School of Accounting ACCT3563: Issues in Financial Reporting and Analysis Weekly readings and homework questions T3, 2021 1 2 All
references through this document to Loftus 3e refer to the textbook
Financial Reporting 3rd edition by Loftus, Leo, Daniliuc, Boys, Luke,
Ang & Byrnes Topic Weekly readings Questions to be covered in class Self study questions 1 Application of Accounting Theory and Ethics Chapter 2 Loftus 3e (excl section 2.3.2) Readings per Lecture PPTs Chapter 2 Loftus 3e: Case Study: 2.2, 2.3 Application and analysis exercises: 2.2 Ethics Case: Space Fuels Ltd Chapter 2 Loftus 3e: Comprehension questions: 2, 8, 10, 11, 14 Application and analysis exercises: 2.3, 2.7 2a Provisions and Contingent Liabilities Chapter 8 Loftus 3e (sections 8.1 – 8.6 only) Chapter 8 Loftus 3e: Application and analysis exercises: 8.1, 8.11, 8.14 A, B, C (parts 1,2,3 and 5 only), 8.15 Ethics Case: Ship Ahoy Ltd Chapter 8 Loftus 3e: Application and analysis exercises: 8.3, 8.5, 2b Accounting for Employee Benefits Chapter 9 Loftus 3e (sections 9.1, 9.2 and 9.6 only) Chapter 9 Loftus 3e: Application and analysis exercises: 9.9, 9.11, 9.20 Chapter 9 Loftus 3e: Application and analysis exercises: 9.2, 9.4, 9.10, 9.18 3 Revenue Chapter 15 Loftus 3e Chapter 15 Loftus 3e: Case Study: 15.2 Application and analysis exercises: 15.5, 15.6, 15.8 Ethics case: Moonbeam Appliances Ltd Chapter 15 Loftus 3e: Comprehension questions: 1 Application and analysis exercises: 15.7, 15.9, 15.12 4 Leases Chapter 10 Loftus 3e (excluding section 10.3.1) Chapter 10 Loftus 3e: Case Study: 10.2 Application and analysis exercises: 10.3, 10.5, 10.7 (part 2 only) Ethics case: Qantas Ltd Chapter 10 Loftus 3e: Comprehension questions: 2, 4, 5, 6, 7 Case study: 10.1 Application and analysis exercises: 10.2, 10.4, 10.6, 10.9D 5 Sustainability and corporate social responsibility reporting Chapter 22 Loftus 3e Chapter 22 Loftus 3e: Case study 22.3 Application and analysis exercises:22.1, 22.5, 22.7 Chapter 22 Loftus 3e: Comprehension questions: 5, 6, 8, 12 Application and analysis exercises:22.4, 22.8 3 Topic Weekly readings Questions to be covered in class Self study questions 6 Financial Instruments Chapter 11 Loftus 3e (excluding sections 11.4.1, 11.6.2, 11.6.3, 11.9, 11.10, 11.11, 11.16) Chapter 11 Loftus 3e: Application and analysis exercises: 11.4 (parts 1 and 2 only), 11.6, 11.9 parts (a), (b) and (c) only Ethics case: Bondy Ltd Additional question: Refer additional question at end of this document Chapter 11 Loftus 3e: Comprehension questions: 5, 6 Application and analysis exercises: 11.1, 11.5, 11.12 7 Foreign currency transactions and forward exchange contracts Chapter 23 Loftus 3e excluding fair value hedge of an unrecognised firm commitment (pp 819- 820) Chapter 23 Loftus 3e: Application and analysis exercises: 23.7, 23.13, 23.15 Ethics Case: Momentum Ltd Chapter 23 Loftus 3e: Comprehension questions: 7, 8, 12, 15, 16 (drop part of the answer of firm commitment in 16) Case study: 23.1 Application and analysis exercises: 23.2, 23.4, 23.12 (part 1 only), 23.18 8 Accounting for Mineral Resources Chapter 34 Loftus 3e (excluding section 34.8) Chapter 34 Loftus 3e: Application and analysis exercises: 34.4, 34.5,34.6, 34.7 Ethics case: High Hopes Mining Ltd Additional question: Refer additional question at end of this document Chapter 34 Loftus 3e: Comprehension questions: 1 Case study: 34.1, 34.2 Application and analysis exercises: 34.6 9 Earnings per Share Chapter 19 Loftus 3e Chapter 19 Loftus 3e: Application and analysis exercises: 19.7, 19.9, 19.10, 19.11 Chapter 19 Loftus 3e: Comprehension questions: 2, 4, 6, 7, 8, 9, 10, 11 Application and analysis exercises: 19.3, 19.4, 19.5 4 Notes: A
There is an error in the financial statements provided in the question.
