cost of material assuming that the input credit is admissible on the same.

(a) Table showing classification of items into operating, investing or financing activities S. No.

Items

Activity

(i)

Interest paid by the financial enterprise

Cash flow activities

from

operating

(ii)

Dividend paid

Cash flow activities

from

financing

(iii)

TDS on interest received from the subsidiary company

Cash flow activities

from

investing

(iv)

Deposit with bank for a term of two years

Cash flow activities

from

investing

(v)

Insurance claim received against loss of machinery by fire

Extraordinary item to be shown as a separate heading under ‘Cash flow from investing activities’

(b) Purchase of business falls under Investing Activities as per AS 3 “Cash Flow Statement”. As per para 37 of the standard, the aggregate cash flows arising from acquisitions and from disposals of other business units should be presented separately and classified as investing activities. Also as per para 39, the separate presentation of the cash flow effects of acquisitions and disposals of subsidiaries and other business units as single line items helps to distinguish those cash flows from other cash flows. The cash flow effects of disposals are not deducted from those of acquisitions. Accordingly, netting of aggregate cash flows from disposal and acquisition of business units would not be appropriate as per the standard. 3.

(a) According to AS 4 ‘Contingencies and Events Occurring after the Balance Sheet Date’, adjustments to assets and liabilities are required for events occurring after the balance sheet date that provide additional information materially affecting the determination of the amounts relating to conditions existing at the balance sheet date. However, adjustments to assets and liabilities are not appropriate for events occurring after the balance sheet date, if such events do not relate to conditions

20

FINAL EXAMINATION: NOVEMBER, 2016

existing at the balance sheet date. “Contingencies” used in the Standard is restricted to conditions or situations at the balance sheet date, the financial effect of which is to be determined by future events which may or may not occur. (i)

Fire has occurred after the balance sheet date and since no information in this regard exist on the balance sheet date, it is a non-adjusting event. Also the loss is totally insured. Therefore, the event becomes immaterial but disclosure with this regard might be made in the financial statements.

(ii) The contingency is restricted to conditions existing at the balance sheet date. However, in the given case, suit was filed against the company’s advertisement by a party on 10th April, 2016 for amount of ` 20 lakh. Therefore, it does not fit into the definition of a contingency. Also no condition for filing of suit against the company existed on the balance sheet date. Hence it is a non-adjusting event. (iii) In the given case, proposal for sale of immovable property was sent before the closure of the books of accounts. This is a non-adjusting event as only the proposal was sent and no agreement was effected in the month of March, 2016 i.e. before the balance sheet date. Alternatively, it may be assumed that the proposal was sent only after advance negotiation. Hence, it shall be considered as an adjusting event. Accordingly, the adjustment may be made to the book value of the asset. (iv) As the term and conditions of acquisition of business of another company had been decided by the end of March, 2016, acquisition of business shall be considered as an adjusting event occurring after the balance sheet date since arrangement of resources is merely for completion of the transaction. Hence, adjustment to assets and liabilities is required in the financial statements for the financial year ended on 31st March, 2016 since the event occurring after the balance sheet date i.e. investment of ` 40 lakh merely confirms the deal/investment and its amount. (v) Since the financial statements have been approved before detection of theft by the cashier of ` 2,00,000, it becomes a non-adjusting event and no disclosure is required in the report of the approving authority. (b) (i)

Since the company is not appealing against the addition of ` 1.70 crore (` 5.40 crore less ` 3.70 crore), therefore, the same should be provided/ expensed off in its accounts for the year ended on 31st March, 2016. However, the amount paid under protest can be kept under the heading ‘Long-term Loans & Advances / Short-term Loans and Advances’ as the case may be alongwith disclosure as contingent liability of ` 3.70 crore.

PAPER – 1 : FINANCIAL REPORTING

21

(ii) The arrears for the period from June, 2015 to March, 2016 are required to be provided for in the accounts of the company for the year ended on 31st March, 2016. 4.

(a) Calculation of total estimated cost of construction

` in crore Cost of construction of bridge incurred upto 31.3.16

4.00

Add: Estimated future cost Total estimated cost of construction

6.00 10.00

Contract Price (12 crore x 1.05)

12.60 crore

Stage of completion Percentage of completion till date to total estimated cost of construction = (4/10)×100 = 40% Revenue and Profit to be recognized for the year ended 31st March, 2016 1.

Proportion of total contract value recognized as revenue = Contract price x percentage of completion =` 12.60 crore x 40% = `5.04 crore

2. Profit for the year ended 31st March, 2016 = ` 5.04 crore –` 4 crore =` 1.04 crore (b) As per the Explanation to para 10 of AS 9 ‘Revenue Recognition’ the amount of excise duty to be deducted from the turnover should be the total excise duty for the year except the excise duty related to the difference between the closing stock and opening stock. However, standard does not require basic custom duty to be shown as deduction from sales. Basic custom duty is an expense of the company and should have been shown as a charge in the Statement of Profit and Loss. Showing basic custom duty as a deduction to sales will tantamount to contradiction of Generally Accepted Accounting Principles. Therefore, the managements’ contention that excise duty shall be deducted from gross sales is correct but with respect to deduction of basic custom duty, there contention is not correct. Calculation of net sales:

` Turnover (Gross)

56,25,000

22

5.

FINAL EXAMINATION: NOVEMBER, 2016

Less: Excise Duty

(6,25,000)

Turnover (Net)

50,00,000

(a) As per AS 16, ‘Borrowing Costs’, an asset will be considered as a qualifying asset only when it takes substantial period of time to get ready for its intended use. Ordinarily, a period of twelve months is considered as substantial period of time unless a shorter or longer period can be justified on the basis of facts and circumstances of the case. In the given case, since the asset was under construction for the period of six months from its acquisition, it is considered as a non-qualifying asset in an ordinary case. Accordingly, borrowing cost will not be capitalized. Further, the company may opt to capitalize the exchange difference arising on the settlement of monetary items or on reporting an enterprise’s monetary items at rates different from those at which they were initially recorded during the period, or reported in previous financial statements, or to recognise as income or expense in the period in which they arise. Applying the provisions of AS 11 (option to capitalize) ∗ amount to be capitalized in each of the years will be as follows: Purpose

Initial cost at the time of acquisition of fixed asset On payment of 1st instalment Interest paid with 1st instalment On payment of 2nd instalment Interest paid with 2nd instalment Exchange difference on closing balance of long term foreign currency At the end of the year 1 ∗

US $ 1,25,000 x ` 61.50 US $ 25,000 x ` (61.60 - 61.50)

Amount to be capitalised

Interest to be charged to profit and loss account

`

`

76,87,500 2,500

(1,00,000 x 8% x 6/12)x61.60 US $ 25,000 x ` (61.80 - 61.50)

2,46,400 7,500

(75,000 x 8% x 6/12) x 61.80

1,85,400

US $ 50,000 x ` (61.80 - 61.50) 15,000 77,12,500

4,31,800

As per the clarification given by MCA dated 29.12.2011, Para 6 of AS 11 and Para 4(e) of the AS 16 shall not apply to a company which is applying Para 46A of AS 11.

