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Solutions Manual For Company Accounting 10th Edition By Leo Knapp McGowan Sweeting

Chapter 1: Nature and regulation of companies

Chapter 1 – Nature and regulation of companies REVIEW QUESTIONS 1.

Outline the advantages of incorporation over other forms of organisation such as partnerships.

The corporate form of organisation permits individuals to have "limited liability". This confers on shareholders a limit on their liability in the event of a winding up of the company to the amount (if any) unpaid on their shares. (S516). In the case of a partnership no such limitation applies (unless the partnership specifically adopts limited liability) and the insolvency of one or more partners can result in other solvent partners having to contribute any losses and debts out of their own private assets.

Distinguish between a proprietary company and a public company.

A public company is one in which there is usually a substantial public interest in that the ownership of the company's share capital is widely spread. Public companies are entitled to raise capital through a share issue by issuing a disclosure document which entitles them to have their shares or debentures etc. listed on a stock exchange, such as the Australian Securities Exchange, to facilitate transferability. Proprietary companies on the other hand have specific limitations in terms of the amount and restrictions on its fundraising activities. Specific features of a proprietary company include the need to have a share capital (unlike a public company which may be limited by guarantee and not merely shares): • a requirement to have at least one shareholder and only one director (three directors for a public company) and not more than 50 shareholders (not including employee shareholders) • not required to restrict the transfer of its shares (however it may elect to do so) • the use of the designation "Pty" or “Proprietary” in its name • a requirement not to engage in any fundraising activity which would require it to lodge a disclosure document with ASIC.

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Distinguish between a large and a small proprietary company. What are the implications of being classified large rather than small?

A small proprietary company is defined in Section 45A of Corporations Act 2001, as amended, as one which meets 2 of the following three criteria: - consolidated annual revenue less than $25 million# - consolidated gross assets at the end of the financial year is less than $12.5 million# - the companies and the entities it controls have fewer than 50 employees^ at the end of the financial year. #These figures must be determined in accordance with accounting standards ^ Part-time employees measured at appropriate fraction of full-time If these criteria are not met the company will be a large proprietary company. Small proprietary companies do not have to prepare formal financial statements or have them audited. However, they must keep sufficient accounting records to allow preparation and audit of accounts if either 5% of their voting shareholders or ASIC request this to be done. Large proprietary companies, must prepare financial reports in accordance with accounting standards, have them audited, send them to shareholders and lodge them with ASIC (Section 292)

Outline the special features of a no liability company.

Companies engaged in the more speculative area of mining exploration are most often registered as no liability. Such companies have NL at the end of the company name and have the advantage of being more attractive to potential investors as unlike companies limited by the unpaid amount on their shares; there is no such liability on the part of shareholders to contribute to the debts and liabilities of the companies.

What is the purpose of a certificate of registration?

A certificate of registration is issued by ASIC as a part of the registration procedure. Provided the company complies with S117 of the Corporations Act, ASIC will: • give the company an ACN Number • register the company • issue a certificate that states the company's name, ACN No. etc. Once registered, the company is capable of performing all the functions of a corporate body.

What are replaceable rules and how do they differ from a constitution?

Replaceable rules are the set of internal rules (contained in the Corporations Act) governing the conduct of its operations between the company and its member directors and between members themselves [see example of such rules in ch 1 Section 1.3.3]. If the rules are not adopted by the company then they must draw up a constitution which will cover much of the same issues covered by the replacement rules but may be extended or modified by the promoters of the company.

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Outline the main features and purpose of a disclosure document.

A disclosure document, particularly the prospectus, contains all the information necessary for investors to make an informed assessment of the company's future prospects and other relevant matters including: • rights and liabilities attaching to securities • financial position, performance and prospects of the body issuing the securities • interests of each director, proposed director, promoter, stockbroker and their professional advisers in any property acquired or proposed to be acquired with the funds derived from the securities issue. • whether the securities issued will be quoted on a Stock Exchange.

In administering a company, the Corporations Act requires the keeping of various books, registers and records. Outline these and briefly discuss their content.

There are a range of records required to be maintained by a company including: • Minute books of the proceedings and decisions made at all directors’ and shareholders’ meetings as well as all resolutions passed without a meeting (s. 251A). If the company is a proprietary company with only one director, any declarations by this director must be minuted. • Financial records that will enable financial statements to be prepared and audited from time to time in accordance with the Act (ss. 286, 292, 302 and 303). • Register of members, or share register, giving each member’s name and address, and the date on which the entry of the member’s name is made on the register. If the company has a share capital, the register must also show the date on which an allotment of shares takes place, the number of shares in each allotment, the shares held by each member, the class of shares held, the share numbers (if any), the amount paid on the shares, and whether or not the shares are fully paid (s. 169). • Register of option holders to record the names and addresses of the holders of options over the shares of a company. The register must include the number and description of the shares over which options were granted, details of any event that must happen before the options can be exercised, and any consideration for the grant of the options and for the exercise of the options (s. 170). Copies of documents which grant an option over shares must be kept with this register. • Register of debenture holders to record each debenture holder’s name and address, and the amount of the debentures held (s. 171).

Outline the differences between shares and debentures.

Ordinary shares attract no fixed rate of dividend, carry voting rights and may participate in surplus assets and profits of the company – they represent ownership of x% of the company. Ordinary shares are classified as equity. The company may issue shares either fully paid or partly paid (s. 254A). If partly paid shares are issued, the shareholder is liable to pay calls on the shares (except in the case of no liability companies). A company also has the right to issue preference shares, but may only do so either if there is a statement in its constitution setting out the rights of these shareholders or if these rights have been approved by a special resolution of the company. © John Wiley and Sons Australia, Ltd 2015

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Not all preference shares are the same. Classification of preference shares as equity or liabilities depends on the rights and features of the shares – judgment is required re which classification is appropriate. For example, redeemable, cumulative 10% preference shares, which are to be redeemed on a set date, are definitely liabilities. Preference shares redeemable at the option of the company may or may not be liabilities, depending on the probability of the company redeeming them. Debentures are issued by the company raise funds but are borrowings, not equity. Debentures may be secured. A trust deed/trustee must be established to protect the rights of debenture holders.

10. What are the main reasons for the development of accounting regulations? The history of accounting regulation had its origins in the industrialised European settlement of the late 18th century. The social, political and economic changes which occurred saw the gradual decline of the importance of family enterprises and the separation of ownership from control as the control of entities was delegated by owners to agents. The growth in the number and size of 'joint stock companies in the late nineteenth century prompted the rise of disclosure although, initially, this focused on stewardship. The greater complexity of organisations in the mid to late twentieth century and twenty-first century gradually resulted in disclosure requirements developing into a more sophisticated form of financial reporting, which remains an ongoing process.

11. Explain the difference between accounting standards, interpretations and accounting framework.

the

Accounting conceptual framework Provide broad/general principles that provide guidance in preparation of general purpose financial reports. These are not mandatory. For example: The Framework (para.7) provides general information about what is included in a financial report/ a complete set of financial statements: 7. Financial statements form part of the process of financial reporting. A complete set of financial statements normally includes a balance sheet, an income statement, a statement of cash flows and a statement of changes in equity, and those notes and other statements and explanatory material that are an integral part of the financial statements. They may also include supplementary schedules and information based on or derived from, and expected to be read with, such statements. Such schedules and supplementary information may deal, for example, with financial information about industrial and geographical segments and disclosures about the effects of changing prices. Financial statements do not, however, include such items as reports by directors, statements by the chairman, discussion and analysis by management and similar items that may be included in an annual or interim report. The Framework (para. 49) provides definitions of basic elements to be included in measuring the financial position such as:

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(a) An asset is a resource controlled by the entity as a result of past events and from which future economic benefits are expected to flow to the entity. Accounting standards can be defined as: ‘a technical pronouncement that sets out the required accounting for particular types of transactions and events’ (AASB, 2014). Hence these provide specific requirements for a particular area of financial reporting. These are required to be complied with via corporations law. For example: AASB 101 Presentation of Financial Statements specifies that particular assets or liabilities must be included on the face of the statement of financial position itself (such as intangibles). AASB 102 Inventories (para 9) specifies thatNinventories shall be measured at the lower of cost and net realisable value. Interpretations provide guidance on urgent financial reporting issues. These are required to be complied with via AASB 1048. The AASB is responsible for developing both Australian equivalents of IFRIC Interpretations and domestic Interpretations, thereby replacing the former Urgent Issues Group (UIG). As stated by AASB (2014): AASB and UIG Interpretations are listed in Accounting Standard AASB 1048 Interpretation of Standards, giving them authority under the Corporations Act 2001 alongside the Standards. Interpretations are mandatory for members of CPA Australia, The Institute of Chartered Accountants in Australia and the Institute of Public Accountants, and as such must be consistently applied in the preparation and presentation of general purpose financial statements. Interpretations may also be given authority by other legislative or regulatory bodies. For example: Interpretation 132 specifies the treatment of costs incurred in building Internet web sites. Interpretation 1031 relates to issues re GST and, for example, specifies that (in general) “Revenues, expenses and assets shall be recognised net of the amount of goods and services tax (GST)” (para 6)

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12. Does a company have to comply with accounting standards in order to show a ‘true and fair view’ of its financial affairs? Discuss. Before the early 1990s, the directors of a company could elect not to comply with an accounting standard issued by the AASB if they believed the particular standards would cause the accounts not to present a true and fair view. This 'true and fair override' no longer exists and directors must now comply with applicable accounting standards and add any additional information in the notes to the financial statements if they believe adherence to the standards does not present a true and fair view. Compliance with standards therefore has become the norm, resulting in an increased interest, both positive and negative, in the requirements of accounting standards by different lobby groups, particularly among those required to prepare financial statements. As noted above, in Australia due to Corporations law requirements for the companies we are considering, the accounting standards must be complied with, even if the resulting financial statements and notes do not provide a true and fair view. Additional information is required if compliance does not result in a true and fair view. The requirements for this additional information are in AASB 101. You should note that the current international accounting standards (in limited circumstances and with extensive disclosure provisions) do provide for a true and fair ‘override’ (i.e. a true and fair override allows companies to depart from accounting standards where compliance with these would not provide a true and fair view). Although the Australian equivalent, AASB 101, includes this override provision ( in para 19) this is in effect negated for Australian companies as Aus19.1 states: Aus19.1 In relation to paragraph 19, the following shall not depart from a requirement in an Australian Accounting Standard: a) entities required to prepare financial reports under Part 2M.3 of the Corporations Act; b) private and public sector not-for-profit entities; and c) entities applying Australian Accounting Standards – Reduced Disclosure Requirements.

13. What are the current arrangements for setting accounting standards in Australia? The AASB under the auspices of the Financial Reporting Council is entrusted with the task of making accounting standards both for the purposes of the Corporations Act and for the public and not-for-profit sectors in Australia. [See Figure 1.1 in section 1.7.4].

14. Distinguish between the following organisations and their roles in the regulation of financial reporting in Australia: • the Financial Reporting Council (FRC) • the Australian Accounting Standards Board (AASB) • the International Accounting Standards Board (IASB) • the IFRS Interpretations Committee • the Australian Securities and Investments Commission (ASIC) • the Australian Securities Exchange (ASX)

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the Asian-Oceanic Standard Setters Group (AOSSG).

Financial Reporting Council (FRC) The main role of the FRC is to act as an overseer and advisory body to the standard setter, the AASB. The main functions of the FRC under the ASIC Act 2001, s. 225, are to: • oversee the process for setting accounting standards and give the Minister reports and advice on that process • appoint AASB and AUASB members (other than the chair) • approve and monitor the AASB’s and AUASB’s priorities, business plan, budget and staffing arrangements • determine the AASB’s and AUASB’s broad strategic direction • give the AASB and AUASB directions, advice or feedback on matters of general policy and procedures • monitor the development of international accounting and auditing standards and the standards that apply in major international financial centres, and – further the development of a single set of accounting standards and auditing standards for worldwide use with appropriate regard to international developments – promote the adoption of international best practice accounting standards and auditing standards in the Australian standard-setting process if this is in the best interests of both the private and public sectors of the Australian economy • monitor the operation of accounting and auditing standards to ensure their continued relevance and their effectiveness in achieving their objectives in respect of both the private and public sectors of the Australian economy, as well as the effectiveness of the AASB’s consultative arrangements • seek contributions towards the costs of the Australian accounting and auditing standard-setting process • monitor and periodically review the level of funding and funding arrangements for the AASB and AUASB • establish appropriate consultative mechanisms • advance and promote the objectives of standard setting as specified in the Act • perform any other functions that the Minister confers on the FRC by written notice to the chair. A major policy direction of the FRC that has affected the agenda of the AASB is the formalisation of a policy of adopting the accounting standards of the International Accounting Standards Board (IASB) for application to reporting periods beginning on or after 1 January 2005. (This includes also the adoption of Interpretations issued by the IFRS Interpretations Committee for use in the Australian context.) Australian Accounting Standards Board (AASB) The functions of the AASB, according to s. 227(1) of the ASIC Act 2001, are to: • develop a conceptual framework (not having the force of an accounting standard) for the purpose of evaluating proposed accounting standards and international standards • make accounting standards for the purpose of the Corporations Act • formulate accounting standards for other purposes, e.g. for non-companies, the public sector and the not-for-profit sector • participate in and contribute to the development of a single set of accounting standards for worldwide use

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• advance and promote the main objectives of developing accounting standards. The AASB must develop accounting standards not only for the corporate sector but also for other sectors, such as the public sector and the not-for-profit sector. The objectives of developing accounting standards are: (1) to facilitate the development of accounting standards that require the provision of financial information that: • allows users to make and evaluate decisions about allocating scarce resources • helps directors to discharge their obligations in relation to financial reporting • is relevant to assessing performance, financial position, financing and investment • is relevant and reliable • facilitates comparability • is readily understandable. (2) to facilitate the Australian economy by: • reducing the cost of capital • enabling Australian entities to compete effectively overseas • having accounting standards that are clearly stated and easy to understand. (3) to maintain investor confidence in the Australian economy (including its capital markets). In performing its functions, the AASB is required to follow the broad strategic directions determined by the FRC. The AASB may formulate accounting standards which are of general or limited application, in that the Board may specify the entities, time, place or circumstance to which the standard applies. Furthermore, as long as it is practicable to do so, the AASB is required to conduct a cost–benefit analysis of the impact of a proposed accounting standard before making or formulating the standard. However, the cost–benefit analysis is not necessary where the standard is being made or formulated by issuing the text of an international standard. The AASB conducts its meetings in a forum open to the public, which (hopefully) increases faith in the due process system of standard setting. In line with the FRC’s main function of overseeing the process of setting accounting standards, the AASB is required to adopt international financial reporting standards (IFRSs) as issued by the IASB. Besides issuing accounting standards that are equivalent to the IASB’s standards, the AASB has continued to issue accounting standards relevant to the public sector, as well as accounting standards that relate solely to the Australian legal environment. International Accounting Standards Board (IASB) On its website, the IASB states that it is an: … independent standard-setting body of the IFRS Foundation. Its members … are responsible for the development and publication of IFRSs, including the IFRS for SMEs and for approving Interpretations of IFRSs as developed by the IFRS Interpretations Committee... All meetings of the IASB are held in public and webcast. In fulfilling its standard-setting duties the IASB follows a thorough, open and transparent due process of which the publication of consultative documents, such as discussion papers and exposure drafts, for public comment is an important component. The IASB engages closely with stakeholders around the world, including investors, analysts, regulators, business leaders, accounting standard-setters and the accountancy profession

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In 2013 the constitution of the IFRS foundation and IASB was revised to include the following primary objectives: (a) to develop, in the public interest, a single set of high quality, understandable, enforceable and globally accepted financial reporting standards based upon clearly articulated principles. These standards should require high quality, transparent and comparable information in financial statements and other financial reporting to help investors, other participants in the world’s capital markets and other users of financial information make economic decisions. (b) to promote the use and rigorous application of those standards. (c) in fulfilling the objectives associated with (a) and (b), to take account of, as appropriate, the needs of a range of sizes and types of entities in diverse economic settings. (d) to promote and facilitate adoption of International Financial Reporting Standards (IFRSs), being the standards and interpretations issued by the IASB, through the convergence of national accounting standards and IFRSs. (IFRS Foundation Constitution, para 2)

Following the direction given by the FRC in 2002, the AASB has adopted the IFRSs issued by the IASB as from 1 January 2005. Hence, the financial statements prepared by Australian companies are comparable with those prepared by entities in other countries which also have adopted IASB standards. This should allow for greater understanding of financial statements worldwide, and lead to a more efficient flow of capital across national boundaries. The IASB has signed an agreement with the Financial Accounting Standards Board (FASB), the body responsible for issuing accounting standards in the United States. The agreement requires both bodies to work together towards convergence of global accounting standards. The aim is to agree on high-quality solutions to existing and future accounting issues. If such agreement could be reached, potentially there would be one set of global accounting standards. The Securities and Exchange Commission (SEC) in the United States, despite proposing a ‘roadmap’ to consider whether and how US companies could begin using the IFRSs by 2014, has yet to make a final decision. IFRS Interpretations Committee The IFRS Interpretations Committee has the task of reviewing on a timely basis, within the context of existing international accounting standards and the IASB framework, accounting issues that are likely to receive divergent or unacceptable treatment in the absence of authoritative guidance, with a view to reaching consensus as to the appropriate accounting treatment. The Interpretations Committee considers issues of reasonably widespread importance, and not issues of concern to only a small set of enterprises. The interpretations cover: • newly identified financial reporting issues not specifically dealt with in IFRSs • issues where unsatisfactory or conflicting interpretations have developed, or seem likely to develop in the absence of authoritative guidance, with a view to reaching a consensus on the appropriate treatment. The AASB has adopted the Interpretations issued by the IFRS Interpretations Committee for use by Australian companies as from 1 January 2005, and modifies them if necessary for the not-for-profit sector in Australia. Australian Securities and Investments Commission (ASIC) The ASIC is an independent government body set up to enforce and administer the Corporations Act and financial services laws to protect consumers, investors and creditors.