The correct balances of the provisions are: Current $630,000;
Non-current $240,300. B The opening balance of the provision in part (a) should read $870,300. C Assume that the opening balance in the provision account at 1 July 2022 was zero. D The interest rate implicit in the lease is 5% 5 Ethical Cases Topic 1 (Week 1). Market manipulation and ethics Space Fuels Ltd is the world’s largest producer of GO, an exotic fuel that powers the Earth’s spaceships which trade with inhabitants of the recently discovered planet Zork. Trade with the Zorkians is so profitable that all GO is sold to spaceship operators as soon as it is produced. Therefore, the company recognises revenue on production and not at the point of sale. As the current financial year-end approaches, Space Fuel’s CEO is worried that reported profits will not be as high as analysts’ forecasts. Therefore, he orders that sales of GO by the company be stopped for the last month of the financial year, although the company’s GO production is allowed to continue at the normal pace. Therefore, on balance day, the company has a very large inventory of GO awaiting delivery. The CEO’s decision creates a sudden world-wide shortage of GO and the spot price on the GO market skyrockets (pardon the pun). The company revalues its inventory of GO upwards to the new spot price at balance date and takes the revaluation to its income statement, thereby easily beating the analysts’ profit forecasts. However, trade with the Zorkians is disrupted because of the unexpected fuel shortage and an inter-planetary diplomatic crisis arises which takes several months of high-level negotiations to resolve peacefully. What ethical issues arise here Critically evaluate the accounting treatment for GO used by the company. Adopt the ethical perspective of (a) a self-interest maximiser; (b) a Utilitarian, (c) an Aristotelian; (d) the APES 110 principles Topic 2 (Week 2) Provisions You are the newly appointed deputy chief-accountant at Ship Ahoy Shipping Co Ltd. You review of the company’s accounts for the past 10 years, and you observe the following data: Year Profits (losses) from shipping ($’000s) Investment income ($’000s) Shipping + Investment Income($’000s) Annual debit or (credit) to Provision for Ship Modernisation ($’000s) Reported Net Profit ($’000s) A B A + B C A + B + C 2012 900 500 1400 (565) 837 2013 (780) 452 (328) 995 668 2014 (450) 435 (15) 740 725 2015 (380) 422 42 736 779 2016 (425) 404 (21) 794 773 2017 (538) 261 (277) 1008 731 2018 (540) 267 (273) 901 629 2019 (334) 559 225 513 737 2020 (95) 452 357 372 729 2021 (427) 385 (42) 194 152 Each year, the reported Net Profit equals the sum of shipping profit (or loss), investment 6 income and the debit or credit to Provision for Ship Modernisation. You are concerned that the shipping operations (the company’s core business) have been unprofitable for all but one of the past 10 years, and that these losses have been made up each year by investment income (the company has a large investment portfolio). The sum of shipping and investment income varies a lot, being negative in six and positive in four of the past 10 years. Reported Net Profit on the other hand, is always positive, although it is not a smoothly increasing series of numbers, and indeed in 2021 has declined sharply. Puzzled by the account Provision for Ship Modernisation, you make enquiries and find that this account had been created and built up in the late 1990s and 2000s when the company had several lucrative shipping contracts with the Australian government and profits on those contracts were very high. Those contracts have now ceased. In order to counter accusations that the company was earning excessive profits, each year in the 2000s, an accrual debit to a Ship Modernisation expense account was created with the corresponding credit to Provision for Ship Modernisation account. The latter has appeared in the balance sheet as a noncurrent liability for many years. In 2011, the account had a credit balance built up of $5,400,000. Ship modernisations are a major activity involving large outlays but are not essential if ships are well maintained. Ship Ahoy’s vessels are very well maintained. Up to 2021, none of the company’s fleet has ever actually been modernised and the company has no immediate plans to modernise any ship. The company’s key executives are paid annual bonuses if the company reports a net profit, but no bonus is paid if a loss is reported. Required: (a) Comment on the legitimacy of the Provision for Ship Modernisation Account from the viewpoint of AASB 137 Provisions. (b) Has the company been engaged in earnings management (c) Comment on the use made of the Provision for Ship Modernisation Account from a Positive Accounting