PAPER – 1 : FINANCIAL REPORTING On payment of 3rd instalment Interest paid with 3rd instalment On payment of 4th instalment Interest paid with 4th instalment At the end of the year 2

US $ 25,000 x ` (61.90 - 61.80)

23 2,500

(50,000 x 8% x 6/12) x 61.90

1,23,800

US $ 25,000 x ` (62.10 - 61.80)

7,500

(25,000 x 8% x 6/12) x 62.10 10,000

62,100 1,85,900

The entire amount of exchange difference of ` 35,000 (25,000 + 10,000) will be capitalized to ‘Fixed Asset account’. This capitalized exchange difference will be depreciated over the useful life of the asset. (b)

Journal Entries in the books of Anshuman Ltd. Year

Particulars

1st year Fixed Asset Account (50 – 10)

` in lakhs (Dr.)

Dr.

` in lakhs (Cr.)

40

To Bank Account

40

(Being government grant on asset received which decreased the cost of fixed asset) Depreciation Account (W.N.)

Dr.

4

To Fixed Asset Account

4

(Being depreciation charged on SLM on fixed asset) Profit & Loss Account

Dr.

4

To Depreciation Account

4

(Being depreciation transferred to Profit and Loss Account at the end of year 1) 2nd year Fixed Asset Account

Dr.

7

To Bank Account

7

(Being government grant on asset partly refunded which increased the cost of fixed asset) Depreciation Account (W.N.) To Fixed Asset Account

Dr.

5 5

24

FINAL EXAMINATION: NOVEMBER, 2016

(Being depreciation charged on SLM on revised value of fixed asset prospectively) Profit & Loss Account

Dr.

To Depreciation Account

5 5

(Being depreciation transferred to Profit and Loss Account at the end of year 2) Working Note: Depreciation for year 1 and 2

` in lakhs Cost of the Asset

50

Less: Government grant received

(10) 40

 40 − 8  Less: Depreciation for the first year    8 

(4)

Book value at the end of 1st year

36

Add: Government grant refundable in

2nd

year

 43 − 8  Depreciation for the second year    7 

6.

7 43 5

(a) As per AS 13 ‘Accounting for Investments’, if the shares are purchased with an intention to hold for short-term period then investment will be shown at the market value. In the given case, shares purchased on 31st October, 2015, will be valued at ` 3,75,000 as on 31st March, 2016. Gold and silver are generally purchased with an intention to hold it for long term period until and unless given otherwise. Hence, the investment in gold and silver (purchased on 31st March, 2013) shall continue to be shown at cost as on 31st March, 2016 i.e., ` 5,00,000 and ` 2,25,000 respectively, though their realizable values have been increased. Thus the shares, gold and silver will be shown at ` 3,75,000, ` 5,00,000 and ` 2,25,000 respectively and hence, total investment will be valued at ` 11,00,000 in the books of account of Dynamic Ltd. for the year ending 31 st March, 2016 as per provisions of AS 13.

PAPER – 1 : FINANCIAL REPORTING

25

Alternatively, if equity shares are acquired with an intention to hold for long term period then it will continue to be shown at cost in the Balance Sheet of the company. However, provision for diminution shall be made to recognize a decline, if other than temporary, in the value of the investments. In the given case, shares purchased on 31st October, 2015, will be valued at ` 4,50,000 as on 31st March, 2016 assuming that the fall in market value of the shares as on 31 st March, 2016 is temporary in nature. (b) As per AS 14 ‘Accounting for Amalgamations’, the term ‘consideration’ has been defined as the aggregate of the shares and other securities issued and the payment made in the form of cash or other assets by the transferee company to the shareholders of the transferor company. The payment made by transferee company to discharge the Debenture holders and outside liabilities and cost of winding up of transferor company shall not be considered as part of purchase consideration. Computation of Purchase Consideration

` Cash payment `15 x 1,50,000 11% Preference Shares of ` 10 each @ 10% discount [(1,50,000 x 3/5) x ` 9] Equity shares of ` 10 each @ 20% premium [(1,50,000 x 4/5) x ` 12] Total Purchase consideration 7.

22,50,000 8,10,000

14,40,000 45,00,000

(a) The present case falls under the category of defined benefit scheme under Para 49 of AS 15 (Revised) “Employee Benefits”. The said para encompasses cases where payment promised to be made to an employee at or near retirement presents significant difficulties in the determination of periodic charge to the statement of profit and loss. The contention of the Company that the settlement allowance will be accounted for on claim basis is not correct even if company’s obligation under the scheme is uncertain and requires estimation. In estimating the obligation, assumptions may need to be made regarding future conditions and events, which are largely outside the company’s control. Thus, (1) Settlement allowance payable by the company is a defined retirement benefit, covered by AS 15 (Revised). (2) A provision should be made every year in the accounts for the accruing liability on account of settlement allowance. The amount of provision should be calculated according to actuarial valuation.

26

FINAL EXAMINATION: NOVEMBER, 2016

(3) Where, however, the amount of provision so determined is not material, the company can follow some other method of accounting for settlement allowances. (b) Net effect on the Statement of Profit and Loss in the year of sale in the books of Lessee (Sahara Ltd.) For calculation of net effect on the statement of profit and loss on sale of equipment, it has to be judged whether lease is an operating lease or finance lease. The lease term is for 10 years which covers the entire economic life of the equipment. At the inception of the lease, the present value of the minimum lease payments (MLP) is ` 6,14,400 [` 1,00,000 x 6.144 (Annuity factor of ` 1 @10% for 10 years)] and amounts to at least substantially all of the fair value (sale price i.e. ` 6,14,460) of the leased equipment. Thus lease is a finance lease. As per para 48 of AS 19 “Leases”, if a sale and leaseback transaction results in a finance lease, profit of ` 5,14,460 (Sale value ` 6,14,460 less carrying amount ` 1,00,000) will not be recognized as income in the year of sale in the books of lessee i.e. Sahara Ltd. It should be deferred and amortised over the lease term in proportion to the depreciation of the leased asset. Therefore, assuming that depreciation is charged on straight line basis, Sahara Ltd. will recognize depreciation of ` 61,446 per annum for 10 years (` 6,14,460/ 10) and amortise profit of ` 5,14,460 over the lease term of 10 years, i.e. ` 51,446 p.a. The net effect is a debit of (` 61,446 - ` 51,446) ` 10,000 p.a. to the Statement of Profit and Loss, for 10 years as covered under the lease term. Note: Had there been no sale and lease back transaction, the Statement of Profit and Loss for each year (covered in the lease term) would have been charged by (` 1,00,000/10) ` 10,000, towards depreciation. Thus, the sale and lease back transaction will have no impact on profit or loss account to be reported by the lessee (vendor in the sales transaction) over the lease period. 8.