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ASIC regulates and informs the public about Australian companies, financial markets, financial services organisations and professionals who deal and advise in investments, superannuation, insurance, deposit taking and credit. The Australian Securities and Investments Commission Act 2001 requires ASIC to: • uphold the law uniformly, effectively and quickly • promote confident and informed participation by investors and consumers in the financial system • make information about companies and other bodies available to the public • improve the performance of the financial system and the entities within it. One of the roles of ASIC is to reduce fraud and unfair practices in financial markets and financial products so that consumers can use them confidently and companies and markets can operate effectively. In an accounting context, as part of its role, ASIC also attempts to ensure that a company’s financial statements lodged with it under the requirements of the Corporations Act comply with accounting standards, if applicable. Australian Securities Exchange (ASX). The ASX is a public company operating Australia’s share markets. It oversees both the shares and future exchanges. In an accounting context, it is particularly concerned with improving the disclosure of information in the financial reports of companies listed with it on the various stock exchanges throughout Australia. It exercises its influence by way of the Listing Rules — a set of rules with which companies must comply if they wish to be listed, and remain listed, on the stock exchange. Asian-Oceanic Standard Setters Group (AOSSG) The AOSSG is an interest group of several standard setters, based in Asian and Oceanic countries, for the purpose of commenting (lobbying) on accounting standards set by the IASB. Its Memorandum of Understanding specified the following objectives: • Promoting the adoption of and convergence with IFRS by jurisdictions in the region • Promoting consistent application of IFRS in the region • Coordinating input from the region to the technical activities of the IASB • Cooperating with governments and regulators and other regional and international organisations to improve the quality of financial reporting.

15. To which entities do accounting standards apply? Discuss the nature of a reporting entity, and consider reasons for the concept being replaced. Accounting standards apply to the general-purpose financial statements/reports of entities which are “reporting entities” and also to those entities which decide to prepare generalpurpose financial statements even if they are not reporting entities. The AASB, in SAC 1, provided the following definition of a reporting entity: Reporting entities are all entities (including economic entities) in respect of which it is reasonable to expect the existence of users who rely on the entity’s general purpose financial report for information that will be useful to them for making and evaluating decisions about the allocation of scarce resources.

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All reporting entities are subject to accounting standards when preparing their generalpurpose financial statements. Entities such as small proprietary companies, family trusts, partnerships, sole traders and wholly owned subsidiaries of Australian reporting entities will normally not be required to prepare general purpose statements in accordance with accounting standards. The introduction of the IASB’s differential reporting requirements for Small and MediumSized Entities shifted the focus from whether an entity is/is not a reporting entity to whether the entity is required to prepare a general-purpose financial statement/report and is publicly accountable. However as noted in the text the Australian differential reporting requirements for Small and Medium-Sized Entities have retained the primacy of the reporting entity concept in determining which entities are required to prepare GPFRs. Public accountability is used to determine which entities are permitted to use the Reduced Disclosure Regime. The RDR involves recognition and measurement requirements of full IFRSs (Tier 1), as already adopted in Australia, but with disclosures substantially reduced (Tier 2) in comparison with those required under full IFRSs. As noted in the text the introduction of the RDR in Australia represents only the first stage in considering differential reporting and rationalization of reporting requirements in Australia and in the next stage the AASB is expected to consider a shift from the reporting entity concept to GPFRs as: • the IFRSs which Australia has adopted apply to GPFRs rather than reporting entities, and, • internationally the reporting entity concept is used to determine the boundaries of the entity being reported on rather than the entity required to provide GPFRs. The nature of the reporting entity is that the question to be asked by preparers of financial reports in deciding whether they are a reporting entity (and hence need to prepare a GPFR) is: Is it reasonable to expect the existence of users who depend on GPFRs for making and evaluating economic decisions? This will also be impacted by who are considered ‘users’. As the text notes the reporting entity concept in SAC1, and in the Framework, was very broad. In 2010 the IASB and the FASB issued Exposure Draft ED193 Conceptual Framework for Financial Reporting: The Reporting Entity which redefined ‘reporting entity’ to include a more restricted set of users (namely existing and potential investors, lenders and other creditors).The text also discusses the three main features of a reporting entity as per ED 193. However, it is important to note these features and not always sufficient when identifying a reporting entity.

16. Investigate the nature of the Reduced Disclosure Regime (RDR), and outline the implications of applying the RDR in Australia. The RDR has been established in Australia since the release of AASB 1053 in June 2010. This has resulted in a two-tier reporting system in Australia, as outlined in table 1.1 on p. 29 of the text. Hence, all entities which prepare general-purpose financial statements are required to comply fully with IFRSs issued by the IASB; however, only those entities on Tier 2 have reduced disclosure requirements. The implications are:

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that more entities will be required to comply with full IFRSs, than would be required under the SME arrangements developed by the IASB which has issued a stand-alone accounting standard, IFRS for SMEs, that ‘replaces’ the full suite of IFRSs for such entities. The GPFRs of any Australian company will need to apply the same recognition and measurement principles and options.

17. Would compliance with IFRS’s ensure compliance with Australian Accounting Standards? Give reasons for your answer. Whilst Australia has largely adopted the IFRS’s, compliance with IFRSs alone would not ensure compliance with Australian Accounting Standards as: 1. As noted above for SMEs the IASB have issued a separate standard that includes changes to recognition and measurement requirements for some items. The Australian Reduced Disclosures Regime does not alter these recognition and measurement requirements. Hence entities complying with IFRS for SMEs would not comply with Australian Accounting Standards. 2. There are some Australian accounting standards (and interpretations) where there is no IFRS equivalent (for example, AASB 1054 Australian Additional Disclosures).

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CASE STUDIES Case study 1

Legal rights and obligations of a small business

Visit the website of the Australian Government’s Attorney-General’s Department dealing with the law (www.comlaw.gov.au) and find the Corporations Act 2001. Assuming that you are the director of a small proprietary company, find the ‘small business guide’ and learn of your rights and obligations under the Act for managing your business. Prepare a brief report for the tutorial class. The Small Business Guide in the Corporations Act can be found following Section 111J. The guide summarises the main rules in the Corporations Act (the Corporations Act 2001) that apply to proprietary companies limited by shares—the most common type of company used by small business. The guide gives a general overview of the Corporations Act as it applies to those companies and directs readers to the operative provisions in the Corporations Act. Students, in their capacity as would-be directors, are required to present a report to the class, summarising the requirements of the Guide. Such topics to be covered include: • The meaning of registration, including shareholders’ and directors’ liabilities • Rules for internal management of a company • Company structure and setting up a new company • Continuing obligations once the company is set up • Company directors, secretaries and shareholders • Who can sign company documents • Funding the company’s operations • Returns to shareholders • Annual financial reports and audit • Disagreements within the company • Companies in financial trouble

Case study 2

The AASB

Visit the AASB website (www.aasb.gov.au) and find out the following items: • Who is the Chair of the AASB? • Who are the members, and which organisations do they represent? • Which accounting standards have been issued in the past year? • Why are there differences in the numbering systems for current accounting standards (e.g. AASB x, AASB xxx and AASB xxxx)? • What current projects (if any) is the AASB working on in cooperation with the IASB?

Assuming that you already have access to the AASB website: Chairman of the AASB Go to AASB Board, then Current Board Members .Current chair is Kevin Stevenson Members of the AASB and organisations represented

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Stay in the same location and the names and organisations represented on the AASB are all shown. Don’t forget to include the observers as well. Comment: too many men?? Any academics on the board? Accounting standards issued in the past year: On the AASB website, go to Quick Links, then Table of Standards. Read from Table 1 all of the standards issued in the last year. Different numbering systems for standards See Pronouncements for information, plus section 1.7.4 in the text. AASB x represent those standards adopted by the AASB from the IFRSs of the IASB AASB xxx represent those standards adopted by the AASB from the IASs of the IASB and its predecessor the IASC AASB xxxx represent those standards issued exclusively by the AASB for companies in the Australian context In addition, the AAS standards consist of standards issued by the AASB for special organisations e.g. superannuation plans, government (The numbering system is also set out in tabular format at the For Students link; go to About the AASB then For Students). Current projects On the AASB website, go to Work in Progress, then Projects. It would appear that there are no specific projects at the moment being worked on by the AASB in cooperation with the IASB. The AASB is one of several standard setting boards that liaise with the IASB and merely provide submissions to the IASB on various topics. See also AASB Submissions to the IASB on the website. Also check the News section and Latest News on the website.

Case study 3

Setting up a company

Visit the website of the Australian Securities and Investments Commission (www.asic.gov.au) and find the form(s) that you must complete to start a company, assuming that you wish to set up a small proprietary company to take over your current successful business, which has been operating as a partnership (with three partners) in the past. On the website of the ASIC, go to Download forms, select the form 201 for Registering a company. Students should print the form and fill it out as if they wish to set up a proprietary company, with more than one owner shareholder.

Case study 4

The IASB

Visit the website of the International Accounting Standards Board (www.ifrs.org) or the Financial Accounting Standards Board (www.fasb.org) and find and report to the class on the following pieces of information: • Joint Update Note from the IASB and FASB on Accounting Convergence July 2012 • the accounting standards being changed as a result of the international convergence moves • the membership of the IASB and which countries the members come from

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• the goals of the IASB. 1. Joint Update Note from the IASB and FASB on Accounting Convergence July 2012 On the IASB website, go to IFRS, then Use around the world, then Jurisdictional and International MoUs, and finally click on United States in the Jurisdiction table to gain access to “Convergence with US GAAP”. Alternatively visit the website of the FASB, go to Quicklinks, and then International Convergence. Report on the latest information available from these sites, which are updated regularly. 2.

Which accounting standards have or are being changed as a result of international convergence moves

The update report contains 3 tables that provide status and changes as a result of short term, long term and longer term priority convergence projects. These are replicated below.

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Short Term Convergence Projects

Source: Hoogervorst, Hans, and Seidman, Leslie F., IASB-FASB Update Report to the FSB Plenary on Accounting Convergence, 5 April 2012, p.3

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Long Term Convergence Projects

Source: Hoogervorst, Hans, and Seidman, Leslie F., IASB-FASB Update Report to the FSB Plenary on Accounting Convergence, 5 April 2012, p.4

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Longer Term Priority Convergence Projects

Source: Hoogervorst, Hans, and Seidman, Leslie F., IASB-FASB Update Report to the FSB Plenary on Accounting Convergence, 5 April 2012, p.5

Membership of IASB and member countries

Go to the IASB website and see, About us. Click on About the organisation and there you will find the information about the Chairman, the Vice-Chairman and all members of the IASB, and the countries from which they came by reading each person’s information sheet. 4.

Goals of the IASB

Go to the IASB website and see About us. Click on About the organisation and there you will find the IASB objectives. On this page you can also access a 7 page guide ‘Who we are and what we do’ from the Related Information link.

Case study 5

ASIC

Visit the website of the Australian Securities and Investments Commission (www.asic.gov.au) and find out and report to the class on the following: • what ASIC is and its role • the tips given to prospective shareholders regarding the reading of a company’s prospectus • a list of the policy statements and practice notes issued by ASIC • ‘What’s new’ on the website.

1.18

Chapter 1: Nature and regulation of companies

1. ASIC and its role On the ASIC website, go to About ASIC and look up Our Role 2. Tips to prospective shareholders re prospectuses From within the About ASIC menu, go to ASIC and consumers. From there, access Go to MoneySmart, then Tools & Resources, and Check ASIC lists, then Check a Prospectus. The ASIC has information about prospectuses which changes quite regularly. See what tips you can find about prospectuses, assuming that you are a prospective investor. 3. Regulatory guides issued From ASIC’s home page, go to Publications and then to Regulatory Documents. regulatory guides are accessible here.

The

4. What’s new See ASIC’s home page, and What’s New features on the home page.

Case study 6

FRC

Visit the website of the Financial Reporting Council (www.frc.gov.au) and locate its strategic plan and report to the class on the following: •

What is the key purpose of the strategic plan?

There is a separate link on the FRC homepage to information about the strategic plan. Click on this and open the strategic plan for 2013-16. As this document notes, the FRC’s objectives are to facilitate the development of high quality accounting standards, auditing and assurance standards, and related guidance. The FRC aims to achieve these objectives by developing task forces for specific areas of interest. •

Identify and outline the four sources of complexity in financial reporting that the Managing Complexity in Financial Reporting Task Force outlined in its report to the FRC in May 2012. 1) Increasingly complex business operations 2) Complexities in the regulatory framework 3) Changing attitudes of businesses and stakeholders 4) Developments in Integrated Reporting

You should also outline the nature of and purpose of the project, any recommendations or progress made. This report can be found on the website by going to the Reports section, then Other Reports.

1.19

Chapter 2: Financing company operations

Chapter 2 – Financing company operations REVIEW QUESTIONS 1.

Explain the nature of a share. Distinguish between an ordinary share and a preference share.

Basically, a share represents ownership of a portion of the share capital of a company. Also note the discussion in Chapter 1 of the text concerning the relationship between limited liability and the amount paid up on a share. The differences between ordinary and preference shares are determined by the terms of issue. A company has the right to issue preference shares, but may only do so either if there is a statement in its constitution setting out the rights of these share or if these rights have been approved by a special resolution of the company. Not all preference shares are the same. However common differences between ordinary and preference shares are: ▪ Ordinary shares represent ordinary ownership interest and therefore have right to participate in profits, voting rights and rights to receive return of capital if the company is wound up and after that of all other claimants (i.e. creditors). ▪ Preference shares are distinguished as normally having a set rate of ‘dividend’ (e.g. 5%) that is paid prior to any dividend to ordinary shareholders and have preference (before ordinary shareholders) to return of capital if the company is wound up. Also may be: ▪ Cumulative – i.e. if dividends are not paid in one period, they accumulate and are paid in the future when profits and funds are available; ▪ Participating- may receive an ‘extra’ dividend and participate in surplus assets or profits; ▪ May have voting rights (often only in specific circumstances; e.g. if dividends are not paid) ▪ Redeemable – may be able to be bought back either at a fixed time or at the option of either party (shareholder or company) Note: Classification of preference shares as equity or liabilities depends on the rights and features of the shares – judgment is required re which classification is appropriate. For example, redeemable, cumulative 10% preference shares, which are to be redeemed on a set date, are definitely liabilities. Preference shares redeemable at the option of the company may or may not be liabilities. If the preference shares are classified as liabilities, any dividend paid on those shares must be treated as interest expense (not as a dividend).

2.1

Solution Manual to accompany Company Accounting 10e

2. Describe the purpose of each of the ledger accounts used to record the issue of shares. Cash Trust: used to record money received from applicants subscribing for shares. These amounts remain in the trust account until the shares have been allotted to applicants. The balance will then be transferred to the company’s general bank account. Application: used to record the amount of money received from applicants subscribing for shares. Once the directors decide to allot the shares to the applicants, then this account is cleared out and transferred to the Share Capital Account or to Allotment, Calls in Advance and refunds from Cash Trust if appropriate. Share Capital: used to record the amount called up from successful applicants who have now been allotted shares in the company. The amount is transferred in from the Application Account or the Allotment and Call accounts. Other accounts that may be used depending on the details of the share issue will be the Allotment Account and the Call Account. These accounts are used if shares are payable by instalments.

3. Explain what can happen if a share issue is ‘underwritten’ and the effect that underwriting can have on achieving a minimum subscription. If a share issue is underwritten, this means that the underwriter, if a share issue is not fully subscribed by the public, guarantees to either purchase the remaining unsubscribed shares or arrange for others to subscribe to the issue. Underwriters are usually financial institutions or brokers, and they will charge the company a commission for their services. If the share issue is fully subscribed, the underwriter will collect the commission and not have to do anything.

4. If a share issue is oversubscribed, what action can be taken in relation to excess money received on application? Excess monies received on application for shares will be refunded to the applicant. However where shares are issued on a partly paid basis, the excess can be used as an offset in reducing allotment money due and in payment of any future calls, provided the company’s constitution and the terms of the prospectus allow for this treatment.

5. When can a company forfeit its shares? What happens to money already paid by the holder of those shares? A company can forfeit its shares provided the rules for forfeiture are in the company’s constitution. The rules usually specify that shares would be forfeited for non-payment of calls. Where shares are forfeited, the company can, depending on the constitution, retain the funds already paid on the forfeited shares in which case the Forfeited Shares account will be considered a reserve and part of equity. Alternatively, the forfeited shares can be reissued and the amount received, less the costs of forfeiture and reissue of shares, may then be refunded to the former shareholders. In this case, the Forfeited Shares account is a liability.