Theory perspective (d) Comment from an Aristotelian ethical perspective on the legitimacy of the Provision for Ship Modernisation Account and the use made of it over the past 10 years. (e) Comment from a utilitarian ethical perspective on the legitimacy of the Provision for Ship Modernisation Account and the use made of it over the past 10 years. (f) Comment from the perspective of APES 110 of the Provision for Ship Modernisation Account and the use made of it over the past 10 years. Acknowledgement: This case is adapted from the Royal Mail Steam Packet Company case (R vs Kylsant 1931). For simplicity, the currency is now in dollars, some terminology and the nature of the Provision have been changed, and the years updated to the present. The contractual incentives (bonuses) did not appear in the original case. Data are from Johnson, Jager & Taylor The Law and Practice of Company Accounting 5th ed 1983, p. 32) 7 Topic 3 (Week 3) Revenue Moonbeam Appliances Ltd is an Australian electrical appliance manufacturer. It has just employed a new CEO, Alan Doppler, whose task is to boost the company’s reported earnings and share price. In the first year of Doppler’s tenure as CEO, the company engages in a major marketing campaign in June (the company’s year-end is 30th June) to sell outdoor electric barbecues to customers at a major discount below the normal selling price, on the basis that the customers need not take physical delivery of the appliances for six months and will not be billed for the sale, or asked to pay, until delivery. In the meantime, the barbecues sold are shipped to a company-owned warehouse and stored until customers request delivery. The marketing campaign is very successful and Moonbeam books $35 million of sales revenue in June when the customers agree to buy the barbecues (but 6 months before delivery, billing or payment), thereby boosting its sales and profits for the year ended 30 June in the first year of Doppler’s tenure as CEO. A $35million boost to sales is a material increase for this company. The share price increases when the company announces its improved profit performance to 30th June. Alan Doppler has a compensation scheme in place which pays him a bonus if he increases the company’s revenue and profits, so he is awarded his bonus. It is important to note that these sales take place in the winter (June in Australia), but most customers would not want their barbecues until the summer months (December/January in Australia). At 30th June, the number of customers who will actually request delivery of the barbecues six months later is unknown. The company’s financial report for the year ended 30th June must be released by September at the latest to comply with corporations’ law requirements. REQUIRED i) Is the company’s revenue recognition policy on these barbecues consistent with Australian accounting standards ii) Evaluate the company’s revenue recognition policy from a Positive Accounting Theory perspective. iii) Evaluate the company’s revenue recognition policy from the ethical perspectives of: (a) Utilitarianism (b) Aristotelian ethics iv) Evaluate the company’s revenue recognition policy using APES 110’s five principles. Acknowledgement: this case is very loosely based on that of the Sunbeam Corporation in the USA in the 1990s. 8 Topic 4 (Week 4) Leases Qantas Ltd applied AASB 16 from 1 July 2019. In its half-yearly report to 31 December 2019, Qantas restated its 30 June 2019 assets and liabilities for the impact of AASB 16. A summary of the impact appears in the table: 30 June 2019 as originally reported AASB 16 adjustment 30 June 2019 adjusted Total liabilities $15,041m $1,624m $16,665m Total assets $19,377m $1,307m $20,684m Net profit $891m -$22m $869m The AASB 16 adjustments are for leased aircraft previously treated as operating leases and thus kept off- balance sheet. Qantas, in line with most other Australian companies, did not apply AASB 16 in its 30 June 2019 annual report but was obliged to in its 31 December 2019 half-yearly report. Required: (a) What is the impact of Qantas applying AASB 16 on leases in its 2019 half-yearly report (1) Comment on the ethical issues that may arise because of the change, from the perspectives of: (2) Positive Accounting Theory (3) Aristotelian ethics (4) Utilitarian ethics (5) APES 110’s five ethical principles. Topic 6 (Week 7) Financial Instruments On 1 July 2020, Bondy Ltd issued a zero coupon long-term bond liability with a face value of $10,000,000. The issue price of the bond is $6,830,000, and the face value of $10,000,000 must be repaid on 30 June 2024. In the meantime, no annual interest payments in cash have to be made. At the time of issue, this bond was particularly attractive to Bondy Ltd because