(a) As per para 13 of AS 22, “Accounting for Taxes on Income”, deferred tax in respect of timing differences which originate during the tax holiday period and reverse during the tax holiday period, should not be recognised to the extent deduction from the total income of an enterprise is allowed during the tax holiday period as per the provisions of sections 10A and 10B of the Income-tax Act. Deferred tax in respect of timing differences which originate during the tax holiday period but reverse after the tax holiday period should be recognised in the year in which the timing differences originate. However, recognition of deferred tax assets should be subject to the consideration of prudence. For this purpose, the timing differences which originate first should be considered to reverse first. Out of ` 200 lakhs depreciation, timing difference amounting `80 lakh (` 10 lakh x 8 years) will reverse in the tax holiday period and therefore, should not

PAPER – 1 : FINANCIAL REPORTING

27

be recognised. However, for ` 120 lakh (`200 lakh – ` 80 lakh), deferred tax liability will be recognised for ` 48 lakh (40% of ` 120 lakh) in first year. In the second year, the entire amount of timing difference of ` 400 lakh will reverse only after tax holiday period and hence, will be recognised in full. Deferred tax liability amounting ` 160 lakh (40% of ` 400 lakh) will be created by charging it to profit and loss account and the total balance of deferred tax liability account at the end of second year will be ` 208 lakh (48 lakh + 160 lakh). (b) As per para 36 of AS 25 “Interim Financial Reporting”, seasonal or occasional revenue and cost within a financial year should not be deferred as of interim date untill it is appropriate to defer at the end of the enterprise’s financial year. Therefore dividend income, extra-ordinary gain, and gain on sale of investment received during 3rd quarter should be recognised in the 3rd quarter only. Similarly, sales promotion expenses incurred in the 3 rd quarter should also be charged in the 3rd quarter only. Further, as per the standard, if there is change in the accounting policy within the current financial year, then such a change should be applied retrospectively by restating the financial statements of prior interim periods of the current financial year. The change in the method of depreciation or inventory valuation is a change in the accounting policy. Therefore, the prior interim periods’ financial statements should be restated by applying the change in the method of valuation retrospectively. Accordingly, the adjusted profit before tax for the 3rd quarter will be as follows: Statement showing Adjusted Profit Before Tax for the third quarter (` in lakhs) Profit before tax (as reported)

4

Add: Dividend income `(4-1) lakhs Excess depreciation charged in the 3rd quarter, due to change in the method, should be applied retrospectively ` (12-3) lakhs

3 9

` (2-1) lakhs

1

Cumulative loss due to change in the method of inventory valuation should be applied retrospectively ` (3-2)lakhs

1

Extra ordinary gain

18 Less: Sales promotion expenses (80% of ` 15 lakhs) Gain on sale of investment (occasional gain should not be deferred) Adjusted Profit before tax for the third quarter

(12) (5) 1

28

9.

FINAL EXAMINATION: NOVEMBER, 2016

No. of bonus shares issued as on 1.1.2016 On existing shares (50,00,250 x ½)

25,00,125 shares

On convertible debentures as per SEBI Guidelines on Bonus Issue (1,00,000 debentures x 10 shares x ½)

5,00,000 shares

Basic Earnings per share for the year 2015-16 =

Net profit for the year ended 31.3.2016 Weighted average number of equity share as on 31.3.2016

` 1,00,25,000 = 50,00,250 + 25,00,125 + 5,00,000 ) (

` 1.25

Adjusted earnings per share for the year 2014-15 =

` 75,50,000

( 50,00,250 + 25,00,125 + 5,00,000 )

= ` 0.94

For Diluted EPS Interest expense for the current year

= ` 12,00,000

Tax relating to interest expense (30%)

= ` 3,60,000

Adjusted net profit for the current year = ` 1,00,25,000 + (12,00,000 -3,60,000) x3/12 = ` 1,02,35,000 No. of equity shares resulting from conversion of debentures = 1,00,000 x 10 shares = 10,00,000 No. of equity shares used to compute diluted earnings per share = 50,00,250 + 25,00,125 + 5,00,000 + (10,00,000 x 3/12) = 50,00,250 + 25,00,125 + 5,00,000 + 2,50,000 = 82,50,375 shares Diluted earnings per share = 1,02,35,000/82,50,375 = ` 1.24 Note: As per AS 20, bonus shares issued to existing shareholders and to convertible debenture holders (on conversion of debentures into shares) are an issue without consideration. Therefore, it is treated as if it had occurred prior to the beginning of the year 2014-15, the earliest period reported. 10. (a) As per para 46 of AS 29 “Provisions, Contingent Liabilities and Contingent Assets”, where some or all of the expenditure required to settle a provision is expected to be reimbursed by another party, the reimbursement should be recognised when, and only when, it is virtually certain that reimbursement will be received if the enterprise

PAPER – 1 : FINANCIAL REPORTING

29

settles the obligation. The reimbursement should be treated as a separate asset. The amount recognised for the reimbursement should not exceed the amount of the provision. It is apparent from the question that the company had not made provision for warranty in respect of certain goods considering that the company can claim the warranty cost from the original supplier. However, the provision for warranty should have been made as per AS 29 and the amount claimable as reimbursement should be treated as a separate asset in the financial statements of the company rather than omitting the disclosure of such liability. Accordingly, it was viewed that the accounting treatment adopted by the company with respect to warranty is not correct. (b)

Journal Entries Date

Particulars

July, 2015

No entry in the books

Dr. (Rs.)

Cr. (Rs.)

(Being Almighty Ltd. entered to sell a forward exchange contract for USD 100,000 having ten months maturity on April 30, 2016 when forward exchange rate is ` 65.00 per USD and spot rate as at July 01, 2015 is ` 64.50 per USD) Upto January Forward Contract Receivable A/c Dr. 31, 2016 To Cash Flow Hedge Reserve

3,80,000

A/c

3,80,000

(Being Almighty Ltd. accounts the MTM effect in the books when forward contract rate entered is ` 65.00 per USD and forward contract available in the market with similar maturity is ` 61.20 per USD) January 31, Recognition of Revenue 2016 Accounts Receivable

Dr.

61,00,000

To Revenue Recognition of Hedging gain Cash Flow hedge reserve To Profit & Loss A/c

61,00,000 Dr.

3,80,000 3,80,000

30

FINAL EXAMINATION: NOVEMBER, 2016

(Being Almighty Limited recognises the revenue by booking an invoice for USD 100,000, having credited period of 90 days (i.e. due date – April 30, 2016) when spot rate as at January 31, 2016 is ` 61.00 per USD and forward contract available in the market with similar maturity is ` 61.20 per USD) March 2016

31, Restatement Receivable

of

Accounts

Forex Gain/Loss (P&L) To Accounts Receivable MTM Effect of Forward Cover Forward Contract Receivable

Dr.

50,000 Dr.

To Forex Gain/Loss (P&L) (Being year-end spot rate is ` 60.50 per USD and forward contract available in the market with similar maturity is ` 60.60 per USD) April 2016

30, Realisation Receivable

of

50,000

60,000 60,000 60.50

Accounts

Bank

Dr.

60,00,000

Forex Gain/Loss (P&L) To Accounts Receivable

Dr.

50,000 60,50,000

Maturity of Forward Contract Bank

Dr.