2.2

Chapter 2: Financing company operations

6. How should a company account for the legal costs of formation? Should the accounting treatment be the same as that for underwriting and other share issue costs? Legal costs of formation were traditionally treated as an asset and then systematically amortised over an arbitrary period. However there are no future economic benefits to be gained from these costs and they should be written off to expense, as per AASB 138 Intangible Assets. Underwriting and other share issue costs are discussed in AASB 132 Financial Instruments: Presentation, paras. 35 and 37, and the appropriate treatment is to regard these costs as a reduction of the share capital being raised (if the share issue occurs). The rationale for the different treatment is that share issue costs and the raising of capital is viewed as a single transaction and as such, the increase in equity is the net amount the company receives from the issue of shares (after considering any tax effect on the share issue costs). However, if no capital is issued (i.e. the share issue is not successful) then such costs are expensed.

7. What is a rights issue? Distinguish between a renounceable and a non-renounceable rights issue. How would a company account for such issues? A rights issue is an issue of new shares to existing shareholders whereby they are given the right to purchase additional shares in proportion to their current shareholdings. Usually the issue price is set below the current market price of the company’s shares. A renounceable rights issue allows the shareholder to take up the rights issue, let it lapse or sell their rights on the securities market. A non-renounceable rights issue only allows the shareholder to either take up the rights by subscribing for more shares, or reject the rights, which mean that they lapse. The shareholders cannot sell the rights. Accounting for a rights issue is discussed in the chapter at section 2.5.1 and practical aspects are shown in illustrative example 2.6.

8. What is private placement of shares? What are the advantages and disadvantages of a private placement? A private placement is an issue of shares to a large institutional investor. The main advantages are speed, price and direction. The disadvantage is that existing shareholders experience a dilution of their ownership as well as an ability to make a profit if there had been a rights issue instead of a private placement.

9. What is a share option? How does a company account for share options that lapse? A share option is an instrument giving the holder the right to buy or sell a set number of shares in the company by a set date at a set price. Options can be issued for a price or at no cost to the recipient. If issued for a price, an options ledger account is used. On expiry of the exercise date, this account balance is transferred to share capital (for the number of options exercised x the

2.3

Solution Manual to accompany Company Accounting 10e

options price) and to lapsed options reserve (for the number of options lapsed x the options price). Where options are issued at a cost, then the amount received for options not yet exercised is disclosed in the statement of financial position as an increase in equity and shown below the company’s share capital.

10. Detail the characteristics of redeemable preference shares recognised as liabilities rather than equity. Redeemable preference shares recognised as liabilities rather than equity normally would be redeemable in cash on a specified date or at the option of the holder, be cumulative in regard to the payment of dividends, non-participating in further dividends and have priority rights to return of capital over ordinary shares. The accounting treatments of such preference shares when they are redeemed are shown the text in illustrative examples 2.9 and 2.10.

11. What are share consolidations and share splits? How are they accounted for? Share consolidations involve packaging the existing capital into a smaller number of shares. This doesn’t affect the balance in the Share Capital account and therefore there is no journal entry required, but only an adjustment to the share register in regard to the number of shares. Share splits are the opposite to share consolidations. They involve packaging the existing capital into a larger number of shares. For example when BHP merged with Billiton and became BHP Billiton it split its shares on the basis of two shares for every one share. A share split also doesn’t affect the balance in the Share Capital account and therefore there is no journal entry required, but only an adjustment to the share register in regard to the number of shares.

12. What restrictions exist under the Corporations Act 2001 on the conversion of ordinary shares to preference shares? Conversion of ordinary shares to preference shares is permitted provided the shareholders’ rights in regard to the conversion have been set out in the company’s constitution or approved by a special resolution of the company. These rights will detail the shareholders’ rights in regard to repayment of capital, participation in surplus assets and profits, whether the dividends will be cumulative or non-cumulative, voting rights and priority payment of dividends and capital in relation to other shares.

13. Why would a company wish to buy back its own shares? What conditions must be fulfilled before the company can do so? What types of share buy-backs are permissible under the Corporations Act 2001? A company may wish to buy back its own shares in order to change its financial leverage. Alternatively it may be cashed up with no suitable profitable investments, so rather than keep the cash idle it may be beneficial to buy back its shares. Share buy-backs can also help in

2.4

Chapter 2: Financing company operations

cleaning up small lots of shares that are held. A company can only buy back its own shares if the buy back does not materially prejudice the company’s ability to pay its creditors. The five types of share buy backs permissible under the Corporations Act are discussed in section 2.9 of the chapter. See especially Table 2.1, page 55.

14. How should a company account for a share buy-back? How does it account for a buy-back premium? A buy-back discount? Discuss. Where the amount paid for a buy back share exceeds the initial issue price, then a buy back premium arises. If the amount paid for the buy back is less than the issue price, then a buy back discount arises. The accounting for a buy back of shares was discussed by the Urgent Issues Group in Abstract 22, issued in 1998. Even though the document no longer exists, it is used here in the absence of additional guidance. It states in paragraphs 4 and 5 that where shares are bought back, the equity of the entity must be directly reduced by the cost of acquisition of the shares bought back. Abstract 22 does not however prescribe which equity accounts are to be adjusted as a result of the buy back. Section 2.9.2 of the text outlines common treatments in practice. An example of the accounting for a share buy back is given in illustrative example 2.12.

15. What is a debenture? Briefly outline the different types of debentures permitted under the Corporations Act 2001 and outline the procedures which must be followed to issue debentures. A debenture is a chose in action whereby a company undertakes to repay money borrowed by it. The chose in action may include a charge over company property to secure repayment. The different types of debentures under the Corporations Act are a mortgage debenture where the security is a first mortgage on land; a debenture where the security is over sufficient tangible property; and an unsecured note or unsecured deposit note where the first two names cannot apply.

2.5

Solution Manual to accompany Company Accounting 10e

CASE STUDIES Case Study 1

Public floats

Torque Mining Ltd issued a prospectus on 25 January 2013 inviting applications for up to 20 000 000 ordinary shares at an issue price of 20c each, payable in full on application. A minimum subscription of $3 000 000 was specified, with share issue costs of $376 350 expected to be incurred. The expected closing date for the offer was 15 March 2013. On 27 March 2013, the company advised that the Initial Public Offering had been withdrawn as the minimum subscription had not been reached. (Based on information from Torque Mining Ltd, www.torquemining.com.au/news.) Required A. What is the rationale behind specifying a minimum subscription to be reached before a share issue can be made? B. Assume that the minimum subscription was reached, the offer closed on 15 March 2013, and that 3,000,000 shares were issued on 27 March 2013 with share issue costs paid on that day. Prepare the journal entries required to be processed from the 25 January to the 27 March inclusive. C. Given that the share issue was not completed, explain how any costs associated with the offer would be accounted for?

A. A company is required to specify in the disclosure document what it intends to do with the funds expected to be raised. If the minimum subscription specified in the document is not met, no shares can be issued and all application money must be refunded. This is to protect investors as, if the minimum subscription is not reached, the company would not have adequate funds to achieve the objectives as stated in the disclosure document. This would place any investment at risk. B. The entries required given these assumptions are: To 15 Mar. Cash Trust Application (Money received on application) 27 Mar. Application Share Capital (Issue of 15m shares fully

Dr Cr

3 000 000 3 000 000

Dr 3 000 000 Cr paid to 20c)

Cash Cash Trust (Transfer on allotment of shares)

Dr Cr

3 000 000

Share Issue Costs/Share Capital Cash (Costs of issuing the shares)

Dr Cr

376 350

3 000 000

376 350

2.6

Chapter 2: Financing company operations

C. If the share issue was not completed the costs associated with the offer would be expensed to the profit/loss (AASB 132, para 37).

Case Study 2

Private placement

On 13 March 2013, Mining company Aeon Metals Ltd announced plans to raise $1 150 000 through a placement of 5 227 273 ordinary fully paid shares at $0.22 per share to institutional investors to fund new surveys and drilling campaigns for its copper project. Prior to this announcement the shares of Aeon Metals Ltd were trading at around $0.26. (Based on information from Aeon Metals, www.aeonmetals.com.au.) Required A. Distinguish between a public share float and a private placement. B. Assuming that the placement above proceeded, what journal entries would be required to account for it? A. The main differences between a public share float (share capital raised by a public company by way of advertisements and disclosure documents to encourage public subscription for shares) and a private placement (shares issued privately to institutional investors) are: • Time - a public share float is much slower to achieve than a private placement • Expenditure - Public share floats require greater costs through publication of disclosure documents, advertisement, appointment of underwriters • Total cash raised – public share floats usually raise more capital as there are restrictions by the ASX on the amount raised through private placements. • Share price and direction – a private placement may be made close to the current price if it is made to existing shareholders, and a private placement may be made with “friendly” institutions B. Cash Dr 1 150 000 Share Capital Cr (Private placement of 5,227,273 shares at $0.22 per share)

Case Study 3

1 150 000

Prospectus and share issue

From the website of the Australian Securities and Investments Commission (ASIC) (www.asic.gov.au), find a company which has issued a prospectus for the purpose of raising additional funds (shares or debentures) from the public in the current year (calendar or financial). Find a copy of that prospectus online (they are usually on the company’s website, linked via ASIC’s website). Required Report to the class on the nature and details of the prospective fundraising, and the reasons why such funds are being raised.

2.7

Solution Manual to accompany Company Accounting 10e

This answer belongs to the students, depending on the current prospectus selected from the ASIC website.

Case Study 4

Share buy-backs

Read the article on pages 76–79 by Kim Wyatt and Jarrod McDonald, ‘Who really wins from an off-market share buyback?’ (In the Black, October 2004, pp. 54–7). Required Considering the given examples of Telstra, Foster’s, IAG, Woolworths, Channel Seven and the Commonwealth Bank, discuss in groups of three or four whether you believe off-market buy-backs are worthwhile from an individual shareholder’s point of view. Present your findings to the class. Students should firstly establish the model adopted by Wyatt and McDonald for measuring the gains and losses from share buybacks. The question that needs to be answered is whether share buy-backs are beneficial to an individual shareholder. From Wyatt and McDonald’s research, the answer varies from one buy-back to another depending on an individual’s marginal tax bracket. Some buy-backs seem to benefit the company rather than the individual shareholders. Students should read the article and present their findings to the class for each different buyback scheme examined by Wyatt and McDonald. Question to consider: Can we generalise from their research that buy-backs are worthwhile, or not?

Case Study 5

Rights issues vs. private placements

Read the following newspaper article: Investor prepares for fight as Transurban issues shares Transurban’s largest shareholder has failed in an eleventh-hour appeal to halt an allotment of newly-issued shares to institutional investors but will get a chance to air its grievances before the takeover’s umpire. The Takeovers Panel yesterday rejected a request by the Sydney fund manager CP2 for interim orders — similar to a temporary injunction — seeking to halt the $542 million share issue. However, a panel will be appointed to consider the shareholder’s application for final orders against the raising, which Transurban wants to use to pay for its $630 million purchase of Lane Cove Tunnel. The latest dispute between Transurban and its largest shareholder creates further instability for the toll-road company, and raises fears of a protracted stand-off. A day after Transurban’s embattled chairman, David Ryan, attempted to quell a push for board scalps, CP2 went to the takeovers umpire saying the company’s rights issue ‘constitutes frustrating actions’.

2.8

Chapter 2: Financing company operations

The fund manager, which owned just under 15 per cent of Transurban before the capital raising, joined two Canadian pension funds in unsuccessfully trying a $7.2 billion takeover offer for the toll-road group two weeks ago. CP2’s stake will be diluted because it did not participate in the share issue. Yesterday CP2 said Transurban had conducted the rights issue in a ‘misinformed market’ and the timing of the sale precluded the Canadian-led consortium and overseas investors from participating. It wanted shareholders to be able to vote on the capital raising and, if it went ahead, the institutional entitlement offer to be reopened. However, this appears impractical given the new shares can be traded from today. Andrew Chambers, an Austock analyst, said there had been mixed messages from CP2 because it wanted the rights issue stopped while it was also seeking to reopen the institutional offer. ‘There seems to be mixed objectives, which always create uncertainty for the stock’, he said. Transurban and CP2 declined to comment yesterday because the matter was before the Takeovers Panel. However, Transurban said its capital raising was proceeding as planned. Shares in Transurban closed down 11c, at a seven-month low of $4.30. Source: Matt O’Sullivan, Sydney Morning Herald, 26 May 2010. Required A. Distinguish between a rights issue and a private placement. B. From the above article, what appears to be the problem voiced by Transurban’s largest shareholder against the share issue? A. A rights issue is an issue of new shares to existing shareholders, based on their proportionate holdings of existing shares. Only if the terms of the rights issue are renounceable will new shareholders be able to acquire shares in Transurban. A private placement is an arrangement whereby shares are sold to new or existing institutional shareholders who have negotiated to buy a block of newly-issued shares in the company. There is no requirement for the placement to be proportional among existing shareholders. B. The issue is one of control. In a rights issue, shareholders normally hold the same proportion of shares after the issue as before. Not so in a private placement. New or existing institutional investors may privaely acquire enough shares to reduce the control of other existing shareholders and therefore increase their own control. It appears from the article that CP2 was more interested in being part of a private placement with Canadian pension funds so that its influence over Transurban would rise, rather than being part of a rights issue where its influence would remain at approximately 15%..

Case Study 6

Share market floats

Read the following article: Companies cautious on floats Low business confidence and sentiment will continue to cloud the IPO market in Australia next year, but with a backlog of potential market listings and record amounts of cash on the sidelines, activity could pick up in the later part of the year.

2.9

Solution Manual to accompany Company Accounting 10e

Ernst & Young’s year-end global IPO update, released yesterday, shows that while the global outlook next year is more positive than this year, a tough 2012 is still weighing on activity. In Australia this year there have been 36 IPOs to the end of last month, with total capital raised of $US865 million ($821m) — down 63 per cent in volume and 29 per cent in value compared with last year. More than half the 36 capital raisings were small resource companies with average capital raised less than $US10m and a single IPO — Woolworths’ spin-off of retail properties into the Shopping Centres Australasia Property Group — accounted for more than half the total capital raised for the year. Anne-Maree Keane, Ernst & Young Australia transactions partner, said the Australian equity market was in ‘relatively good shape’ and was ‘on the up’, but broader business confidence and sentiment continued to cloud the outlook for increased activity. ‘There are companies in the background, potentially waiting to go (to IPO) but in the meantime they tick along, business as usual, Ms Keane said. ‘There is a backlog but people are reluctant to embark on an IPO process because of the time, cost and risk. ‘People do need to exit some of these businesses. If you’re a large, family-owned operation, succession planning is starting to become a real issue for some because it’s been potentially five years waiting for things to get better.’ Ms Keane said this year was driven by sentiment and that, while there were record amounts of cash looking for a home, investors were concerned that IPOs resulted in an immediate drop in the value of their investment. A lack of confidence to invest for the long term was seeing people focus on short-term fundamentals and what their return would be in six months, rather than three to 10 years, she added. ‘Retails investors and institutions have seen that immediate decline in their investments, so they are keeping their money in cash,’ she said. While historically there was a strong uptick with IPOs following a quiet period, Ms Keane said the volatility in global markets made it difficult to predict what the future held for new listings. ‘Historically, when we’ve had a quiet period of IPOs and the window opens, there is a rush and that creates some competition,’ she said. While sentiment remains cautious, the global report is tipping a pick-up in the second half of next year, a trend that is also expected to be seen in Australia. Ms Keane said the company was getting more inquiries and, while there had previously been a few false starts on activity picking up, plans that had been deferred were being revisited. ‘We are getting an increased level of inquiries where people are starting to tentatively think about putting it back on the board agenda for next year and that is something that we haven’t seen for a few years,’ she said. Source: Tasker, S 2012, ‘Companies cautious on floats’, The Australian, 19 December, p. 18. Required A. What reasons are provided for investors being cautious about participating in public share floats in 2013? B. Using the Internet, investigate the success or otherwise of IPOs made in 2013 (e.g. Austral Resources and IPB Petroleum made IPOs in 2013). A. The article suggests a range of factors (interrelated) that will impact. These include:

2.10

Chapter 2: Financing company operations

• Low business confidence • Concern over global outlook • Focus on short term returns B. The success or otherwise will depend on the choice made by students.