the company had been hard-pressed for cash, and by this deal no cash has to be paid back until 30 June 2024 which is four years away. There is no active market for such bonds so they do not have a fair value, and Bondy Ltd intends to hold the bond to maturity to collect the contractual cash flows which consist of solely coupons and principal. The company does not intend to trade these zero-coupon bonds. At 30 June 2021, the company does not record any journal entries for interest expense on the bond. Ms Alana Bondy the company’s CFO argues: “Well we do not have to pay any interest in cash at 30 June 2021 (or 2022 or 2023 for that matter) – everything is paid back on 30 June 2024. Therefore, we can ignore interest expense until 30 June 2024 – it’s that simple”. By not recording any interest expense, the company is able to report a small profit of $200,000 after tax for the year ended 30 June 2021. 9 Required: (a) Is the company’s accounting policy for this bond consistent with Australian accounting standards (b) If the company had recorded interest expense for the year ended 30 June 2021, how much would it have been and what effect would it have had on the company’s reported profit (c) Evaluate the company’s accounting policy for this bond from the point of view of a self- interest maximiser, as in Positive Accounting Theory. (d) Evaluate the company’s accounting policy for this bond from the point of view of an Aristotelian. (e) Evaluate the company’s accounting policy for this bond from the point of view of a Utilitarian. (f) Evaluate the company’s accounting policy for this bond from the viewpoint of the APES 110 Code of Ethics Additional Question Alpha Ltd Alpha Ltd plans to buy 10,000 shares in Westpac Bank on 30 June 20X7 but is worried that Westpac’s share price will rise significantly before then. On 1 May 20X5, Alpha buys 10,000 call options in Westpac for an outlay of $3.00 per option. The options have an exercise price of $36.00 per share and mature 30 June 20X7. Alpha revalues its derivatives to fair value each June 30 balance date. Assume zero transactions costs. Relevant share prices and option prices are: Westpac share price Fair value of share option 30 June 20X5 $34.00 $2.00 30 June 20X6 $30.00 $1.00 30 June 20X7 $39.00 $3.00 Required: Give journal entries to record the above events, assuming that Alpha exercises its options on 30 June 20X7. Topic 8 (Week 9) Foreign Currency Hedging Momentum Ltd has reported positive net profits for each of the past 15 years. As balance date 30 June 2020 approaches, the company becomes aware that, unless some action is taken, the company will report a loss of $1,000,000, thus ending its 15-year record of consecutive positive profits. Management are paid an annual bonus if the company reports positive profits, and there is a debt contract in place which requires the company to remain profitable each year otherwise the company will default on its debt covenants. The chief financial officer has his staff search for something to undo the anticipated loss. They discover that on 1 June 2020 the company had entered into a forward contract with their bankers to purchase US$10,000,000 on 31 August at a forward rate of AUD$1 = US$0.70. At 30 June 2020, the forward rate was AUD$1 = US$0.80. The resultant loss is taken to P&L and contributes to the overall anticipated loss of $1,000,000. The forward contract was taken out as part of the company’s general strategy to manage foreign exchange risk but not for any particular foreign purchase transaction. The Chief Financial Officer directs his staff to identify any large US dollar denominated foreign purchase around 1 June 2020. The staff report that Momentum entered into a contract on 15 June 2020 to purchase inventory from a US supplier for US$13,000,000 to 10 be delivered FOB on 10 July 2020. Spot exchange rates are: 15 June 2020 AUD$1 = US$.75 30 June 2020 AUD$1 = US$.85 The CFO directs that the forward exchange contract be designated a hedge of the inventory purchase. As a result, the loss on the forward contract can be taken to hedge reserve at 30 June 2020, bypassing the profit and loss account. The company then reports a profit, and not a loss. The company has 50 managers, 5,000 shareholders and one bank lender which has 3,000 shareholders. Required: (a) How much profit will Momentum now report at 30 June 2020 (ignore tax) (b) Is the company’s change in accounting treatment of the forward contract consistent with Australian accounting standards (c) Evaluate the company’s accounting change for the forward contract from the viewpoint of a self- interest maximiser, as in Positive Accounting Theory. (d) Evaluate the company’s accounting policy change for the forward contract from the viewpoint of an