5,00,000

To Forward Contract Receivable To Forex Gain/Loss (P&L)

4,40,000 60,000

(Being spot rate is ` 60.00 per USD) 11. (a) Some key differences between Ind AS 1 and Existing AS 1 are: Ind AS 1 deals with presentation of financial statements, whereas existing AS 1 (issued 1979) deals only with the disclosure of accounting policies. The scope of

PAPER – 1 : FINANCIAL REPORTING

31

Ind AS 1 is thus much wider and line by line comparison of the differences with the existing standard is not possible. However, the major requirements as laid down in Ind AS 1 are as follows: (i)

An enterprise shall make an explicit statement in the financial statements of compliance with all the Ind AS. Further, Ind AS 1 allows deviation from a requirement of an Accounting standard in case the management concludes that compliance with Ind AS will be misleading and if the regulatory framework requires or does not prohibit such a departure.

(ii) Ind AS 1 requires presentation and provides criteria for classification of Current / Non-current assets / liabilities. (iii) Ind AS 1 prohibits presentation of any item as ‘Extraordinary Item’ in the statement of profit and loss or in the notes. (iv) Ind AS 1 requires disclosure of judgments made by management while framing of accounting policies. Also, it requires disclosure of key assumptions about the future and other sources of measurement uncertainty that have significant risk of causing a material adjustment to the carrying amounts of assets and liabilities within next financial year. (v) Ind AS 1 requires classification of expenses to be presented based on nature of expenses. (vi) Ind AS 1 requires presentation of balance sheet as at the beginning of the earliest period when an entity applies an accounting policy retrospectively or makes a retrospective restatement of items in the financial statements, or when it reclassifies items in its financial statements. (vii) In respect of reclassification of items, Ind AS 1 requires disclosure of nature, amount and reason for reclassification in the notes to financial statements. (viii) Ind AS 1 requires the financial statements to include a Statement of Changes in Equity to be shown as a separate statement, which, inter alia, includes reconciliation between opening and closing balance for each component of equity. (ix) Ind AS 1 requires that an entity shall present a single statement of profit and loss, with profit or loss and other comprehensive income presented in two sections. The sections shall be presented together, with the profit or loss section presented first followed directly by the other comprehensive income section. (x) As per Ind AS 1, an entity shall include certain comparative information for understanding the current period’s financial statements. (xi) Ind AS 1 clarifies that long term loan arrangement need not be classified as current on account of breach of a material provision, for which the lender has

32

FINAL EXAMINATION: NOVEMBER, 2016

agreed to waive before the approval of financial statements for issue. (b) IAS 17 requires all leases rentals to be charged to Statement of Profit and Loss on straight line basis in case of operating leases unless another systematic basis is more representative of the time pattern of the user’s benefit even if the payments to the lessor are not on that basis. Carve out: A carve-out has been made to provide that lease rentals, in case of operating leases, shall be charged to the Statement of Profit and Loss in accordance with the lease agreement if the payments to the lessor are structured to increase in line with expected general inflation to compensate for the lessor’s expected inflationary cost increases. If payments to the lessor vary because of factors other than general inflation, then this condition is not met. Reason: Companies enter into various kinds of lease agreements to get the right to use an asset of the lessor. Considering the Indian inflationary situation, lease agreements contain periodic rent escalation. Accordingly, where there is periodic rent escalation in line with the expected inflation so as to compensate the lessor for expected inflationary cost increases, the rentals shall not be straight-lined. (c) The Companies (Indian Accounting Standards) Rules, 2015, states that the following companies shall comply with Ind AS for the accounting periods beginning on or after 1st April, 2016, with the comparatives for the periods ending on 31st March, 2016, or thereafter, namely:(a) companies whose equity or debt securities are listed or are in the process of being listed on any stock exchange in India or outside India and having net worth of rupees five hundred crore or more; (b) companies other than those covered by point (a) above and having net worth of rupees five hundred crore or more; (c) holding, subsidiary, joint venture or associate companies of companies covered by point (a) and (b) as the case may be; Further, the Companies (Indian Accounting Standards) Rules, 2015, states that for the purposes of calculation of net worth of companies, the following principles shall apply, namely:(a) the net worth shall be calculated in accordance with the stand-alone financial statements of the company as on 31st March, 2014 or the first audited financial statements for accounting period which ends after that date; (b) for companies which are not in existence on 31st March, 2014 or an existing company falling under any of thresholds specified for the first time after 31st March, 2014, the net worth shall be calculated on the basis of the first audited financial statements ending after that date in respect of which it meets the thresholds specified.

PAPER – 1 : FINANCIAL REPORTING

33

The companies meeting the specified thresholds for the first time at the end of an accounting year shall apply Ind AS from the immediate next accounting year in the manner specified above. Once a company starts following Ind AS either voluntarily or mandatorily on the basis of criteria specified, it shall be required to follow Ind AS for all the subsequent financial statements even if any of the criteria specified in the rule does not subsequently apply to it. In view of the above requirements, Company A meets the criteria as specified the Companies (Indian Accounting Standards) Rules, 2015, on 31st March, 2014. Accordingly, the Companies (Indian Accounting Standards) Rules, 2015, will become applicable to the Company on mandatory basis from accounting periods commencing 1st April, 2016. A holding, subsidiary, joint venture or associate company of a Company to which the Companies (Indian Accounting Standards) Rules, 2015 applies will be required to follow the Companies (Indian Accounting Standards) Rules, 2015 for preparing and presenting its financial statements. In the abovementioned case, Company A has net worth of more than ` 500 crore in the financial year ending 31st March 2014. Therefore, ordinarily Company A along with its subsidiaries will have to apply Indian Accounting Standards (Ind ASs) for preparing financial statements for the accounting periods commencing 1st April, 2016, except in situations covered by Case A and Case B as discussed below. A

Company A has sold off its entire investment in Company X on 31st December, 2014; Company X is no longer a subsidiary of Company A as at the beginning of 1st April, 2016. Therefore, in this case, Company X would continue to prepare financial statements for the accounting periods commencing 1st April, 2016, as per the Companies (Accounting Standards) Rules, 2006.

B

Company A has sold its investment in subsidiary Company Y on 31st December, 2015, in consequence of which Company Y is no longer subsidiary of Company A as at the beginning of 1st April, 2016. Therefore, the Companies (Indian Accounting Standards) Rules, 2015 will not be applicable to Company Y. Therefore, Company Y would continue to prepare financial statements for accounting periods commencing April 1, 2016 under the Companies (Accounting Standards) Rules, 2006.

C

Company A has sold its investment in subsidiary Company Z on 31st December, 2016; therefore, Company Z was a subsidiary of Company A as at the beginning of 1st April, 2016. Company Z being subsidiary of Company A as at the beginning of 1st April, 2016, would have to prepare financial

34

FINAL EXAMINATION: NOVEMBER, 2016

statements for the accounting periods commencing 1st April, 2016 as per the Companies (Indian Accounting Standards) Rules, 2015. 12. (a) Under instant case the call option is exercisable within 12 months of reporting date (15 months minus 4 months), and accordingly the company does not have an unconditional right to defer settlement of the liability for at least twelve months after the reporting date, and therefore same are to be classified as current trade payables. (b) These are required to be disclosed under cash and cash equivalents separately in notes to accounts under Schedule III, however same is in conflict with the requirements of AS 3 “Cash Flow Statements” as they are neither in nature of demand deposits, nor readily available for use by the company, accordingly do-not meet the definition of cash equivalents. Hence the said items should also be included as ‘other bank balances’ under cash and bank balances alongwith FDR having balance maturity period of more than 12 months. (c) As per the Guidance Note on the Schedule III to the Companies Act, 2013, a breach is considered to impact the non-current nature of the loan only if the loan has been irrevocably recalled. Hence, in the Indian context, long-term loans, which have a minor or major breach in terms, will be considered as current only if the loans have been irrevocably recalled before authorization of the financial statements for issue. However, in case a bank has recalled the loan before the date of approval of the accounts on breach of a loan covenant that occurred before the year-end, the loan will have to be classified as current. 13. (a) Determination of Buy back of maximum no. of shares as per the Companies Act, 2013 1.