2.11

Solution Manual to accompany Company Accounting 10e

PRACTICE QUESTIONS Question 2.1

Oversubscription on share issue, payable in full on application

Maple Ltd was registered on 1 March 2017. Directors decided to issue 500 000 ordinary shares on 31 March 2017, payable in full on application at an issue price of $2.The company received applications for 560 000 shares, sent letters of regret to applicants for 10 000 shares and the remaining applicants received partial allotments by issue of 10 shares for every 11 shares applied for, making the total allotment 500 000 shares. Legal costs of issuing the shares, $12 000, were paid. Required Prepare journal entries and ledger accounts to record the above transactions. MAPLE LTD General Journal 2017 Mar 31 Cash Trust Dr Application Cr (Money received on application 560 000 x $2)

1 120 000 1 120 000

Application Cash Trust (Refund to unsuccessful applicants for 10 000 shares)

Dr Cr

20 000

Application Share Capital (Issue of 500 000 shares fully paid to applicants for 550 000 shares)

Dr Cr

1 000 000

Application Cash Trust (Refunds of excess application money to successful applicants)

Dr Cr

100 000

Cash Cash Trust (Transfer on allotment of shares)

Dr Cr

1 000 000

Share Issue Costs/Share Capital Cash (Costs of issuing the shares)

Dr Cr

12 000

20 000

1 000 000

100 000

1 000 000

12 000

2.12

Chapter 2: Financing company operations

MAPLE LTD GENERAL LEDGER Cash Trust 31/03/17

Application

1 120 000 31/03/17

Application

20 000

Application

100 000

Cash 1 120 000

1 000 000 1 120 000

Application 31/03/17

Cash Trust

20 000 31/03/17

Share Capital

1 000 000

Cash Trust

100 000

Cash Trust

1 120 000

Share Capital 31/03/17

Application

1 000 000

Share Issue Costs

12 000

Balance c/d

988 000

Share Issue Costs 31/03/17

Cash

12 000 Cash

31/03/17

Cash Trust

1 000 000 31/03/17

1 000 000 Balance b/d

1 000 000

988 000

2.13

Solution Manual to accompany Company Accounting 10e

Question 2.2

Undersubscription on share issue, money due on allotment

On 1 January 2017, Elm Ltd issued a prospectus inviting applications for 300 000 ordinary shares, at an issue price of $6, payable $4 on application, $2 on allotment. By 30 April, applications were received for 290 000 shares with $4 paid. As the minimum required subscription had been reached, on 1 May the directors allotted 290 000 shares. Share issue costs of $1200 were also paid on the same date. All of the allotment money was received by 1 June. Required Prepare journal entries to record the above transactions. ELM LTD General Journal 2017 To 30 April

Cash Trust Application

Dr Cr

1 160 000

Application

1 160 000

Allotment

580 000

1 160 000

(being receipt of applications)

1 May

Share Capital

1 740 000

(being issue of shares)

Share Capital/Share Issue Costs Cash/Payables

1 200

(being payment of share issue costs) Cash

Cash Trust

1 160 000

(transfer of application money) To 1 June

Cash Allotment

Dr Cr

580 000 580 000

(being receipt of allotment money due)

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Chapter 2: Financing company operations

Question 2.3

Share issue, payment by instalments

On 1 July 2017, Pine Ltd issued a prospectus inviting applications for 600 000 ordinary shares, at an issue price of $7, payable $2.50 on application, $1.50 on allotment, and $3 on future call(s), dates to be determined by the directors. By 1 September, applications were received for 620 000 shares with $2.50 paid per share. On 6 September, the directors allotted 600 000 shares. Refunds were made to applicants for 20 000 shares. Share issue costs of $12 400 were also paid on the same date. All of the allotment money was received by 1 October. On 1 February 2018, a first and final call for $3 was made. All of the call money was received by 1 March 2018. Required Prepare journal entries to record the above transactions. PINE LTD General Journal 2017 To 1 Sept

Cash Trust Application

Dr Cr

1 550 000 1 550 000

(being receipt of applications for 620,000 shares at $2.50 per share)

6 Sept

Application

1 500 000

Allotment

900 000

Share Capital

2 400 000

(being issue of 600,000 shares)

Application

Cash Trust

50 000 50 000

(being refund to unsuccessful applicants) Share Capital/Share Issue Costs Cash/Payables

12 400

(being payment of share issue costs) Cash

Cash Trust

1 500 000

(transfer of application money) To 1 October

Cash

900 000

2.15

Solution Manual to accompany Company Accounting 10e

Allotment

900 000

(being receipt of allotment money due) 1 Feb 2018

Call Share Capital

Dr Cr

1 800 000

Dr Cr

1 800 000

1 800 0000

(being first and final call for $3) To 1 March

Cash Call

1 800 000

(being receipt of call money)

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Chapter 2: Financing company operations

Question 2.4

Calls on different classes of shares, forfeiture and reissue

Share capital of Oak Ltd at 31 March 2017 was as follows: 300 000 ordinary shares at an issue price of $4 each paid to $2.50, and 100 000 preference shares at an issue price of $4 each paid to $2. At that date, a further call of $1.50 on ordinary shares and $2 on preference shares was made. During the 3 months to 30 June 2017, all calls were duly received except those on 5000 preference shares which were forfeited as at 30 June 2017. To bring capital back to the original amount of issued capital, the forfeited shares were offered to an investment company at a price of $3.50 per share paid to $4 and the transfer was completed on 30 September 2017. According to the company’s constitution, shareholders’ equity in forfeited shares must be refunded to them. On 31 October, the previous owner of forfeited shares received a refund cheque for the amount due, less selling costs of $720. Required Show journal entries to implement the above transactions. OAK LTD General Journal 2017 March 31

June 30

Sept 30

Call - Ordinary Call - Preference Share Capital - Ordinary Share Capital - Preference (Call of $1.50 on ordinary shares and $2 on preference shares)

Dr Dr Cr Cr

450 000 200 000

Cash Dr Call - Ordinary Cr Call - Preference Cr (Receipt of $1.50 call on 300 000 ordinary shares and $2 call on 95 000 preference shares)

640 000

Share Capital - Preference Call - Preference Forfeited Shares Liability (Forfeiture of 5 000 preference shares for non-payment of $2 per share call)

Dr Cr Cr

20 000

Cash Forfeited Shares Liability Share Capital - Preference (Reissue of 5 000 preference

Dr Dr Cr

17 500 2 500

450 000 200 000

450 000 190 000

10 000 10 000

20 000

2.17

Solution Manual to accompany Company Accounting 10e

shares for $3.50, paid to $4)

Oct 31

Forfeited Shares Liability Cash (Expenses of reissue)

Dr Cr

720

Forfeited Shares Liability Cash (Refund to former shareholders)

Dr Cr

6 780

720

6 780

2.18

Chapter 2: Financing company operations

Question 2.5

Issue of shares by instalment; ledger accounts

On 30 September 2016, Jacaranda Ltd issued a prospectus calling for applications for 600 000 ordinary shares at an issue price of $3, payable $1.50 on application and $1.50 on allotment. By the closing date of 31 October 2016, the company had received the following application money: From applicants for 500 000 shares From applicants for 120 000 shares

750 000 360 000

On 15 November, it was decided to allot to applicants who paid more than the application money the number of shares applied for, and to applicants who paid only the application money 480 000 shares. Application money was refunded to 20 000 unsuccessful applicants. The constitution gives the directors the power to apply excess application money to allotment. All other allotment money was received by 31 December 2016. Required Prepare the necessary ledger accounts to record the above transactions. JACARANDA LTD General Ledger Cash Trust 31/10/16

Application

1 110 000 15/11/16 15/11/16

Application Cash

1 110 000

30 000 1 080 000 1 110 000

Application 15/11/16

Share Capital

900 000 31/10/16

15/11/16

Allotment

180 000

15/11/16

Cash Trust

30 000

Cash – Trust

1 110 000

Share Capital 15/11/16

Appl’n & Allot.

1 800 000

Application

180 000

Allotment 15/11/16

Share Capital

900 000 15/11/16

2.19

Solution Manual to accompany Company Accounting 10e

31/12/16

Cash

900 000

720 000 900 000

Cash 15/11/16

Cash Trust

31/12/16

Allotment

1 080 000 31/12/16

Balance c/d

720 000 1 800 000

31/12/16

Balance b/d

1 800 000 1 800 000

1 800 000

2.20

Chapter 2: Financing company operations

Question 2.6

Rights issues and private placements

The equity of Ash Ltd on 30 June 2017 was: Share capital (issued at $4, fully paid) Asset revaluation surplus Retained earnings

1 200 000 700 000 400 000

The following transactions occurred during the year ended 30 June 2018. 1. On 1 August 2017, a 1-for-4 rights offer was made to existing shareholders. The issue price was $4 per share payable in full on allotment, and rights were transferable. Shares issued under the offer were to rank equally with existing shares as from 1 August 2017. The issue was underwritten for a commission of $8000. The issue closed fully subscribed on 31 August, the holders of 50 000 shares having transferred their rights. Directors proceeded to allotment. The underwriting commission was paid on 7 September. 2. On 1 March 2018, 220 000 shares were privately placed with Blossom Investments Ltd at $4 per share. Required A. Prepare general journal entries to record the above transactions. B. Prepare the equity section of the statement of financial position as it would appear at 30 June 2018, assuming a profit for the year of $50 000. ASH LTD General Ledger A. (1) 2017 Aug 31

Cash

Dr Cr

300 000

Share Issue Costs/Share Capital Cash (Payment of underwriting commission)

Dr Cr

8 000

Cash

Dr Cr

880 000

Share Capital (Rights issue for 75 000 shares issued for $4) Sept 7

(2) 2018 March 1

Share Capital (Private placement of 220 000 shares at $4 each with Blossom Investments Ltd)

300 000

8 000

880 000

2.21

Solution Manual to accompany Company Accounting 10e

B. ASH LTD EQUITY (as at 30 June 2018) Contributed equity: 595 000 ordinary shares issued for $4 less Share issue costs (underwriting) Revaluation Reserve/Surplus Retained Earnings

$2 380 000 8 000

$2 372 000 700 000 450 000 $3 522 000

2.22

Chapter 2: Financing company operations

Question 2.7

Unsecured notes, issue and redemption

On 1 July 2016, Beech Ltd issued a prospectus inviting applications for 1000 7.5% unsecured notes of $200 each, payable in full on application. By 31 August, the company received applications for 920 of the notes and they were subsequently allotted. The notes were classified as a liability in the financial statements. On 30 June 2019, the company decided to redeem the notes in cash on the open market, at a premium of $4 per note. Required Ignoring interest, prepare the ledger accounts to record the above transactions. BEECH LTD A. Cash Trust 31/8/16

Application – Notes

184 000 31/8/16

Cash

184 000

Cash (extract) 31/8/16

Cash Trust

184 000 30/6/19

Unsecured notes and redemption expense

187 680

Application - Notes 31/8/16

Unsecured Notes

184 000 31/8/16

Cash Trust

184 000

Unsecured Notes 30/6/19

Cash

184 000 31/8/16

Application

184 000

Expense on Redemption 30/6/19

Cash

3 680

2.23

Solution Manual to accompany Company Accounting 10e

Question 2.8

Forfeiture of shares

The notice shown below appeared in the Financial News on 1 October 2017. ARGAN NL Notice of Sale of Forfeited Shares

All shares on which the call of fifty cents per share, due for payment on 1 September 2017, remains unpaid, will be sold by public auction on 1 November 2017, at 11 a.m. at the Australian Securities Exchange, Sydney, NSW. Assume the following: • 1 000 000 shares were forfeited • the forfeited shares were all paid to $1.50 per share • all the shares were sold at the auction for $1.80 per share and will be credited to $2.00 • costs of forfeiture and reissue amounted to $4000 • the balance of the Forfeited Shares account will be refunded to the former shareholders. Required Discuss the benefits to a company from forfeiting and reissuing shares, and prepare journal entries to record the forfeiture and reissue above. The main benefit to a company for forfeiting and reissuing shares is to tidy up the share capital account and the share register. Shares are usually forfeited for non-payment of calls; hence, by forfeiting and reissuing these shares, the company can ensure that all shareholders are paid up to the same amount on their shares. This makes it easier in the future when dividends are declared on a per share basis in that all shareholders are paid up to the same amount and no proportionate dividends need to be calculated. ARGAN NL General Journal 2017

1 Nov

Share Capital Dr Call Cr Forfeited Shares Liability Cr (Forfeiture of 1 000 000 shares called to $2 for non-payment of 50c call)

2 000 000

Cash Dr Forfeited Shares Liability Dr Share Capital Cr (Reissue of forfeited shares at public auction for $1.80, paid to $2)

1 800 000 200 000

Forfeited Shares Liability Dr Cash Cr (Expenses of forfeiture and reissue)

4 000

500 000 1 500 000

2 000 000

4 000

2.24

Chapter 2: Financing company operations

Forfeited Shares Liability Cash (Refund to former shareholders)

Dr Cr

1 296 000 1 296 000

2.25

Solution Manual to accompany Company Accounting 10e

Question 2.9

Oversubscription and payment by instalments

The equity balances for Acacia Ltd at the 1 July 2018 comprised the following: Share capital (All ordinary shares, issued and paid to $5, less issue costs of $12 000) Retained earnings

$2 988 000 $7 600 400 $10 588 400

On 1 October 2018, Acacia Ltd issued a prospectus for applications for 200 000 ordinary shares to the public at an issue price of $7, payable $2.50 on application, $1.50 on allotment and the remaining $3 in future call(s) as determined by the directors. By 1 December applications had been received for 240 000 ordinary shares with $2.50 attached. At a directors’ meeting on 5 December, it was decided to reject applications for 40 000 shares and issue shares to the remaining applicants. Share issue costs of $4000 were paid on 5 December. All outstanding allotment money was received by the 1 January 2019. The first call for $2 was made on 1 February 2019 with all money received by 20 February. The final call for $1 was made on 20 June 2019. At 30 June 2019 this call money had not been received in relation to 25 000 shares. Required A. Prepare the journal entries to record the transactions of Acacia Ltd as outlined above. (Show all workings.) B. Calculate the amount of share capital in the statement of financial position of Acacia Ltd as at 30 June 2019 (Show all workings.) C. How would your answers to requirements A and B change if: By 1 December applications had been received for 240 000 ordinary shares of which applicants for 80 000 shares forwarded $4 per share, and the remainder paying only the application money. At a directors’ meeting on 5 December, it was decided to allot shares applicants who had paid $4, and to reject applications for 40 000 shares where applicants had only forwarded $2.50 on application. According to the company’s constitution, all surplus money from application can be transferred to Allotment and/or Call accounts.

ACACIA LTD (i)

2018 To 1 Dec

Cash Trust Application

Dr Cr

600 000

Application

500 000

Allotment

300 000

600 000

(being receipt of applications)

5 Dec

Share Capital

800 000

2.26

Chapter 2: Financing company operations

(being issue of shares)

Application

Cash Trust

100 000 100 000

(being refund to unsuccessful applicants) Share Capital/Share Issue Costs Cash/Payables

4 000

(being payment of share issue costs) Cash

Cash Trust

500 000

(transfer of application money) 2019 To 1 Jan

1 Feb

Cash Allotment

Dr Cr

(being receipt of allotment money due) Call Dr Share Capital Cr

300 000 300 000

400 000 400 000

(being first call for $2)

To 20 Feb

Cash Call

Dr Cr

400 000

Dr Cr

200 000

Dr Cr

175 000

400 000

(being receipt of call money)

20 June

Second (or Final) Call Share Capital

200 000

(being final call for $1)

To 30 June

Cash Second (or Final) Call

175 000

(being receipt of call money)

2.27

Solution Manual to accompany Company Accounting 10e

(ii) The amount of share capital in the statement of financial position of Acacia Ltd as at 30 June 2019 is $4,659,000. Beg balance $2,988,000 + new share issue 1,400,000 (200,000 * $7) -less costs (4,000) -less calls in arrears (25,000) Total $4,359,000 (iii) Entries changed as below. (Note: the entries for calls would not change; nor would the total amount of share capital at 30 June 2019). 2018 To 1 Dec

Cash Trust Application

Dr Cr

720 000

Application

500 000

Allotment

300 000

Share Capital

720 000

(being receipt of applications 80,000 * $4 + 160,000* 2.50) 5 Dec

800 000

(being issue of shares)

Application

Allotment

120 000 120 000

(transfer of allotment monies received on application) Application

Cash Trust

100 000 100 000

(being refund to unsuccessful applicants) Share Capital/Share Issue Costs Cash/Payables

4 000

(being payment of share issue costs) Cash

620 000

2.28

Chapter 2: Financing company operations

Cash Trust

620 000

(transfer of application money) 2019 To 1 Jan

Cash Allotment

Dr Cr

180 000 180 000

(being receipt of allotment money due)

2.29

Solution Manual to accompany Company Accounting 10e

Question 2.10

Issue by instalments, oversubscription, forfeiture and reissue

On 1 April 2016, Magnolia Ltd was incorporated and a prospectus was issued inviting applications for 100 000 shares, at an issue price of $10, payable $5 on application, $2.50 on allotment and $1.25 on each of two calls to be made at intervals of 4 months after the date of allotment. By 30 April, applications were received for 120 000 shares. On 3 May, the directors allotted 100 000 ordinary shares to the applicants in proportion to the number of shares for which applications had been made. The surplus application money was offset against the amount payable on allotment. The balance of the allotment money was received by 10 May. Legal costs of forming the company were $1300 and were paid on 11 May. Share issue costs of $800 were also paid on the same date. The two calls were made on the dates stated in the prospectus, but the holders of 10 000 shares did not pay either call. In addition, a holder of another 5000 shares did not pay the second call. On 10 March 2017, as provided by the company’s constitution, the directors forfeited the 15 000 shares on which calls were unpaid. On 25 March 2017, the forfeited shares were reissued as fully paid for a consideration of $9 per share. Costs of forfeiture and reissue amounted to $250. The constitution does not provide for refund of any balance in the forfeited shares account after reissue to former shareholders. Required A. Prepare ledger accounts to record the above transactions. B. Prepare the equity section of Magnolia’s statement of financial position on completion of the transactions. MAGNOLIA LTD General Ledger