Aristotelian. (e) Evaluate the company’s accounting change for the forward contract from the viewpoint of a Utilitarian. (f) Evaluate the company’s accounting change for the forward contract from the viewpoint of the APES 110 Code of Ethics Topic 9 (Week 10) Accounting for Mineral Resources High Hopes Mining Company Ltd begins exploring for oil in outback Australia on 1 July 2012. It spends $80,000,000 on exploration and evaluation (E&E) in the year ended 30 June 2013 in one area of interest. At June 30 2013 no economically recoverable oil deposits have been found but the area of interest is still current and exploration work is ongoing so a decision has not yet been made about the ultimate economic viability of the area of interest. However, the company’s geologists and engineers inform the company that the outlook for success in this area of interest is not good, and that it is not probable that the company will find economically recoverable oil reserves. High Hopes must decide how it will account for the $80,000,000 E&E expenditure. The facts in the next paragraph are about the company’s financial situation before it decides how to account for this $80,000,000 E&E expenditure. The company has other successful oil wells that have produced a net profit of $50,000,000 for the year ended 30 June 2013. On this day, the company has total assets of $920,000,000 (without including the $80m exploration and evaluation as an asset) or $1,000,000,000 (including $80m exploration and evaluation as an asset) and total liabilities of $590,000,000. The company’s accounting choices for the $80,000,000 E&E expenditure are (a) immediate write-off to P&L or (b) capitalization of $80m and carry forward as an asset. The company’s abbreviated balance sheets on 30 June 2013 under each scenario are as follows: 11 Balance sheet treating E&E expenditure as an asset Assets apart from E&E $920,000,000 Equity $410,000,000 E&E asset $80,000,000 Total liabilities $590,000,000 Total $1,000,000,000 Total $1,000,000,000 Balance sheet treating E&E expenditure as an expense Assets apart from E&E $920,000,000 Equity $330,000,000 Total liabilities $590,000,000 Total $920,000,000 Total $920,000,000 The company has 200 employees, 5,000 shareholders, and a bank lender that has a total of 20,000 shareholders . What should the company do (i) According to AASB 6 (ii) According to the Conceptual Framework (iii) From a PAT perspective; (iv) From a utilitarian perspective (v) From an Aristotelian perspective (vi) From the perspective of APES 110 ADDITIONAL QUESTION FOR TOPIC 9 (WEEK 10) Exploration and evaluation costs (from a past exam paper) On 1 July 20X5, Reef Mining NL commenced the search for oil around the fringe of the Great Barrier Reef. During 20X6 Reef Mining NL carried out exploratory drilling and evaluation at four individual geological locations known as “Dunk”, “Hayman”, “Herron” and “Lizard”. In its financial statements for 30 June 20X6 Reef Mining NL recognised all expenditure in relation to the exploratory drilling and evaluation as an asset. The financial statements are now being prepared for the year ended 30 June 20X7 and the following information is available in respect of the four locations. Dunk has failed to show the presence of any promising geological formations, but further testing will be carried out before any decision to abandon the area is taken. Hayman shows promising geological formations and is expected to be successfully developed in the not too distant future. Herron has been assessed as a commercially viable well and oil production commenced on 1 July 20X6. Herron is expected to 12 yield 40 million barrels of oil over a ten-year useful life. 5 million barrels of oil have already been extracted from Herron by 30 June 20X7 and 1 million of these are still on hand at year- end. All sales for the year were at $9 per barrel. The plant and buildings installed at Herron will be scrapped when drilling ceases at the site. Lizard was abandoned on 1 June 20X7 after an environmental impact study indicated that site development might lead to the extinction of certain species of marine biology. The following information is available on the expenditure incurred in relation to each of the four locations for the years ended 30 June 20X6 and 30 June 20X7. 20X7 20X6 Dunk Exploration & Evaluation 270,000 30,000 Hayman Exploration & Evaluation 250,000 100,000 Herron Exploration & Evaluation – 300,000 Development – 500,000 Fixed Assets – Buildings – 400,000 Fixed Assets – Plant – 600,000 Production Costs 2,250,000 Lizard Exploration & Evaluation 200,000 80,000 (a) Prepare the journal entries for 20X7 (only) using the area of interest method. (b) Prepare Balance Sheet and Income Statement extracts for the 20X7 year.