Shares Outstanding Test Particulars

(Shares)

Number of shares outstanding (` 12,50,000 + ` 1,00,000)/ ` 10

1,35,000

25% of the shares outstanding 2.

33,750

Resources Test Maximum permitted limit 25% of Equity paid up capital + Free Reserves Particulars Paid up capital (`)

13,50,000

Free reserves (`) (15,00,000 + 2,50,000 + 1,25,000)

18,75,000

Shareholders’ funds (`)

32,25,000

25% of Shareholders fund (`) Buy back price per share

8,06,250 ` 20

PAPER – 1 : FINANCIAL REPORTING

3.

35

Number of shares that can be bought back (shares)

40,312

Actual Number of shares for buy back

25,000

Debt Equity Ratio Test Loans cannot be in excess of twice the Equity Funds post Buy Back Particulars

`

(a) Loan funds (`) (18,75,000+10,00,000+16,50,000 + 1,00,000 + 2,00,000)

48,25,000

(b) Minimum equity to be maintained after buy back in the ratio of 2:1 (`) (a/2)

24,12,500

(c)

32,25,000

Present equity/shareholders fund (`)

(d) Future equity/shareholders fund (`) (see W.N.) (32,25,000 – 2,70,833) (e) Maximum permitted buy back of Equity (`) [(d) – (b)] (f)

Maximum number of shares that can be bought back @ ` 20 per share

(g) Actual Buy Back Proposed Shares

29,54,167 ∗ 5,41,667 27,083 Shares 25,000

Summary statement determining the maximum number of shares to be bought back Particulars

∗

Number of shares

Shares Outstanding Test

33,750

Resources Test

40,312

Debt Equity Ratio Test

27,083

Maximum number of shares that can be bought back [least of the above]

27,083

As per Section 68 (2) (d) of the Companies Act 2013, the ratio of debt owed by the company should not be more than twice the capital and its free reserves after such buy-back. Further under Section 69 (1), on buy-back of shares out of free reserves a sum equal to the nominal value of the share bought back shall be transferred to Capital Redemption Reserve (CRR). As per section 69 (2) utilization of CRR is restricted to fully paying up unissued shares of the Company which are to be issued as fully paid-up bonus shares only. It means CRR is not available for distribution as dividend. Hence, CRR is not a free reserve. Therefore, for calculation of future equity i.e. share capital and free reserves, amount transferred to CRR on buy-back has to be excluded from the present equity.

36

FINAL EXAMINATION: NOVEMBER, 2016

Company qualifies all tests for buy-back of shares and conclusion is that it can buy maximum 27,083 shares on 1st April, 2016. However, company wants to buy-back only 25,000 equity shares @ ` 20. Therefore, buy-back of 25,000 shares, as desired by the company is within the provisions of the Companies Act, 2013. Journal Entries for buy-back of shares Debit (`) (a) Equity shares buy-back account

Dr.

Credit (`)

5,00,000

To Bank account

5,00,000

(Being buy back of 25,000 equity shares of ` 10 each @ ` 20 per share) (b) Equity share capital account Securities premium account To Equity shares buy-back account

Dr.

2,50,000

Dr.

2,50,000 5,00,000

(Being cancellation of shares bought back) (c)

Revenue reserve account To Capital redemption reserve account

Dr.

2,50,000 2,50,000

(Being transfer of free reserves to capital redemption reserve to the extent of nominal value of capital bought back through free reserves) Balance Sheet of C Ltd.as on 1st April, 2016 Particulars

Note No

Amount

` Equity and Liabilities 1 Shareholders' funds (a) Share capital

1

11,00,000

(b) Reserves and Surplus 2 Non-current liabilities

2

22,25,000

(a) Long-term borrowings

3

28,75,000

PAPER – 1 : FINANCIAL REPORTING

37

3 Current liabilities (a) Other current liabilities

4

19,50,000 81,50,000

Total Assets 1 Non-current assets (a) Fixed assets 2 Current assets (40,00,000-5,00,000)

46,50,000 35,00,000 Total

81,50,000

Notes to Accounts

` 1.

2.

3.

4.

Share Capital Equity share capital 1,10,000 Equity shares of `10 each Reserves and Surplus Profit and Loss A/c Revenue reserves Less: Transfer to CRR Securities premium Less: Utilization for share buy-back Share Option Outstanding Account Capital Reserve Revaluation Reserve Capital Redemption Reserve

11,00,000

1,25,000 15,00,000 (2,50,000) 12,50,000 2,50,000 (2,50,000) 4,00,000 1,00,000 1,00,000 2,50,000 22,25,000

Long-term borrowings Secured 12% Debentures Unsecured loans Other Current Liabilities Current maturities borrowings

`

18,75,000 10,00,000 28,75,000

of

long

term

16,50,000

38

FINAL EXAMINATION: NOVEMBER, 2016

Unpaid dividend Application money received for allotment due for refund

1,00,000 2,00,000 19,50,000

Working Note: Amount transferred to CRR and maximum equity to be bought back will be calculated by simultaneous equation method. Suppose amount transferred to CRR account is ‘x’ and maximum permitted buyback of equity is ‘y’. Then (` 32,25,000 – x) – ` 24,12,500 = y

(1)

 y   × 10  = x  20 

Or 2x = y

(2)

by solving the above equation we get x = ` 2,70,833 and y = ` 5,41,667 (b)

Balance Sheet of AB Ltd. Particulars

Notes

`

Equity and Liabilities 1 Shareholders' funds a b

Share capital Reserves and Surplus

1 2

30,80,000 6,17,100

2 Current liabilities a

Other liabilities

38,900 Total

37,36,000

Assets 1 Non-current assets a

b

Fixed assets Tangible assets

3

23,09,000

Intangible assets Non-current investments

4

1,12,000 1,55,000

2 Current assets a

Inventories (3,58,000 + 2,40,000)

5,98,000

b

Trade receivables (72,000 +70,000)

1,42,000

PAPER – 1 : FINANCIAL REPORTING

c

39

Cash and cash equivalents

4,20,000 Total

37,36,000

Notes to accounts

` 1. Share Capital Authorized share capital 3,00,000 equity shares of ` 10 each

30,00,000

60,000, 8% Cumulative Preference Shares of `10 each Equity share capital

60,000 36,00,000

2,48,000 equity shares of ` 10 each (Of the above shares, 2,18,000 shares have been issued for consideration other than cash) Preference share capital

24,80,000

60,000, 8% cumulative Preference Shares of `10 each

6,00,000

Total

30,80,000

2. Reserves and Surplus Debit balance of Profit and Loss Account Underwriting commission Preliminary expenses

38,900 24,000

(62,900)

6,20,000 60,000

6,80,000

Securities Premium (2,48,000 equity shares x 2.50) (60,000 Preference shares x ` 1 )

6,17,100 3. Tangible assets Building Motor car Plant & machinery 4

Furniture Intangible assets Goodwill (W.N. 4) (15,000 +62,000-65,000) Patents

5,40,000 1,26,000 15,10,000 1,33,000 23,09,000 12,000 1,00,000

1,12,000

40

FINAL EXAMINATION: NOVEMBER, 2016

Working Notes: 1.