30/4/16

3/5/16 3/5/16

3/5/16

10/3/17

Cash Trust 600 000 3/5/16

Application

Share capital Allotment

Share capital

Calls & Forfeited Shares Reserve

Application 500 000 30/4/16 100 000 600 000

Allotment 250 000 3/5/16 10/5/16 250 000

Share Capital 3/5/16 150 000 3/9/16

Cash

600 000

Cash Trust

600 000 600 000

Application Cash

100 000 150 000 250 000

Applic. & allot First call

750 000 125 000

2.30

Chapter 2: Financing company operations

25/3/17

Balance c/d

1 000 000 3/1/17 25/3/17

Second call Cash & Forfeited Shares Reserve

1 150 000 25/3/17

3/5/16

Cash Trust

Cash 600 000 11/5/16

10/5/16 --/9/16

Allotment First Call

150 000 11/5/16 112 500 25/3/17

25/1/17 25/3/17

Second Call Share Capital

106 250 25/3/17 135 000 1 103 750 1 101 400

25/3/17

11/5/16

Balance b/d

Formation Costs Exp Share Issue Costs Forfeited Shares Reserve Balance c/d

Cash

1 150 000 1 000 000

1 300 800 250 1 101 400 1 103 750

Formation Costs Expense 1 300 P&L

1 300

Share Issue Costs 800

Cash

3/9/16

Share Capital

3/1/17

Share Capital

25/3/17 25/3/17 25/3/17

Balance b/d

125 000 150 000

Share Capital Cash (costs) Balance c/d

First Call 125 000 --/9/16 10/3/16 125 000

Cash Share Capital

112 500 12 500 125 000

Second Call 125 000 --/1/17 10/3/17 125 000

Cash Share Capital

106 250 18 750 125 000

Forfeited Shares Reserve 15 000 10/3/17 Share Capital 250 103 500 118 750 25/3/17 Balance b/d

118 750

118 750 103 500

2.31

Solution Manual to accompany Company Accounting 10e

B. MAGNOLIA LTD Equity (as at 25 March 2017) Contributed equity: (100 000 shares paid to $10) Less Share issue costs Reserves [Forfeited shares] Retained earnings [formation costs] Total Equity

$1 000 000 800

$999 200 103 500 (1 300) $1 101 400

2.32

Chapter 2: Financing company operations

Question 2.11

Oversubscription, with excess money received on application

On 1 August 2018, Prunus Ltd issued a prospectus inviting applications for 800 000 ordinary shares to the public at an issue price of $12, payable as follows: $4 on application (due by closing date of 1 November) $5 on allotment (due 1 December) $3 on future call/calls to be determined by the directors By 1 November, applications had been received for 860 000 ordinary shares of which applicants for 100 000 shares forwarded the full $12 per share, applicants for 300 000 shares forwarded $9 per share and the remainder forwarded only the application money. At a directors’ meeting on 7 November, it was decided to allot shares in full to applicants who had paid the either $12 or $9 on application, to reject applications for 20 000 shares and to proportionally allocate shares to all remaining applicants. According to the company’s constitution, all surplus money from application can be transferred to Allotment and/or Call accounts. Share issue costs of $11 000 were also paid on 7 November. All outstanding allotment money was received by the due date. A first call for $1.60 was made on 1 February 2019 with money due by 1 March. All money was received by the due date. A second and final call for $1.40 was made on 1 June with money due by 18 June. All money was received by the due date. Required Prepare the journal entries to record these transactions of Prunus Ltd. (Show all workings.) PRUNUS LTD General Journal 2018 To 1 November 15

Cash Trust Application

5 740 000

(Cash received on application) November 7

Application Cash Trust

80 000

(Refund to 20 000 applicants) Application

3 200 000

Allotment

4 000 000

Share Capital

7 200 000

(Allotment of 800 000 shares) © John Wiley and Sons Australia, Ltd 2015

2.33

Solution Manual to accompany Company Accounting 10e

Cash

Cash Trust

5 660 000

(Transfer of trust funds) Application *

2 460 000

Allotment

2 160 000

Calls in Advance

300 000

(Allocation of application across allotment and calls in advance) * refer to workings table at end of solution Share Issue Costs/Share Capital Dr Cash

11 000

(Payment of share issue costs $11 000) December 1

Cash

Allotment

1 840 000

(Cash received on allotment) 2019 February 1

Call 1

Share Capital

1 280 000

(Call of $1.60 per share) Calls in Advance Call 1

160 000

(Transfer of calls received in advance) March 1

Cash

Call 1

1 120 000

(Cash received on 700 000 shares) June 1

Call 2

1 120 000

2.34

Chapter 2: Financing company operations

Share Capital

1 120 000

(Call of $1.40 per share) Calls in Advance Call 2

140 000

(Transfer of calls received in advance) June 28

Cash

Call 2

980 000

(Cash received on 700 000 shares) Workings Allocation of money received on application No. of Shares applied for 100 000 300 000 440 000 20 000 860 000

No. of Shares Allotted 100 000 300 000 400 000 0 800 000

Money Received

Application $4

Allotment $5

Call 1 $1.60

Call 2 $1.40

1 200 000 2 700 000 1 760 000 80 000 $5 740 000

400000 1 200 000 1 600 000

500 000 1 500 000 160 000

160 000 -

140 000

$3 200 000

$2 160 000

$160 000

$140 000

2.35

Solution Manual to accompany Company Accounting 10e

Question 2.12

Oversubscription with pro rata allotment, and forfeiture

On 1 July 2017, Gum Ltd was registered and offered 1 000 000 ordinary shares to the public at an issue price of $6, payable as follows: $3 on application (due 15 August) $2 on allotment (due 15 September) $1 on final call The issue was underwritten at a commission of $8000. By 15 August, applications had been received for 1 200 000 ordinary shares of which applicants for 200 000 shares forwarded the full $6 per share, the remainder paying only the application money. At a directors’ meeting on 16 August, it was decided to allot shares in full to applicants who had paid the full amount and proportionally to all remaining applicants. According to the company’s constitution, all surplus money from application can be transferred to Allotment and/or Call accounts. The underwriting commission was paid on 28 August. Other share issue costs of $6000 were also paid on this date. All outstanding allotment money was received by the due date. The final call was made on 1 November with money due by 30 November. All money was received on the due date except for the holder of 30 000 shares who failed to meet the final call. On 7 December, as provided for in the constitution, the directors decided to forfeit these shares. They were reissued, on 15 December, as paid to $6 for $5.60 cash. The balance of the Forfeited Shares account was returned to the former shareholder on 16 December. Required Prepare the journal entries to record the transactions of Gum Ltd up to and including that which took place on 16 December 2017. (Show all workings.) GUM LTD General Journal 2017 August 15

Cash Trust Application

4 200 000

(Cash received on application) August 16

Application

3 000 000

Allotment

2 000 000

Share Capital

5 000 000

(Allotment of 1 000 000 shares) Cash

Cash Trust

4 200 000 4 200 000

2.36

Chapter 2: Financing company operations

(Transfer of trust funds) Application *

1 200 000

Allotment

1 000 000

Calls in Advance

200 000

(Allocation of application across allotment and calls in advance) August 28

Share Issue Costs/Share Capital Dr Cash

14 000

(Payment of underwriting commission and other share issue costs [$8 000 + $6 000]) September 15

Cash

Allotment

1 000 000

(Cash received on allotment) 2017 November 1

Call

Share Capital

1 000 000

(Call of $1 per share) Calls in Advance Call

200 000

(Transfer of calls received in advance) November 30

Cash

Call

770 000

(Cash received on 770 000 shares) December 7

Share Capital

180 000

Call

30 000

Forfeited Shares Liability

150 000

(Forfeiture of 30 000 shares)

2.37

Solution Manual to accompany Company Accounting 10e

December 15

Cash

168 000

Forfeited Shares Liability

12 000

Share Capital

180 000

(Reissue of shares forfeited) December 16

Forfeited Shares Liability

Cash

138 000

(Refund to former shareholders)

Workings Allocation of money received on application No. of Shares applied for 200 000 1 000 000 1 200 000

No. of Shares Allotted 200 000 800 000 1 000 000

Money Received

Application

Allotment

Call

1 200 000 3 000 000 $4 200 000

600 000 2 400 000 $3 000 000

400 000 600 000 $1 000 000

200 000 $200 000

2.38

Chapter 2: Financing company operations

Question 2.13

Ordinary shares, redeemable preference shares and options

Prepare ledger accounts to record the following transactions for Poplar Ltd, ignoring preference share interest payments: 2015 July

21 31 Aug. Dec.

14 1

2018 March

March

April

May

A disclosure document was issued inviting applications for 100 000 ordinary shares at an issue price of $3, payable in full on application. The disclosure document also offered 50 000 10% redeemable preference shares at $2, fully payable on application. The issue was underwritten at a commission of $6500. Applications closed with the ordinary issue oversubscribed by 20 000 and the preference shares undersubscribed by 15 000. All shares were allotted with application money being refunded to unsuccessful applicants for ordinary shares. The underwriter paid amounts due less commission. The directors resolved to give each ordinary shareholder, free of charge, one option for every two shares held. The options are exercisable on 1 May 2018 and allow each holder to acquire one ordinary share at an exercise price of $2.70. Options not exercised on that date will lapse. A disclosure document was issued inviting applications for 100 000 ordinary shares at an issue price of $2.50, payable in full on application. The main purpose of the issue was to fund the redemption of the preference shares. The issue was fully subscribed and all money due was received. The shares were then allotted. The preference shares were redeemed at a price of $2.10 per share. The shares had been classified as equity in the financial statements. The holders of 35 000 options elected to exercise those options and 35 000 ordinary shares were issued and cash received. All other options lapsed. POPLAR LTD

31/5/18

Share Capital - Ordinary 644 500 31/7/15 Application - ord 31/3/18 Application -ord

Balance c/d

1/5/18

Cash - ord

31/5/18

Balance b/d

644 500

10/4/18

Shareholders’ redemption

Share Capital - Preference 100 000 31/7/15 Application - pref

300 000 250 000 94 500 644 500 644 500

100 000

2.39

Solution Manual to accompany Company Accounting 10e

21/7/15 21/7/15

Application - ord Application - pref

31/3/18

Application - ord

31/7/15 31/7/15 31/3/18

31/7/15

Share capital - ord Cash trust (refund) Share capital - ord

Share capital - pref

31/7/15

Cash trust

14/8/15 31/3/18 1/5/18

Application - pref Cash trust Share Capital - ord

14/8/15

10/4/18

Application - pref

Cash

Cash Trust 360 000 31/7/15 Application - ord 70 000 31/7/15 Cash 430 000

60 000 370 000 430 000

250 000 31/3/18 250 000

250 000 250 000

Cash

Application – Ordinary 300 000 21/7/15 Cash trust 60 000 360 000 250 000 31/3/18 Cash trust

Application - Preference 100 000 21/7/15 Cash Trust 14/8/15 Cash and share issue costs 100 000

Cash (extract) 370 000 10/4/18 Shareholders’ redemption 23 500 250 000 94 500

360 000 360 000 250 000

70 000 30 000 100 000

105 000

Share Issue Costs 6 500

Shareholders’ Redemption 105 000 10/4/18 Share capital -pref and retained earns.

105 000

2.40

Chapter 2: Financing company operations

10/4/18

Shareholders’ redemption

Retained Earnings (extract) 5 000

2.41

Solution Manual to accompany Company Accounting 10e

Question 2.14

Debentures issue and redemption

A prospectus was issued by Birch Ltd on 1 November 2016, inviting applications for 5000 9% $200 debentures, payable $150 on application and $50 on allotment. The terms of the prospectus were such as to give the company the option to redeem the debentures at 1 month’s notice, providing a 12% premium was paid. If the company chose not to exercise this option for a period of 5 years, then the company could redeem them at nominal value. The market interest rate for debentures of similar risk was 9%. Applications for 5300 debentures were received by 24 November. The debentures were allotted on 30 November, with excess application money being refunded to the unsuccessful applicants. All allotment money was received on 31 December. Interest was payable half-yearly on 30 June and 31 December. On 1 November 2018, the company purchased 800 of the debentures on the open market for $180 each. Brokerage and stamp duty amounted to $210. On 1 September 2019, the company gave notice to the holders of 3000 debentures of redemption on 31 October 2019. These were subsequently redeemed on 31 October, and appropriate interest was paid. The balance of debentures was redeemed in due course on 30 November 2021. Required Provide general journal entries for the above transactions. Include entries for halfyearly interest payments. Assume the end of the reporting period is 30 June. BIRCH LTD 2016 to Nov 24 Cash Trust Dr Application - Debentures Cr (Cash received on 5 300 $200 debentures payable $150 on application) Nov 30

Nov 30

Dec 31

795 000 795 000

Application - Debentures Debenture Holders Debentures (Allotment of debentures)

Dr Dr Cr

750 000 250 000

Application - Debentures Cash Trust (Refund to unsuccessful applicants)

Dr Cr

45 000

Cash Cash Trust (Transfer from trust account)

Dr Cr

750 000

Cash Debenture Holders (Cash received on allotment)

Dr Cr

250 000

Interest Expense Cash

Dr Cr

5 625

1 000 000

45 000

750 000

250 000

5 625

2.42

Chapter 2: Financing company operations

(Interest paid on debentures: $750 000 x 0.09 x 1/12) 2017 June 30 & Interest Expense Dr Dec 31 Cash Cr (Interest on $1 000 000 @ 9% for each ½ year) 2018 June 30

Nov 1

Dec 31

2019 June 30

Oct 31

Dec 31

45 000 45 000

Interest Expense Dr Cash Cr (Interest on $1 000 000 @ 9% for ½ year)

45 000

Debentures Interest Expense Income on Redemption of Debs. Cash (Redemption of 800 debentures on the open market for $180 each, and interest expense for four months)

Dr Dr Cr Cr

160 000 4 800

Brokerage and Stamp Duty Expense Cash (Brokerage and stamp duty on open market redemption)

Dr Cr

210

45 000

20 800 144 000

210

Interest Expense Dr Cash Cr (Interest on 4,200 debentures @ 9% for ½ year)

37 800

Interest Expense Dr Cash Cr (Interest on 4,200 debentures @ 9% for ½ year)

37 800

Debentures Interest Expense Expense on Redemption of Debs. Debenture Holders (Redemption of 3 000 $200 debentures for $224 each, and interest expense for four months)

Dr Dr Dr Cr

600 000 18 000 54 000

Debenture Holders Cash (Cash paid)

Dr Cr

672 000

Interest Expense

10 800

37 800

672 000

2.43

Solution Manual to accompany Company Accounting 10e

Cash (Interest on 1 200 $200 debentures for six months at 9%)

2020 June 30 & Interest Expense Dec 31 Cash (Interest on 1 200 $200 debentures for ½ year at 9%) 2021 June 30

Nov 30

10 800

Dr Cr

10 800

Dr Cr

10 800

Debentures Dr Interest Expense Dr Debenture Holders Cr (Redemption of 1 200 $200 debentures at nominal value, and interest expense for five months)

240 000 9 000

Debenture Holders Cash (Cash paid)

249 000

Interest Expense Cash (Interest on 1 200 $200 debentures for 2/1 year at 9%)

Dr Cr

10 800

249 000

2.44

Chapter 2: Financing company operations

Question 2.15

Shares, debentures and options

At 30 June 2016, the trial balance of Evergreen Ltd contained the following. EVERGREEN LTD Trial Balance as at 30 June 2016 Current assets Plant and equipment (net) Goodwill Retained earnings Accounts payable 10% unsecured notes Share capital 80 000 preference shares issued at $10, paid to $5 1 100 000 ordinary shares issued at $2, paid to $1

300 000 820 000 320 000 900 000 $

2 340 000

340 000 500 000 400 000 1 100 000 2 340 000

After a number of years of unprofitable trading, the company underwent the following restructure to improve its financial position: 1. A call of $5 per share was made on the issued preference capital and a call of $1 on each of the ordinary shares. All call money was duly received. 2. The ordinary shareholders were given the following options: • A rights issue of 1 ordinary share, at an issue price of $2, payable in full on application, for every 10 shares held. • To apply for one $50 7% debenture for every 100 shares held. These were payable in full on application. Holders of 600 000 shares chose the first option and holders of 500 000 shares chose the second option. All money was received when due. Required Prepare general journal entries to record the above events. EVERGREEN LTD General Journal 1.