Mode of discharge of Purchase Consideration of A Ltd.

` Cash payment

2.

5,75,000

Equity shares (1,80,000 Shares x ` 12.5)

22,50,000

Total Purchase consideration

28,25,000

Mode of discharge of Purchase Consideration of B Ltd.

` Cash payment

3.

16,000

Equity shares (38,000 shares x ` 12.5)

4,75,000

Total Purchase consideration

4,91,000

Cash at bank balance in the initial balance sheet of AB Ltd. Cash and Bank Account

` To

Issue of preference shares (60,000 x 11)

To

4.

` By Payment to A ltd. By Payment to B ltd.

5,75,000 16,000

6,60,000 By Preliminary

Equity shares (30,000 x 12.50)

Expenses 3,75,000 By Balance c/d 10,35,000

24,000 4,20,000 10,35,000

Calculation of goodwill/ capital reserve of A Ltd. & B Ltd. Particulars

A Ltd.

Business Purchase A/c

B Ltd.

28,25,000

Less: Goodwill

4,91,000 62,000

Patent A/c

1,00,000

-

Building A/c

5,40,000

-

15,10,000

-

75,000

1,26,000 58,000

1,55,000 3,58,000

2,40,000

Plant & Mach. A/c Motor car A/c Furniture A/c Investment A/c Stocks A/c

PAPER – 1 : FINANCIAL REPORTING

Debtors A/c

72,000 (28,10,000)

Goodwill / Capital reserve (Bal. fig.)

41

70,000

15,000

(5,56,000) (65,000)

Net goodwill (15,000 +62,000 -65,000) = 12,000 Note: 1.

As per the information given in the question, only the assets of A Ltd. and B Ltd. are taken over by AB Ltd. Thus the creditors are considered to be paid by the liquidators of the respective companies and hence being not taken over by AB Ltd.

2.

As per the information given in the second last para of the question, it is stated that the preliminary expenses of AB Ltd. will amount to ` 24,000 exclusive of the underwriting of ` 38,900 payable on the public issue. It has been assumed that ` 24,000 has been paid and underwriting commission is still payable in the balance sheet of the amalgamated company.

3.

Preliminary expenses and underwriting commission have been written off as per provisions of accounting standards.

14. (a) Consolidated Balance Sheet of Arohi Ltd. and its subsidiary as on 31.3.2016 Particulars I

Note No.

Equity and Liabilities (1) Shareholder’s Funds (a) Share Capital

1

21,00,000

2

10,79,500 1,27,000

(3) Current Liabilities Trade Payables

3

7,00,000

Bank Overdraft

4

2,19,200

Provision for tax

5

2,90,000

(b) Reserve and Surplus (2) Minority Interest

Total II

`

45,15,700

Assets: (1) Non-current assets (a) Fixed Assets (i)

Tangible assets

6

20,57,700

42

FINAL EXAMINATION: NOVEMBER, 2016

(ii) Intangible assets

7

44,000

Inventory

8

10,18,000

Trade Receivables

9

10,10,000

Other current assets

10

28,000

Cash and cash equivalents

11

3,58,000

(2) Current assets

Total

45,15,700

Notes to Accounts: Particulars 1.

` in lakhs

Share Capital Equity Share Capital of ` 10 each fully paid

15,00,000

7.5% Redeemable Preference share capital

6,00,000

21,00,000

(The above preference shares are paid for consideration other than cash) 2.

3.

Reserve and Surplus Reserves

9,50,000

Consolidated Profit & Loss

1,29,500

Sundry Creditors: Arohi Ltd.

4,50,000

Soumaya Ltd.

2,50,000

4.

Bank Overdraft of Soumaya Ltd.

5.

Provision for tax Arohi Ltd. Soumaya Ltd.

6.

10,79,500

7,00,000 2,19,200

2,90,000 -

2,90,000

Tangible assets Land and Building Arohi Ltd.

5,34,000

Soumaya Ltd.

1,35,000

Plant and Machinery Arohi Ltd.

10,03,500

6,69,000

PAPER – 1 : FINANCIAL REPORTING

Soumaya Ltd.

43

3,85,200

13,88,700 20,57,700

7.

Intangible Assets Goodwill

8.

9.

44,000

Inventory Arohi Ltd.

6,10,000

Soumaya Ltd.

4,08,000

10,18,000

Trade Receivables Arohi Ltd.

7,50,000

Soumaya Ltd.

2,60,000

10,10,000

10. Other current assets Prepaid expenses Arohi Ltd. Soumaya Ltd.

22,000 6,000

28,000

11. Cash and cash equivalents Cash at bank Arohi Ltd. Remittances in transit

3,38,000 20,000

3,58,000

Working Notes: 1. Date of acquisition

1.10.2015

Date of consolidation

31.3.2016

Pre-acquisition period

6 months

Post-acquisition period

6 months

% of holding by Arohi Ltd. in Soumaya Ltd.

80%

Minority Interest

20%

44

FINAL EXAMINATION: NOVEMBER, 2016

2.

Analysis of Reserves and Surplus of Soumaya Ltd. Pre-acquisition profit

Post-acquisition profit Reserves

Reserves Profit and Loss Account (Opening) (During the year) Arohi Ltd. (80%) Minority Interest 3.

1,50,000 1,05,000

Surplus

-

(60,000)

(60,000)

1,95,000

-

(60,000)

1,56,000 39,000

-

(48,000) (12,000)

Minority Interest

` Share Capital (20%)

1,00,000

Add: Share of capital profit for pre-acquisition period Share of revenue profit for post-acquisition period

39,000 (12,000) 1,27,000

4.

Cost of Control (Goodwill/Capital Reserve)

` Investment as per balance sheet

6,00,000

Less: Nominal value of share capital [ 5,00,000 × 80/100]

4,00,000

Capital Profit

1,56,000

Goodwill 5.

(5,56,000) 44,000

Elimination of Mutual Owings Arohi Ltd. Debit balance in the books of Arohi Ltd. against Soumaya Ltd.

1,10,000

Less: Mutual Owings

(90,000)

Remittances in transit

20,000

PAPER – 1 : FINANCIAL REPORTING

6.

45

Determination of cash at bank and bank overdraft Arohi Ltd.

Soumaya Ltd.

Opening Balance

2,18,000

1,18,000

Profit

3,00,000

(1,20,000)

1,11,500

42,800

Depreciation: Plant & Machinery Dividend: Equity Share Capital

(1,80,000)

Preference Share Capital Change in Taxation

(22,500) (63,000)

(2,11,000)

Stock Debtors

32,000 30,000

(16,000) 10,000

Prepaid expenses Creditors

10,000 12,000

(1,33,000)

(1,10,000)

90,000

3,38,000

(2,19,200)

Working Capital Changes in:

Receivable –Inter-Company 7.