Call - Preference Call - Ordinary Share Capital - Preference Share capital - Ordinary (Call of $5 on 80 000 preference shares and $1 call on 1 100 000 ordinary shares)

Dr Dr Cr Cr

400 000 1 100 000

Cash Call - Preference Call - Ordinary (Receipt of calls)

Dr Cr Cr

1 500 000

Cash Share Capital - Ordinary

Dr Cr

120 000

400 000 1 100 000

120 000

2.45

Solution Manual to accompany Company Accounting 10e

(Cash on 60 000 shares under rights issue) Cash Trust Application - Debentures (Cash on 5 000 $50 debentures payable in full on application)

Dr Cr

250 000

Application - Debentures Debentures (Issue of 5 000 $50 debentures)

Dr Cr

250 000

Cash Cash Trust (Transfer from trust account)

Dr Cr

250 000

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Chapter 2: Financing company operations

Question 2.16

Share buy-back

Wattle Ltd decided to repurchase 250 000 of its ordinary shares under a buy-back scheme for $5.70 per share. At the date of the buy-back, the equity of Wattle Ltd consisted of: Share capital (3 000 000 shares fully $ paid) General reserve Retained earnings

6 000 000 680 000 1 230 000

The costs of the buy-back scheme amounted to $3800. Required A. Prepare the journal entries to account for the buy-back, assuming: (i) that the original amount of the shares is eliminated from Share Capital, and then any remaining buy-back price adjusted equally against the General Reserve and Retained Earnings accounts. (ii) that the buy-back is not adjusted against share capital, but is adjusted firstly against the General Reserve account, then any remaining against the Retained Earnings account. B. Assume now that the buy-back price per share was equal to $2.60 and that the company had no General Reserve account, and retained earnings of only $520 000. Further, assume that the company accounts for share buy-backs against retained earnings first. Prepare journal entries to record the share buy-back. WATTLE LTD General Journal A. (i)

(ii)

General Reserve Retained Earnings Share Capital Cash (Repurchase of 250 000 ordinary shares under a buy-back scheme plus costs)

Dr Dr Dr Cr

464 400 464 400 500 000

General Reserve Retained Earnings Cash (Repurchase of 250 000 ordinary shares under a buy-back scheme plus costs)

Dr Dr Cr

680 000 748 800

Retained Earnings Dr Share Capital Dr Cash Cr (Repurchase of 250 000 ordinary shares under a buy-back scheme plus costs)

520 000 133 800

1 428 800

653 800

2.47

Solution Manual to accompany Company Accounting 10e

Question 2.17

Series of independent situations

Prepare journal entries to implement the following independent decisions: 1. To redeem out of retained earnings 150 000 preference shares, issued and paid to $2.50, at a price of $2.60. The preference shares had been treated as equity. 2. To redeem 150 000 preference shares, recorded as liabilities, fully paid at $1.50 each, for $1.60, this being funded by the issue of 240 000 ordinary shares at an issued price of $1 payable in full on application. Assume all shares were applied for and allotted. 3. To redeem 20 000 $50 debentures by purchasing them on the open market for $48 each. They were previously issued by the company at nominal value. 4. To issue 50 000 options, at an issue price of 75c per option. Each option allows the holder to subscribe for one ordinary share at an exercise price of $3.60 per share on or before 1 July 2017. 5. By 1 July 2017, 40 000 of the options issued in (4) above were exercised and shares were issued. The remaining options lapsed. 6. To issue 150 000 $25 debentures, payable in full on application. Applications were received for 180 000 debentures. Allocation was done on a first-come first-served basis and excess application money was refunded to unsuccessful applicants. 7. To convert $25 000 of 9% convertible notes. Holders of $20 000 of the notes do not wish to exercise their rights and request payment in cash, and holders of the remaining $5000 decide to convert on the basis of one ordinary share paid to 75c for each $1 note held. The company has recognised all of the notes as a liability. 8. To make a 1-for-4 rights issue at an issue price of $1.60 per share. Share capital before the issue consisted of 100 000 ordinary shares issued and paid to $1. All rights are exercised by the expiry date.

Share Capital - Preference Retained Earnings Shareholders’ Redemption (Redemption of 150 000 shares at price of $2.60)

Dr Dr Cr

375 000 15 000

Shareholders’ Redemption Cash (Payment on redemption)

Dr Cr

390 000

Retained Earnings Share Capital - Ordinary (Transfer against retained earnings)

Dr Cr

375 000

Cash Trust Application - Ordinary (Money received on application)

Dr Cr

240 000

Application - Ordinary Share Capital - Ordinary (Allotment of 240 000 shares)

Dr Cr

240 000

390 000

375 000

240 000

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Chapter 2: Financing company operations

Cash Cash Trust (Transfer on allotment)

Dr Cr

240 000

Preference Share Liability Redemption Premium Expense Shareholders’ Redemption (Redemption of 150 000 shares at a price of $1.60)

Dr Dr Cr

225 000 15 000

Shareholders’ Redemption Cash (Payment on redemption)

Dr Cr

240 000

Debentures Cash Income on Redemption of Debentures (Purchase of 20,000 $50 debentures for $48 each on stock exchange)

Dr Cr Cr

1 000 000

Cash Share Options (Issue of 50 000 share options at 75c each)

Dr Cr

37 500

Cash Share Capital – Ordinary (Issue of 40 000 ordinary shares as a result of 40 000 options exercised)

Dr Cr

144 000

Share Options Dr Share Capital – Ordinary Cr Lapsed Options Reserve Cr (Write-off of options exercised, and lapsed)

37 500

Cash Trust Dr Application - Debentures Cr (Cash received as $25 per debenture Application money on 180 000 debentures)

4 500 000

Application - Debentures Debentures (Issue of 150 000 $25 debentures)

Dr Cr

3 750 000

Cash Application - Debentures Cash Trust (Transfer on allotment and refund to unsuccessful applicants)

Dr Dr Cr

3 750 000 750 000

240 000

960 000 40 000

37 500

144 000

30 000 7 500

4 500 000

3 750 000

4 500 000

2.49

Solution Manual to accompany Company Accounting 10e

Convertible Note Liability Convertible Noteholders (Transfer to noteholders account)

Dr Cr

25 000

Convertible Noteholders Cash Share Capital (Conversion of 5,000 of convertible notes by cash payment and issue of 5 000 shares issued for $1 and paid to 75c each: fair value of notes redeemed)

Dr Cr Cr

25 000

Cash Share Capital (1 for 4 rights issue of 25 000 shares at $1.60)

Dr Cr

40 000

25 000

20 000 5 000

40 000

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Chapter 2: Financing company operations

Question 2.18

Shares, options and debentures

The share capital of Cedar Ltd on 30 June 2015 was: Share capital: 140 000 ‘A’ ordinary shares issued at $4, paid to $2.50 60 000 ‘B’ ordinary shares issued at $3, fully paid

$ 350 000 180 000 $ 530 000

Required Prepare journal entries to record the following transactions in the records of Cedar Ltd. 2015 Nov.

2016 Jan.

Feb.

Mar.

The company makes a 1-for-4 rights offer to its ‘B’ ordinary shareholders. The rights are renounceable and allow holders to obtain ‘B’ ordinary shares for $3.20 per share, payable in full on application. The holders of 44 000 ‘B’ ordinary shares accept the rights offer by the expiry date. The shares are duly allotted and all money is received. A call of $1.50 per share is made on all ‘A’ ordinary shares. All call money except that owing by the holder of 8000 shares is received by 31 January. Shares on which calls are unpaid are forfeited and cancelled, as per the company’s constitution. To assist with cash flow difficulties, the company issued a prospectus inviting offers for 80 000 options to acquire ‘A’ ordinary shares at an issue price of $1.20 per option, payable in full on application. Each option, exercisable on 31 December 2017, allows the holder to acquire one ‘A’ ordinary share for $3.60. Offers had been received for 60 000 options and these were duly allotted.

2017 Dec.

The holders of 45 000 options exercised their options and 45 000 ‘A’ ordinary shares were allotted. The remaining options lapsed. All money was received. Costs of issuing the shares, $3400, were paid on 31 January 2018.

2019 June

June

The company issued a disclosure document inviting applications for 1000 7% $100 debentures, payable in full on application. The debentures are redeemable at nominal value on 1 June 2022. Applications were received for all debentures which were duly allotted. Costs of debenture issue, $2100, were paid on 15 July.

2.51

Solution Manual to accompany Company Accounting 10e

CEDAR LTD General Journal 2015 Nov 30

2015 Jan 16

Jan 31

Feb 5

Mar 31

2017 Dec 31

Cash Share Capital - B Ordinary (Issue of 11 000 B ordinary shares at a price of $3.20 under a 1 for 4 rights issue)

Dr Cr

35 200

Call -A Ordinary Share Capital - A Ordinary (Call of $1.50 per share on 140 000 A Ordinary shares)

Dr Cr

210 000

Cash Call - A Ordinary (Cash received on call)

Dr Cr

198 000

Share Capital - A Ordinary Call - A Ordinary Forfeited Shares Reserve (Forfeiture and cancellation of 8 000 A ordinary shares)

Dr Cr Cr

32 000

Cash Share Options (Issue of 60 000 options exercisable on 31 December 2007)

Dr Cr

72 000

Cash Share Capital - A Ordinary (Issue of 45 000 A ordinary shares at $3.60 on exercise of 45 000 options)

Dr Cr

162 000

Share Options Share Capital – A Ordinary Lapsed Options Reserve (Write-off of options exercised and lapsed)

Dr Cr Cr

72 000

35 200

210 000

198 000

12 000 20 000

72 000

162 000

54 000 18 000

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Chapter 2: Financing company operations

2018 Jan 31

2019 June 30

July 15

Share Issue Costs/Share Capital Cash (Payment of share issue costs)

Dr Cr

3 400

Cash Trust Application - Debentures (Cash on 1000 $100 debentures payable in full on application)

Dr Cr

100 000

Application - Debentures Debentures (Issue of 1000 $100 debentures)

Dr Cr

100 000

Cash Cash Trust (Transfer from trust account)

Dr Cr

100 000

Debenture Issue Expenses Cash (Costs of debenture issue)

Dr Cr

2 100

3 400

100 000

2 100

2.53

Solution Manual to accompany Company Accounting 10e

Question 2.19

Calls on shares, forfeiture, issue and exercise of options, redemption of preference shares

Olive Ltd’s equity at 30 June 2016 was as follows: 400 000 ordinary shares, issued at $1.60, fully paid 500 000 ordinary shares, issued at $2, called to $1.20 180 000 redeemable preference shares, issued at $1, fully paid Calls in advance (10 000 ordinary shares) Share issue costs General reserve Retained earnings

$ 640 000 600 000 180 000 8 000 (7 000) 60 000 310 000

The following events occurred during the year ended 30 June 2017: 2016 July

Aug.

Sept.

Oct.

31 2017 Jan.

31 Feb.

5 18

April

26 15

The final call, due 31 August, was made on the partly paid shares. All call money was received, except for that due on 24 000 shares. In accordance with the constitution, the shares on which the call was unpaid were forfeited. The company is entitled to keep any balance from forfeiture of shares. The company offered ordinary shareholders 1 option (at a price of 80 cents per option) for every 5 shares held. Each option entitled the holder to buy 1 ordinary share at a price of $1.50 per share, exercisable on or before 15 April 2017. 70 000 options were taken up by shareholders, for which all money due was received. A prospectus was issued, inviting applications for 100 000 ordinary shares at an issue price of $2, payable in full on application. The purpose of the issue was to fund the redemption of the preference shares. The issue was underwritten at a commission of $6700. The issue closed fully subscribed, with all money due having been received. The 100 000 shares were allotted, and the underwriting commission was paid. The directors resolved to redeem the preference shares out of the proceeds of the January share issue for $1.06 per share. Cheques were issued to the preference shareholders. 52 000 shares were issued as a result of 52 000 options having been exercised, for which money had been received. The unexercised options lapsed.

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Chapter 2: Financing company operations

Required Prepare general journal entries to record the above transactions.

OLIVE LTD General Journal 2016 Jul 15

Aug 31

Sep 10

Oct 31

2017 Jan 31

Call - Ordinary Share Capital - Ordinary (Final call of 80c per share on 500 000 ordinary shares)

Dr Cr

400 000

Calls in Advance Call –Ordinary (Calls already received in advance cancelled against the call due)

Dr Cr

8 000

Cash Call – Ordinary (Cash received on 466 000 ordinary shares)

Dr Cr

372 800

Share Capital - Ordinary Call – Ordinary Forfeited Shares Reserve (Forfeiture of 24 000 ordinary shares for non-payment of 80c call, with the capital already paid in held as a reserve)

Dr Cr Cr

48 000

Cash Share Options (Issue of 70 000 options purchased at 80c each)

Dr Cr

56 000

Cash Trust Application – Ordinary (Cash trust money held on application for 100 000 ordinary shares @ $2 each)

Dr Cr

200 000

400 000

8 000

372 800

19 200 28 800

56 000

200 000

2.55

Solution Manual to accompany Company Accounting 10e

Feb 5

Feb 18

Feb 26

Apr 15

Application – Ordinary Share Capital – Ordinary (Issue of 100 000 ordinary shares)

Dr Cr

200 000

Cash Cash Trust (Transfer of cash)

Dr Cr

200 000

Share Issue Costs/Share Capital Cash (Underwriting commission paid)

Dr Cr

6 700

Share Capital – Preference Retained Earnings Shareholders Redemption (Redemption of 180 000 preference shares at $1.06 per share, out of the proceeds received from issue of ordinary shares)

Dr Dr Cr

180 000 10 800

Shareholders’ Redemption Dr Cash Cr (Payment to redeem preference shares)

190 800

Cash Share Capital – Ordinary (Issue of 52 000 ordinary shares @ $1.50 as a result of options exercised)

Dr Cr

78 000

Share Options Share Capital – Ordinary Lapsed Options Reserve (Write-off of share options @ 80c, with 52 000 being exercised and 18 000 lapsing)

Dr Cr Cr

56 000

200 000

6 700

190 800

78 000

41 600 14 400

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Chapter 3: Company operations

Chapter 3: Company operations REVIEW QUESTIONS EW QUESTIONS 1. Discuss the definition and essential characteristics of an asset. When should an asset be recognised? How should assets be measured? Three essential characteristics can be derived from the definition of assets in paragraphs 4.84.14 (53-59) of the Conceptual Framework. (i) A resource controlled by the entity, (ii) future economic benefits, (iii) past events. Refer section 3.1.1 of the chapter and these are discussed further below: Future economic benefit. (refer paragraphs 4.8- 4.11/53- 56) Possession of a right, or of a physical object, does not constitute an asset in the absence of future economic benefits (business entities—generation of cash flow, non-business— providing goods or services which satisfy the organisation's objectives). A machine that produces unwanted output and has no resale value is not an asset. Control (refer paragraphs 4.12- 4.13/57-58) Ownership or title to a physical item is not necessary for that item to qualify as an asset (for example, a leased asset). The issue is whether the entity can secure the benefits and deny access to others. Past transaction or event (refer paragraphs 4.13- 4.14/58- 59) A past transaction or event ensures that we count as assets only present capacity to obtain future benefits. Therefore, we exclude items that may provide future benefits because we have budgeted their acquisition but which are not presently controlled because acquisition has not yet occurred. Also note the fact in paragraph 59 of the Framework that incurring a cost is not a requirement for an asset. To be recognised (included in the financial statements) an item must meet the definition and recognition criteria. Paragraph 4.44/83 of the Conceptual Framework states that an asset should only be recognised when it is probable that any future economic benefit associated with the item will eventuate and that the asset possesses a cost or other value that can be reliably measured. It is expected that the notion of “a reliable measure” will be replaced by a “faithfully representative and verifiable measure” in the conceptual framework. Section 3.3.1 notes various measurement bases for assets. It is important to understand that the criteria requires a ‘cost or other value’, so do not need to be able to measure the value of the actual benefits to be received. Initially many assets are measured at cost, however subsequent to this different rules may apply depending on the nature of the asset. For example, inventory must be measured at lower of cost or net realisable value; certain non-current assets may remain measured at cost (subject to depreciation) or measured at fair value. Accounting standards may specify the measurement required for particular assets. If a choice of measurement is allowed this would © John Wiley and Sons Australia, Ltd 2015

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Solution Manual to accompany Company Accounting 10e

be an accounting policy choice and hence the measurement chosen should be one that provides relevant and reliable (representationally faithful) information (refer section 3.6). Section 3.1.2 of the chapter, discusses a proposed asset definition as outlined in the discussion paper, A Review of the Conceptual Framework for Financial Reporting. A new definition has been developed because of perceived shortcomings of the existing definition. The definition proposed is: a present economic resource controlled by the entity as a result of past events (para 2.11)

2. Ottowa Ltd was going through some difficult trading times and was barely breaking even. In attempting to improve sales, the company spent $500 000 on an advertising campaign during the current year in the hope that sales would improve in the new year. Management decided that the cost of this campaign should be recorded as an asset in order that the small current profit for the firm would not become a loss. Discuss whether management’s decision is justified. Advertising costs may be treated as an asset only if they satisfy the definition of an asset. Do they have the essential characteristics of an asset? Do they provide controlled future economic benefits flowing to the entity from a past event or events? Do they satisfy the proposed definition of an asset put forward by the IASB and as discussed in section 3.1.2 of the chapter? It is not sufficient to treat them as an asset merely to show a better profit figure. If advertising costs are not assets, then management’s decision is not justified. If they are assets, then the decision to treat them as an asset in the records will only be justified if the advertising costs satisfy the recognition criteria, i.e. is it probable that the advertising expenditure will lead to future economic benefits flowing to the entity, and can the costs be measured reliably? Discuss the meaning of “probable”. Note that in this case, there is a cost which can be reliably measured (i.e. a faithfully representative and verifiable cost).