Consolidated Profit and Loss Account

` Opening Balance Add: Current year profit Less: Dividend: Equity Share Capital Preference Share Capital Less: Share of loss in Soumaya Ltd. provided for

80,000 3,00,000 (1,80,000) (22,500) 1,77,500 (48,000) 1,29,500

(b) It is clear that stock is valued at net realisable value, which is lower than the buying cost of ` 1,50,000. However, the net realisable value is greater than the original cost to the group. Therefore, there is an overstatement to the extent of ` 20,000.

46

FINAL EXAMINATION: NOVEMBER, 2016

However, elimination of stock reserve is however restricted to venturer’s share and the remaining portion shall continue to be there is in stock value. Accordingly, in the CFS, it will reduce only ` 8,000 from the stock (i.e. 20,000 x 40%). This will result in stock to be shown in the Consolidated Financial Statements at ` 1,12,000. 15. Value of Debentures to be recorded at initial: Present value of ` 150 lacs at 10% = ` 150 lacs x PVIF (10% at the end of 3rd year) = ` 150 lacs x 0.7513 = 1,12,69,500 Journal Entries at Inception Date

Particulars

1st Year Beg

Bank A/c Profit & Loss A/c To Debentures

Dr.(`) Dr. Dr.

1,00,00,000 12,69,500

Cr. (`)

1,12,69,500

Journal Entries at 1st Year End Date

Particulars

1st Year End

Interest A/c To Debentures A/c (10% of 1,12,69,500)

Dr. (`) Dr.

11,26,950

Cr. (`) 11,26,950

Journal Entries at 2nd Year End Date

Particulars

2nd Year End

Interest A/c To Debentures A/c

Dr. (`) Dr.

11,78,550

Cr. (`) 11,78,550

Working Note: Present Value of ` 150 lacs at 10.5% compared to book value i.e. ` 150 lacs x 0.905 = ` 1,35,75,000 compared to ` 1,23,96,450 = ` 11,78,550 Journal Entries at 3rd Year End Date

Particulars

3rd Year End

Interest A/c To Debentures A/c

Dr. (`) Dr.

14,25,000

Cr. (`) 14,25,000

PAPER – 1 : FINANCIAL REPORTING

47

Working Note: Present Value of ` 150 lacs at 10.5% compared to book value i.e. ` 150 lacs x 1 = ` 1,50,00,000 compared to ` 1,35,75,000 = ` 14,25,000 On conversion to Equity Shares Date

Particulars

3rd

Debentures A/c Dr. To Equity Share Capital To Securities Premium

Year End

Dr. (`) 1,50,00,000

Cr. (`) 1,00,00,000 50,00,000

16. Paragraph 19 of the Guidance Note requires, for a performance condition that is not a market condition, the enterprise to recognise the services received during the vesting period based on the best available estimate of the number of shares or stock options expected to vest and to revise that estimate, if necessary, if subsequent information indicates that the number of shares or stock options expected to vest differs from previous estimates. On vesting date, the enterprise revises the estimate to equal the number of instruments that ultimately vested. However, paragraph 24 of the text of the Guidance Note requires, irrespective of any modifications to the terms and conditions on which the instruments were granted, or a cancellation or settlement of that grant of instruments, the enterprise to recognise, as a minimum, the services received, measured at the grant date fair value of the instruments granted, unless those instruments do not vest because of failure to satisfy a vesting condition (other than a market condition) that was specified at grant date. Furthermore, paragraph 26(c) of the Guidance Note specifies that, if the enterprise modifies the vesting conditions in a manner that is not beneficial to the employee, the enterprise does not take the modified vesting conditions into account when applying the requirements of paragraphs 18 to 20 of the text of the Guidance Note. Therefore, because the modification to the performance condition made it less likely that the stock options will vest, which was not beneficial to the employee, the enterprise takes no account of the modified performance condition when recognising the services received. Instead, it continues to recognise the services received over the three-year period based on the original vesting conditions. Hence, the enterprise ultimately recognises cumulative remuneration expense of ` 1,80,000 over the three-year period (12 employees × 1,000 options × ` 15). The same result would have occurred if, instead of modifying the performance target, the enterprise had increased the number of years of service required for the stock options to vest from three years to ten years. Because such a modification would make it less likely that the options will vest, which would not be beneficial to the employees, the enterprise would take no account of the modified service condition when recognising the services

48

FINAL EXAMINATION: NOVEMBER, 2016

received. Instead, it would recognise the services received from the twelve employees who remained in service over the original three-year vesting period. 17. Table showing determination of NAV of a mutual fund

` in lakhs ` in lakhs Opening bank balance [` (100 – 90 - 7) lakhs] Add: Proceeds from sale of securities

3.00 40.00

Dividend received

1.20

Less: Cost of securities

28.20

Fund management expenses [` (4.50–0.25) lakhs]

4.25

Capital gains distributed [75% of ` (40.00 – 38.00) lakhs]

1.50

Dividends distributed (75% of ` 1.20 lakhs)

0.90

Closing bank balance Closing market value of portfolio

44.20

(34.85) 9.35 101.90 111.25

Less: Arrears of expenses Closing net assets

(0.25) 111.00

Number of units

10,00,000

Closing Net Assets Value (NAV)

` 11.10

18. 1.

Calculation of Capital employed (CE) Replacement Cost of Fixed Assets Trade Investment (50%) Current cost of inventory 120 130 + 130 × 100 120 150 + 150 × 100 Trade Receivables Cash at Bank Total (A)

`in lakhs As on 31.3.14 As on 31.3.15 1,100.00 1,250.00 125.00 125.00 286.00 330.00 170.00 46.00 1,727.00

111.40 45.00 1,861.40

PAPER – 1 : FINANCIAL REPORTING

Less: Outside Liabilities 18% term loan Trade Payables Provision for tax Total (B) Capital employed (A-B) Average Capital employed at current value = = 2.

49

180.00 35.00 11.00 226.00 1501.00

Opening capital employed + closing capital employed 2 1501+ 1634.80 2

=1567.90 lakhs

`in lakhs

Future Maintainable Profit Increase in General Reserve Increase in Profit and Loss Account Proposed Dividends Profit After Tax Pre-tax Profit =

165.00 48.60 13.00 226.60 1634.80

25 30 125 180

180

360

1- 0.5

Less: Non-Trading investment income (10% of ` 125) Subsidy Exchange Loss on Trade Payables [0.6 lakhs × (39-33)] Additional Depreciation on increase in value of Fixed Assets (current year) (1,250 − 650 ) × 5 i.e., 100

12.50 60.00 3.60

30.00 (106.10) 253.90

Add: Exchange Gain on trade receivables [0.35 lakhs × (39-35)] Research and development expenses written off Inventory Adjustment (30-26) Add: Expected increase of 10% Future Maintainable Profit before Tax Less: Tax @ 40% (40% of ` 422.73) Future Maintainable Profit

1.40 125.00 4.00 130.40 384.30 38.43 422.73 (169.09) 253.64

50

FINAL EXAMINATION: NOVEMBER, 2016

3.