3. What are the essential characteristics of a liability? When should liabilities be recognised in the accounting records, and what techniques should be used to measure them? The Conceptual Framework (4.4.b/49.b) defines a liability as: a present obligation of the entity arising from past events, the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits.

Three essential characteristics can be derived from the definition of liabilities in the Conceptual Framework, paragraphs (4.15-4.19/60-64). (a) present obligation to make an outflow of resources, (b) future outflows of economic benefits, (c) past transactions or other past events. See section 3.1.3 of the chapter. Discussed further as below: Essential characteristics of liability are: 1. Future outflows of economic benefits

3.2

Chapter 3: Company operations

Note: Liabilities can be settled by transfer of assets of any type (cash not the only asset—say deliver goods that have been pre-paid) or by provision of services and the fact that the amount of the liability is not certain (for example, warranty obligations, long service leave) does not preclude recognition as a liability. This actually falls under the reliability of measurement rule. 2. Present obligation to make an outflow of resources Essential notion is that the entity is presently obligated and cannot avoid settling the obligation—there is no reasonable alternative other than to settle. The obligation may be enforceable from legal sources such as contract or legislation administrative regulation, or it may be constructive. Also note: This must involve an external party as cannot be ‘obligated’ to one-self. Hence setting aside reserves (for example, for major overhauls, renewals of plant, etc) does not constitute a liability. Further, decisions to acquire assets in the future do not give rise to liabilities unless there is an irrevocable agreement. 3. Past event This is required to ensure that only present obligations to make future outflows of economic resources are included as liabilities. The Conceptual Framework (4.38/91) specifies two criteria which must be satisfied before an item that meets the definition (such as a liability) can be recognised – (a) it is probable that any future economic benefit associated with the item will flow to or from the entity; and (b) the item has a cost or value that can be measured with reliability. “Probable” in this context means that the future outflow of economic benefits is more likely than less likely, i.e. a greater than 50% probability. It is expected that the notion of “a reliable measure” will be replaced by a “faithfully representative and verifiable measure” in the conceptual framework. Most liabilities are measured at nominal value, however for particular liabilities like long service leave entitlements for employees and certain lease liabilities, the discounted present value method is used. Other possible measurement suggestions are “value to the entity” and “discharge price”. Note measurement may involve the use of estimates. See section 3.3.2 of the chapter for further discussion of measurement methods. See also section 3.1.4 of the chapter which discusses possible changes to the definition of a liability.

4. What are the essential characteristics of equity? Equity is defined in the Conceptual Framework (paragraph 4.4/49(c)), as ‘the residual interest in the assets of the entity after deducting all its liabilities’. Equity as such is not a stand-alone concept but a ‘residual’, determined by subtracting recognised liabilities from recognised assets.

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Solution Manual to accompany Company Accounting 10e

5. Explain what is meant by the term recognition. Are all items that meet the definition of an element of the financial statement always recognised? Discuss how the proposed changes to the recognition criteria in the 2013 Discussion Paper, A Review of the Conceptual Framework for Financial Reporting, could impact on recognition of items. Recognition is outlined in the Conceptual Framework (4.37/ 82): Recognition is the process of incorporating in the balance sheet or income statement an item that meets the definition of an element and satisfies the criteria for recognition set out in paragraph 83. It involves the depiction of the item in words and by a monetary amount and the inclusion of that amount in the balance sheet or income statement totals. Items that satisfy the recognition criteria should be recognised in the balance sheet or income statement. The failure to recognise such items is not rectified by disclosure of the accounting policies used nor by notes or explanatory material.

Hence recognition is inclusion of an item in a financial statement. This can be contrasted with disclosure which normally means that information is included (disclosed) either in the statements or in the notes to the accounts. Not all items that meet the definition will be recognised as the Conceptual Framework (4.38/ 83) requires that the following criteria be met before an element can be recognised: An item that meets the definition of an element should be recognised if: (a) it is probable that any future economic benefit associated with the item will flow to or from the entity; and (b) the item has a cost or value that can be measured with reliability.

For example, a company may have an item that meets the definition of a liability but not the recognition criteria (for example, has been found liable in a court case but the amount to be paid has not yet been determined and cannot be estimated). In such cases the relevant standard (AASB 137) requires disclosure of the item. As this does not meet both the definition and recognition criteria it cannot be included on the face of the financial statements. However information about this item would be disclosed separately in the notes Section 3.2.1 discusses the recognition criteria proposed in the 2013 discussion paper. The significant change proposed is to abolish probability as recognition criteria. The existing recognition criteria of probability means that any elements where there is less than 50% likelihood of outflows being required to be made/or economic benefits being received are excluded from recognition (subject to the requirements of specific standards). The abolition of the probability threshold could result in such items being included and probability of inflows/outflows would be reflected in the measurement. Recognition would be subject to the cost constraint and considerations of relevance and faithful representation.

6. As maintenance costs on equipment have been steadily rising every year, Brasilia Ltd has been setting aside regularly a provision for plant maintenance at an increasing amount. The provision has been recorded as a liability, and as an expense. Discuss whether Brasilia Ltd’s treatment is correct. The Conceptual Framework definition of a liability requires that there must be a present obligation. Furthermore, a provision must firstly be a liability for it to exist. See Section 3.1.3 of the chapter. © John Wiley and Sons Australia, Ltd 2015

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Chapter 3: Company operations

The recording of future maintenance costs is merely a book entry involving a future sacrifice by Brasilia Ltd itself to any external party. There is no present obligation that exists separate from the company’s own actions and so no liability for maintenance costs exists under the Framework’s definition of liabilities. Nor can there be an expense as there has been no outflow or depletion of assets or incurrence of a liability in Brasilia Ltd. It may be more appropriate for Brasilia Ltd to ensure that the depreciation charged takes into account accurately the consummation of economic benefits over time.

7. Distinguish between current and non-current assets. Can property, plant and equipment be reported as a current asset? If so, when? The distinction between a current and a non-current asset can be found in paragraph 66 of AASB 101. Here a current asset is defined as an asset that (a) is expected to be realised in, or is intended to be sold or consumed in the entity’s normal operating cycle (usually twelve months); or (b) is held primarily for trading purposes, or (c) is expected to be realised within twelve months after the reporting period; or (d) the asset is cash or a cash equivalent which is not restricted in its use beyond twelve months. If an asset doesn’t satisfy this definition, then it will be classified as a non-current asset. See section 3.3.1 of the chapter. An example of an item of property, plant and equipment being reported as a current asset may be where a particular machine or group of such assets is no longer being used by the entity in its factory and is being held for sale, which is expected to take place in the next twelve months. For such non-current assets to be reclassified as current, it must satisfy the requirements of paragraph 3 of AASB5, Non-current Assets Held for Sale and Discontinued Operations, which states: Assets classified as non-current in accordance with AASB 101 Presentation of Financial Statements shall not be reclassified as current assets until they meet the criteria to be classified as held for sale in accordance with this Standard. Assets of a class that an entity would normally regard as non-current that are acquired exclusively with a view to resale shall not be classified as current unless they meet the criteria to be classified as held for sale in accordance with this Standard.

8. Distinguish between current and non-current liabilities. Can a liability, which satisfies the definition of a current liability, be reported, internally and/or externally, as a non-current liability? Explain. The distinction between a current and a non-current liability can be found in paragraph 69 of AASB 101. Here a current liability is defined as a liability that is (a) expected to be settled in the entity’s normal operating cycle or (b) is held primarily for trading purposes, or (c) it is due to be settled within twelve months after the reporting period, or (d) the entity does not have an unconditional right to defer the settlement of the liability for at least twelve months after the reporting period. If a liability doesn’t satisfy this definition, then it will be classified as a non-current liability. See section 3.3.2 of the chapter. A long-term interest bearing liability that is due to be settled within twelve months would satisfy the definition of a current liability. However paragraph 73 of AASB 101 states that such liabilities must continue to be reported as a non-current liability where the entity has

3.5

Solution Manual to accompany Company Accounting 10e

discretion to refinance or roll over its obligations for at least twelve months after the reporting date. In many cases an entity may report both non-current and current liabilities for an item. For example, a loan for $100 000 for 5 years with $20 000 of the principal to be paid annually, would, at inception, be presented as a $20 000 current liability and $80 000 as a non-current liability.

9. Discuss the nature of income and revenue. When can revenue be recognised? Income is defined at paragraph 4.25/70 of the Conceptual Framework as meaning increases in economic benefits during the accounting period in the form of inflows or enhancements of assets or decreases of liabilities that result in increases in equity, other than those relating to contributions from equity participants. Income is sub-classified into revenue and gains. The Conceptual Framework (paragraph 4.29/74) states that ‘revenue arises in the course of the ordinary activities of an entity and is referred to by a variety of different names including sales, fees, interest, dividends, royalties and rent.’ It notes (paragraph 4.30/75) that gains can arise either from ordinary activities or from other activities/sources and are no different in nature, although presentation may vary. Gains are usually reported on a net basis, unlike revenue. Revenue is defined in AASB 118 Revenue as the gross inflow of economic benefits during the period arising in the course of ordinary activities of an entity when those inflows result in increases in equity, other than increases relating to contributions from equity participants. Paragraph 4.38/83 of the Conceptual Framework states that income should only be recognised when it is probable these inflows or savings in outflows will occur and the amount can be reliably measured (to be replaced by a faithfully representative and verifiable measure). Specific standards provide guidance or place restrictions on the recognition of revenues. For example, AASB 118 Revenue places further restrictions on the recognition of the types of revenue within its scope in that it requires a control test and a cost test to be applied. The control test requires the entity to transfer the significant risks and rewards of ownership of the goods, and not to retain continuing management involvement associated with effective control over the goods. The cost test requires that all costs incurred or to be incurred in respect of the sale to be measured reliably. For revenue from services, a stage of completion test is also required. Principles have been established for an entity to apply in order to report useful information about the revenue and cash flows arising from its contracts to provide goods or services to customers, especially contracts which require performance over time. See section 3.2.2 of the chapter for further details. The standard also provides requirements for the recognition of revenue from dividends and interest. See section 3.2.2 for further discussion, and AASB 118 paragraphs 14-34. Section 3.2.2 of the text also discusses the revised AASB 118 Revenue from Contracts with Customers expected to apply from 2017.

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Chapter 3: Company operations

10. What is the nature of an expense, and when are expenses to be recognised? How can expenses be classified in the preparation of financial statements for internal reporting purposes? Expenses are defined at paragraph 4.25/70(b) of the Conceptual Framework as decreases in economic benefits during the accounting period in the form of outflows or depletions of assets or incurrences of liabilities that result in decreases in equity, other than those relating to distributions to equity participants. Paragraph 4.38/83 states that expenses should only be recognised when it is probable that the future economic benefits will flow from the entity and the amount can be reliably measured (to be replaced by a faithfully representative, verifiable measure). See section 3.2.3 of the chapter for a brief discussion of the recognition of different types of expenses. Expenses are usually classified in general-purpose financial statements by their nature such as employee expenses or depreciation, or their function such as distribution and administrative expenses. However, for internal reporting purposes, expenses can be classified in a way that best suits the user of the financial statement e.g. variable v fixed, controllable v non-controllable. See also Section 3.3.5 of the chapter.

11. How are income and expenses classified in the preparation of a statement of profit or loss and other comprehensive income? Can income and expenses appear directly in the Retained Earnings account, without appearing in the current period’s profit? Explain. As discussed in question 10, expenses are classified according to their nature or their function. For income items, AASB 118 classifies revenue into different categories. Paragraph 88 of AASB 101 states that all income and expense items must be included in the current period’s profit and loss, unless an Australian standard requires or permits otherwise. The most common occurrence of this would be when an initial adjustment is made due to a new or revised standard requiring an alternative application, or a change in accounting policy or adjustment for a prior period error, usually requiring an adjustment to retained earnings opening balance. Chapter 14 discusses accounting for changes in accounting policies and prior period errors. Note therefore that, apart from specified exceptions, income and expenses are to be included in the profit or loss for the reporting period, and not as part of “other comprehensive income” or adjusted from retained earnings directly.

12. When do dividends become a legal debt of the company? When are they to be recognised as liabilities? Where a company has a constitution that provides for directors to declare a dividend, then a dividend becomes a debt of the company once the dividend is declared. Where no such statement exists in a company’s constitution, then the debt will only arise when the time for payment of the dividend arrives. If a dividend has been declared (or paid) by the time of completion of the financial report but not on or before the reporting date it must not be recognised as a liability as at the reporting © John Wiley and Sons Australia, Ltd 2015

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Solution Manual to accompany Company Accounting 10e

date. Instead such a dividend must be disclosed in notes as an event after reporting date. See sections 3.4.1 and 3.4.2 of the chapter.

13. What factors determine the selection of accounting policies? The overriding factor in the selection of an accounting policy is to determine whether the policy provides users with information useful for making economic decisions. In selecting accounting policies, AASB 108 Accounting Policies, Changes in Accounting Estimates and Errors establishes a hierarchy for entities to follow in preparing generalpurpose financial statements. Firstly, paragraph 7 of AASB 108 states that, when an Australian accounting standard specifically applies to a transaction, other event or condition, the accounting policy or policies applied to that item shall be determined by applying the Standard. Secondly, in the absence of an Australian accounting standard that specifically applies to a transaction, other event or condition, paragraph 10 requires management to use its judgement in developing and applying an accounting policy that results in information that is: (a) relevant to the economic decision-making needs of users; and (b) reliable, in that the financial statements: (i) represent faithfully the financial position, financial performance and cash flows of the entity; (ii) reflect the economic substance of transactions, other events and conditions, and not merely the legal form; (iii) are neutral, that is, free from bias; (iv) are prudent; and (v) are complete in all material respects. (For further discussion of relevance, faithful representation, neutrality and completeness, see section 3.6.1 of the text.) Thirdly, in making the judgement described in paragraph 10, paragraph 11 requires management to refer to the following sources in descending order: (a) the requirements in Australian Accounting Standards dealing with similar and related issues; and (b) the definitions, recognition criteria and measurement concepts for assets, liabilities, income and expenses in the Framework. Fourthly, in making the judgement described in paragraph 10, paragraph 12 then suggests that management may also consider the most recent pronouncements of other standard setting bodies that use a similar conceptual framework to develop accounting standards, other accounting literature and accepted industry practices, to the extent that these do not conflict with the sources mentioned in paragraph 11. Finally, AASB 108 paragraph 13 requires that the accounting policies selected are applied consistently for similar transactions, other events and conditions, unless an Australian accounting standard specifically requires or permits categorisation of items for which different policies may be appropriate. If an accounting standard permits such categorisation, then the accounting policy selected shall be applied consistently to each category.

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Chapter 3: Company operations

14. Under what circumstances can an accounting policy be changed? How is the change to be accounted for? See section 3.6.2 of the text. AASB 108 paragraph 14 states that changes in accounting policies can be made only in the following circumstances: • •

the change is required by an accounting standard the change results in the financial statements providing reliable and more relevant information about the effect of transactions , other events and conditions on the entity’s financial position, financial performance or cash flows.

Thus, unless a change is prescribed or will result in improved financial reporting, the same accounting policies should be adopted each year. Where a new accounting policy is adopted other than as a result of the issue of a new standard, AASB 108 paragraph 19(b) prescribes that the change arising on adoption is to be applied retrospectively. Retrospective application is described in paragraph 22 thus: the entity shall adjust the opening balance of each affected component of equity for the earliest prior period and the other comparative amounts disclosed for each prior period presented as if the new accounting policy had always been applied.

Thus, the company will need to consider the impact of the change of accounting policy not only on current and future financial periods but also on past financial periods. Asset or liability accounts may need to be amended. For example, assets raised under a previous policy of capitalisation must be written off as if the costs included in those assets had been expensed when incurred.

15. Discuss the nature of a reserve. What reasons may there be for no definitions being given for a reserve in the legislation, accounting standards and the Conceptual Framework? AASB 101 para 54 describes the equity of a company as consisting of share capital and reserves (retained earnings and other reserves).The term reserve is not defined in any accounting standard or the Corporations Act. Guidance on the nature of a reserve can be found by looking at what companies include as ‘reserves’ in their annual reports and what accounting standards refer to as reserves. In addition to retained earnings, the most common type of reserves are general, revaluation and foreign currency translation reserves. ‘Retained earnings’ is one category of reserves, according to AASB 101. Retained earnings represent the balances of the profit and losses (before items of other comprehensive income) which the company has made since incorporation, which have not been paid as dividends or bonus share issues to shareholders, transferred to reserves, or used to buy back shares (Henderson and Pierson, 2000, p 534). Some ‘other’ reserves arise as the result of accounting standards requiring amounts of other comprehensive income to be accumulated in equity (eg. revaluation surplus) and others arise from transfers from retained earnings (often known as general reserves) due to generally accepted accounting principles. Some have arisen from dubious accounting practices, now banned.