Valuation of Goodwill ` in lakhs (i) According to Capitalisation of Future Maintainable Profit Method Capitalised value of Future Maintainable Profit 1,690.93 253.64 = × 100 15 Less: Average capital employed 1,567.90 Value of Goodwill 123.03 Or (ii) According to Capitalization of Super Profit Method Future Maintainable Profit 253.64 Less: Normal Profit @ 15% on average capital 235.19 employed (1,567.90 ×15%) Super Profit 18.45 Capitalised value of super profit

18.45 15

×100 i.e. Goodwill

123.00

Goodwill exists; hence director’s fear is not valid. Leverage Effect on Goodwill ` in lakhs Future Maintainable Profit on equity fund Future Maintainable Profit on Long-term Trading Capital employed Future Maintainable Profit After Tax Add: Interest on Long-term Loan (Term Loan) (After considering Tax) 165× 18% = 29.7×

(100 - 40) 100

Average capital employed (Equity approach) Add: 18% Term Loan (180+165)/2 Average capital employed (Long-term Fund approach) Value of Goodwill (A) Equity Approach Capitalised value of Future Maintainable Profit =

(B)

Less: Average capital employed Value of Goodwill Long-Term Fund Approach Capitalized value of Future Maintainable Profit = Less: Average capital employed Value of Goodwill

253.64 253.64 17.82

271.46 1,567.90 172.50 1,740.40

253.64 15

271.46 12

× 100 =

1,690.93 (1,567.90) 123.03

× 100

2262.17 (1,740.40) 521.77

PAPER – 1 : FINANCIAL REPORTING

51

Comments on Leverage effect of Goodwill: Adverse Leverage effect on goodwill is 398.74 lakhs (i.e., ` 521.77 – 123.03). In other words, Leverage Ratio of Famous Ltd. is low for which its goodwill value has been reduced when calculated with reference to equity fund as compared to the value arrived at with reference to long term fund. Working Notes:

` in lakhs (1) Inventory adjustment (i)

Excess current cost of closing inventory over its Historical cost (330 – 300)

30.00

(ii) Excess current cost of opening inventory over its Historical cost (286-260)

26.00

(iii) Difference [(i– ii)]

4.00

(2) Trade Receivables’ adjustment (i)

Value of foreign exchange Trade Receivables at the closing exchange rate ($35,000×39)

13.65

(ii) Value of foreign exchange Trade Receivables at the original exchange rate ($35,000×35)

12.25

(iii) Difference [(i) – (ii)]

1.40

(3) Trade Payables’ adjustment (i)

Value of foreign exchange Trade Payables at the closing exchange rate ($ 60,000×39)

23.40

(ii) Value of foreign exchange Trade Payables at the original exchange rate($60,000×33)

19.80

(iii) Difference [(i) – (ii)] 19.

3.60

Value Added Statement of Heaven Ltd. Sales Less: Cost of bought in material and services: Operating cost (` 222.00 lakhs – ` 82 lakhs) Excise duty Interest on bank overdraft Value added by trading activities Add: Other income Total Value Added

` in lakhs

254.00

140.00 11.20 1.00

(152.20) 101.80 6.00 107.80

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FINAL EXAMINATION: NOVEMBER, 2016

Application of value added To pay Employees: Wages, salaries and other benefits To pay Government : Corporate tax To pay Providers of Capital : Interest on 9% debentures Dividends To provide for Maintenance and Expansion of the Company Depreciation Retained profit

` in lakhs

%

82.00 2.40

76.07 2.23

15.30

14.19

8.10 107.80

7.51 100.00

15.00 0.30 4.10 4.00

Reconciliation between Total Value Added and Profit before Taxation: Profit before tax Add back: Depreciation Wages, salaries and other benefits Interest on debentures Total Value Added 20. (a)

` in lakhs

6.70

4.10 82.00 15.00 107.80

Computation of Economic Value Added (EVA) Particulars Net Operating Profit after Tax (NOPAT) Less: Weighted average cost of operating capital employed (13.35% of 2,200) (See W.N.7) Economic Value Added (EVA)

(` in thousand) 831.00 (293.70) 537.30

Working Notes: 1.

Net Operating Profit after Tax (NOPAT) Earnings per share No. of Equity Shares

Profit after Interest, Tax & Preference Dividend [40 thousand x ` 16]

` 16 40 thousand ` in lacs 640.00

PAPER – 1 : FINANCIAL REPORTING

53

30.00 670.00 287.14 957.14 240.00 1,197.14 (10.00) 1,187.14 (356.14) 831.00

Add: Preference Dividend (15% of ` 200 thousand) Profit after Tax Add: Tax @ 30% [670/70 x 30] Profit before Tax Add: Interest on Debentures [15% of ` 1,600 thousand] Profit before Interest & Tax Less: Income from Non-trade Investment [10% of ` 100 thousand] Net Operating Profit before Tax Less: Tax @ 30% Net Operating Profit after Tax [NOPAT] 2.

Cost of Equity = Risk Free Rate + Beta Factor x (Market Rate - Risk Free Rate) = 9.85% + 1.65 (16.25-9.85) = 20.41%

3.

Cost of Preference shares

4.

Cost of Debt = Interest Rate x (1 - tax rate) = 15% x (1 - 0.30) = 10.5%

5.

Total Capital Employed = [Equity Share Capital + Retained Earnings + Preference Share Capital + Debentures]

= 15%

= [400 + (220 - 20) + 200 + 1,600] = 2,400 6.

Weighted Average Cost of Capital (WACC)

 600   200   1,600  × 20.41%  +  × 15%  +  × 10.5%   2,400   2,400   2,400 

=

= 5.10% + 1.25% + 7% = 13.35% 7.

Operating Capital Employed

` in thousand Total Capital Less:

2,400

Non-operating Capital Employed 10% Non-trade Investment

140

Land and Building held as Investment

20

Advance given for purchase of a Plant

10

Capital work-in-progress Operating Capital Employed

30

(200) 2,200

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FINAL EXAMINATION: NOVEMBER, 2016

(b) Cost to Company in employing to Mr. X

` Salary before tax ` 4,00,000 x 12 =

48,00,000

64,00,000*

0.75

Add: Employee’s PF contribution(50,000 x 12)

6,00,000 70,00,000

Add: Employer’s PF contribution(50,000 x 12)

6,00,000 76,00,000

Capital base

` Equity Share Capital paid up (5,00,000 shares of ` 75 each) Less: Calls in arrears

3,75,00,000

General Reserve Profit & Loss A/c (balance) at the beginning of the year

10,00,000 (25,00,000)

Loss for the year 8% Debentures Capital base Target Profit 12.5% of capital base (4,37,20,000) Profits achieved due to Mr. X 54,65,000+ 10% (54,65,000)

(1,00,000) 3,74,00,000

(1,80,000) 8,000,000 4,37,20,000 54,65,000 60,11,500

Maximum emoluments that can be paid to Mr. X = ` 60,11,500 Thus, the company is advised not to hire him as his CTC ` 76,00,000 is more than ` 60,11,500 Note: It is assumed that the average income tax rate of 25% given in the question is after considering the impact of ` 3 lakhs p.a. i.e., the exemption amount.