3.9

Solution Manual to accompany Company Accounting 10e

Students should realise that reserves do not represent ‘cash’ balances. Reserves are ‘book’ entries and no cash is physically transferred or created by these entries. Students should recognise that for example, the creation of a general reserve is a transfer from profit, and profit does not necessarily represent cash. What reasons may there be for no definitions being given for a reserve in the legislation, accounting standards, and the conceptual framework ? I would say that the reason there is no definition given for a reserve in the legislation, accounting standards and conceptual framework is because it is not possible to categorise reserves according to a homogeneous definition. Reserves may be created in a number of different ways (accounting standards, GAAP, other dubious accounting practices). It therefore would appear to be a very difficult task to establish a general definition to include all ‘reserves’. Any definition may be too restrictive. 16. In preparing financial statements for internal management purposes, discuss the benefits and disadvantages of complying with the requirements of accounting standards. The benefit of complying with the requirements of accounting standards when preparing financial statements for internal management is the cost savings. This is especially the case for reporting entities required to prepare general-purpose financial statements for external users. Rather than having an accounting system that is set up to prepare financial statements for internal users and another set of financial statements for external users, costs would be minimised if only the one set of financial statements was prepared. The disadvantage is that management may feel that a certain number of accounting standards do not depict the company’s overall profit performance and financial position from which key performance indicators are being used to assess management. Furthermore, different expense classifications would be more helpful for management control purposes than are the classifications by nature or function.

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Chapter 3: Company operations

CASE STUDIES Case Study 1

Footballers as assets

One of the well-known soccer clubs in Britain, Liverchester, has made a decision to include its players on the club’s statement of financial position as assets. These players are signed to the club every 3 years and are paid large amounts of money by the club each year under various contracts. The club also insists on a transfer fee being paid if a player wishes to go to another club while under contract. Required Discuss whether the Liverchester club is justified in its action of treating players as assets, by reference to appropriate accounting regulations. Assets are defined in the Conceptual Framework, (para. 4.4/49(a)) as ‘a resource controlled by the entity as a result of past events and from which future economic benefits are expected to flow to the entity’. According to paras 4.8-4.14/53-59 of the Framework, an asset has three essential characteristics: 1. An asset contains future economic benefits in the form of a potential to contribute, directly or indirectly, to the flow of cash and cash equivalents to the entity. 2. The future benefits must be controlled by the entity. This means that an asset does not have to be legally owned. Control is not defined in the Framework; nevertheless, in para. 4.12/57, an ability of the entity to deny or regulate access to those benefits is implied. 3. Assets must have come into existence as a result of past events. Future economic benefits which are not currently controlled by the entity are not assets. A past event must have occurred. Hence, inventories expected to be acquired by the company next month are not assets to the entity at present. Once these three essential characteristics are satisfied, an asset exists. Under the Conceptual Framework the existence of an asset is not dependent on factors such as whether it has been purchased at a cost, is ‘tangible’ or has a physical existence, has a legally enforceable claim over it, or is exchangeable in the marketplace for cash or other assets. Does the Liverchester club have future economic benefits? Yes. In the form of ticket sales, promotional and sponsorship benefits. Does Liverchester control the future economic benefits? As control means the capacity to deny or regulate the access of others to those benefits, Liverchester would appear to have control. Substantial transfer fees are required if a player wants to go to another club. Has there been a past event? Yes, there is a contract signed with each player. Can the players be recognised as assets? Recognition criteria could be discussed if it is agreed that the players are assets. But how do you obtain a reliable measure of your asset? And what about other officials e.g. coaching staff, management? Are they not assets as well?

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Solution Manual to accompany Company Accounting 10e

Case Study 2

Liabilities and recognition

SuperBags Ltd is being sued for breach of patent. The company suing is claiming that a range of handbags that SuperBags Ltd has manufactured and subsequently sold are copies of their own designs. SuperBags Ltd has admitted that there are some similarities between the designs and that their designs were based on the other company’s handbags. However, SuperBags Ltd lawyers are arguing that the differences between the handbag designs may be sufficient to avoid a finding of breach of patent. Legal advice has suggested that there is a 40% probability that SuperBags Ltd will be found guilty for breach of patent and has estimated that, if found guilty, Superbags Ltd will be required to pay $980 000 to the other company. Required Discuss fully how SuperBags Ltd should account for this event by: A. applying the requirements of AASB 137; B. applying the definitions and recognition criteria as proposed in the July 2013 Discussion Paper, A Review of the Conceptual Framework for Financial Reporting. A. AASB 137 defines a provision as: a liability of uncertain timing or amount (para. 10) To be recognised as a provision the item must: • meet the definition of a provision, and • meet the recognition criteria (i.e. can be measured reliably and it is probable the outflow will be required. These recognition criteria are consistent with the Conceptual Framework and are also specified in AASB 137 for provisions). It would be argued that the item meets the definition of a provision. The past event is the manufacture and sale of the handbags which are based on designs of the other company and so have similarities to those of the other company. This has led to the SuperBags Ltd having a present obligation (would be considered constructive due to sale of handbags which potentially breach copyright of the other company and not a legal obligation as this time) to make an outflow (this is potential payment of cash via damages). There is clearly uncertainty about the timing and (possibly) the amount of any potential payment. However at this time the recognition criteria are not met as the potential outflow (i.e. payment of cash damages) is not probable (ie is less than 50%). Hence this would be a contingent liability. As the possibility of an outflow is 40% this is not remote and hence would need to be disclosed in the notes in accordance with AASB 137, para 86. B. In the 2013 IASB discussion paper, A Review of the Conceptual Framework for Financial Reporting, the proposed definition of a liability is: a present obligation of the entity to transfer an economic resource as a result of past events (2.11).

For the same reasons as outlined above in this case the item would meet the proposed definition of a liability as there is a present obligation to transfer economic resources as a result of past events (in this case actions of copying bags has given rise to an obligation to potentially pay damages).

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Chapter 3: Company operations

This discussion paper proposes that the only recognition criteria be that there be a faithful representation. The discussion paper argues that probability would be reflected in measurement (see section 3.2.1 of the text). Given this it would appear under the proposed definition and recognition criteria this item would be recognised as a liability (presumably, ignoring the time value of money, at $392 000 being 40% of $980 000). The uncertainly associated with the item would also need to be disclosed if this was to be a faithful representation.

Case Study 3

Reserves

Obtain the annual reports of a number of companies (these are usually available from the company website). Required From the statement of changes in equity (and associated notes): A. Identify the number and different types of reserves. B. Check if the company explains the nature of these reserves (this will be in the notes if these are explained). C. Report to the class on the reserves common across the companies you have considered and why there may be differences between the type and number of reserves reported across these companies. The discussion will vary depending on the companies that students consider. For example, • Woolworths’ 2013, annual report includes hedging reserve, foreign currency translation reserve, remuneration reserve, asset revaluation reserve, equity instrument reserve and retained earnings, and the nature of these is explained in note 18 of the financial report. • Telstra’s 2013 annual report includes reserves titled foreign currency translation, cash flow hedging, consolidation fair value, general reserve and retained profits. • Qantas’s 2013, annual report includes employee compensation reserve, hedging reserve, foreign currency translation reserve and retained earnings, and the nature of these is explained in note 23 of the financial report. Many of these reserves (e.g. revaluation, hedging) are due to requirements of accounting standards. Hence differences will occur due to different transactions/events that relate to the entity and also through management choices/decisions (e.g. Telstra has a general reserve).

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Solution Manual to accompany Company Accounting 10e

Case Study 4

Reserves and cash

Havana Ltd Has the following balances at 1 August 2017: $ ASSETS Cash Accounts receivable Inventory Property, plant and equipment Total assets

4 000 14 000 11 000 37 000 66 000

LIABILITIES Accounts payable Loan Total liabilities Net assets

4 000 19 000 23 000 43 000

EQUITY Share capital Retained earnings Total equity

25 000 18 000 43 000

During the month ending 31 August 2017 the following occurred: (a) Inventory that had cost $7000 was sold for $13 000 ($9000 on credit and $4000 cash sales). (b) $8000 in cash was received from customers for credit sales (i.e. accounts receivables). (c) Inventory was purchased for $10 000 ($2000 on credit and $8000 for cash). (d) A payment of $1100 was made on the loan: being $1000 principle and $100 interest for August. (e) $4000 was paid to creditors (accounts payable) (f) Depreciation of $350 was charged on the property, plant and equipment. (g) On 31 August 2017, the directors decided to transfer $11 000 from retained earnings to a general reserve. They did this as they wished to ensure enough cash was available to purchase more property, plant and equipment and this reserve is intended to indicate cash available for such purchases. Required A. Calculate the profit for the month of August 2017 (ignore taxation). B. Calculate the balances in the retained earnings and general reserve accounts at the end of the period. C. Calculate the amount of cash at the end of the period. D. Use this case to illustrate/explain why a general reserve created does not represent cash available for future purchases. A. Profit for the month is: Sales Revenue Less Expenses of: Cost of sales Interest

13 000 (7 000) (100)

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Chapter 3: Company operations

Depreciation Profit

(350) 5 550

B. The balances are: Retained earnings Beginning balance Plus profit Less transfer to reserve End balance

18 000 5 550 (11 000) 12 550

General reserve Beginning balance Plus transfer from RE End balance

0 11 000 11 000

C. The balance of cash is: Beginning balance Plus cash sales Plus payments from customers Less cash for inventory Less payment on loan Less payment to creditors End balance

4 000 4 000 8 000 (8 000) (1 100) (4 000) 2 900

D. This case shows: • Although profit of $5,550 this is not represented by cash increases. Cash in fact has decreased. The profit is reflected in the increase in net assets overall (for example, increase in inventory and accounts receivable, and decrease in accounts payable and loan). • The general reserve of $11 000 represents an appropriation of profit – not cash. In fact, despite the balance of $11 000 in this reserve, the company has only $2 900 in cash. Hence a reserve does not ‘create’ or represent a pool of cash available for any purpose.

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Solution Manual to accompany Company Accounting 10e

Case Study 5

Accounting policies

Toyko Ltd has incurred advertising expenditure, the treatment of which is not prescribed by any existing accounting standard. The board of directors has requested the financial accountant record the expenditure as an asset so as not to impact the current year’s profit. The accountant is concerned with the request and requires your assistance in determining an accounting policy for this expenditure. Required A. Provide the accountant with two accounting policies or treatments that the company could adopt to account for this expenditure. B. What assistance does AASB 108 provide to help the accountant choose between the policies provided in requirement A? C. Which of your policies would best meet the requirements of AASB 108? Why? A.

Currently, there is no Australian accounting standard to provide accounting policies or guidance specifically to deal with accounting for advertising expenditure of this kind. Two potential accounting policies are: (a) expense all advertising expenditure as incurred, or (b) capitalise all advertising expenditure (i.e. treat the costs as an asset).

AASB 108, paragraph 10 states that, in the absence of an Australian accounting standard, management shall use its judgement in developing and applying an accounting policy that results in information that is both relevant to the economic decision making needs of users and is reliable, i.e. provides a faithful representation of the entity’s financial position and performance, as well as being free from bias and complete. Paragraph 11 requires management to refer to the accounting standards of other bodies dealing with similar and related issues and the definitions, recognition criteria and measurement concepts contained in the conceptual framework when choosing between competing accounting policies.

Students could select either policy – the key issue is whether or not such expenditure results in the creation of an asset as per the Conceptual Framework’s definition. If so, the expenditure should be capitalised. If not, the expenditure should be expensed. Students should provide valid arguments to support their choice of accounting policy. In this case, we would argue against capitalisation as the main purpose of the board is to show a higher profit in the current year, i.e. this is not a faithful representation of the entity’s financial position or performance.

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Chapter 3: Company operations

Case Study 6

Accounting policies

Nassau Boats Ltd builds luxury ocean-going yachts which generally take up to 3 years to construct and are worth $50 million each. The company normally takes out a loan to finance the initial construction phase for each yacht. Interest on these loans has been treated as an expense with $750 000 written off over the last 5 years. In the current year ended 30 June 2017, the company changed its accounting policy with respect to interest and now capitalises the interest against the cost of each yacht as allowed by AASB 123 Borrowing Costs. Amounts of $40 000 and $22 000 were capitalised against two yachts on which construction started this year but no adjustments have been made for yachts under construction at the beginning of the year. The new accounting policy and its impact have been disclosed in the notes to the financial statements for the year ended 30 June 2017. Required Critically evaluate the company’s adoption of the new accounting policy with respect to the requirements of AASB 108. AASB 108 requires that when a company voluntarily changes an accounting policy it shall apply the change retrospectively (p19(b)). Retrospective application means that, where practicable, the entity shall adjust the opening balance of each affected component of equity for the earliest period presented, and the other comparative amounts disclosed for each prior period presented as if the new policy had always been applied. Nassau Boats changed its accounting policy with respect to the capitalisation of interest during the year but no retrospective adjustment was made to the value of yachts constructed or commenced in prior periods. Retrospective adjustment requires adjustments to show opening balances and comparative figures as if interest had always been capitalised rather than expensed therefore prior year expenses amounting to $750 000 need to be reclassified. To do this the company will need to go back and calculate the amount of interest for each yacht constructed or commenced over the last five years. Cost of goods sold figures would need to be restated for yachts completed and sold, and inventory costs would need to be amended for yachts on hand or in progress that beginning of the current year. Prior year adjustments to interest and cost of goods sold expenses would be made against the opening balance of retained earnings.

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Solution Manual to accompany Company Accounting 10e

PRACTICE QUESTIONS RACTICE QUEST IONS

Question 3.1

Dividends and reserve transfers

Prepare general journal entries to record the following unrelated transactions of a limited company: 1. Payment of an interim dividend of $200 000 (in cash). 2. Declaration of a final dividend of $420 000. 3. Transfer of $65 000 from the revaluation surplus to a general reserve. 4. Transfer of $120 000 to the general reserve from retained earnings. 5. Payment of 300 000 bonus shares, fully paid at $1 per share from a general reserve.

Retained Earnings/Interim Dividend Cash (Payment of interim dividend)

Dr Cr

200 000

Retained Earnings/ Dividend Declared Dividend Payable (Declaration of final dividend)

Dr Cr

420 000

Revaluation Surplus General Reserve (Transfer from revaluation surplus to general reserve)

Dr Cr

65 000

Retained Earnings/ T’fer to Reserve General Reserve (Transfer to general reserve)

Dr Cr

120 000

General Reserve Share Capital (Being bonus dividend out of general reserve)

Dr Cr

300 000

200 000

420 000

65 000

120 000

300 000

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Chapter 3: Company operations

Question 3.2

Dividends

The constitution of Beijing Ltd requires approval of final dividends by shareholders at the Annual General Meeting (AGM) before these can be declared or paid. 1. On 27 September 2014, following approval and declaration at the AGM a final dividend of $142 000 was paid. This dividend had been recommended on 29 June 2013 from retained earnings. 2. On 6 January 2015, the directors declared and paid an interim dividend of $98 000 from retained earnings. 3. On 2 July 2015, the directors recommended a final dividend of $180 000 from retained earnings. 4. On 24 September 2015, the final dividend of $180 000 was approved and declared at the AGM. This was paid later on 24 September after the AGM. Required A. Prepare general journal entries to account for the above events/transactions. B. What is the total amount of dividends recognised for the year ending 30 June 2015? C. Would your answers to A and B change if in relation to 3 above the directors had recommended this dividend on the 28 June 2015 instead of the 2 July 2015?

A. 2014 27 Sept.

Retained Earnings/Final Dividend Dr Cash Cr (Recognition and payment of final dividend)

142 000

Retained Earnings/ Interim Dividend Dr Cash Cr (Recognition and payment of interim dividend)

98 000

142 000

2015 6 Jan.

98 000

2 July

There is no entry as the dividend has not been declared (only recommended).

24 Sept

Retained Earnings/Final Dividend Dr Cash Cr (Recognition and payment of final dividend)

180 000 180 000

B. The total amount of dividends recognised for the year ending 30 June 2015 is $240 000 being: • Final dividend from 2014 of $142 000, and • Interim dividend of $98 000.

C. There would be no changes as the dividend has not been declared, and so is not recognised at the date of recommendation.

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Solution Manual to accompany Company Accounting 10e

Question 3.3

Dividends

The constitution of Hanoi Ltd allows directors to declare a final dividend at any time and this is not subject to any further approval, authorisation or discretion. 1. On 27 September 2015, following the AGM a final dividend of $42 000 was paid. This dividend had been declared on 29 June 2015 from retained earnings. 2. On 1 February 2016, the directors declared and paid an interim dividend of $24 000 from the general reserve. 3 On 2 July 2016, the directors declared a final dividend of $41 000 from retained earnings. 4. On 24 September 2016, following the AGM the final dividend of $41 000 was paid. Required A. Prepare general journal entries to account for the above events/transactions. You need to include a date for each entry. B. What is the total amount of dividends recognised for the year ending 30 June 2016? C. Would your answers to A and B change if in relation to 3 above the directors had declared this dividend on the 28 June 2016 instead of the 2 July 2016?

A. 2015 27 Sept.

Dividend Payable Dr 42 000 Cash Cr (Payment of final dividend recognised on 29 June 2015)

42 000

General Reserve Dr Cash Cr (Recognition and payment of interim dividend)

24 000 24 000

Retained Earnings/Final Dividend Declared Dr Dividend Payable Cr (Recognition of declaration final dividend)

41 000

Dividend Payable Cash (Payment of final dividend)

41 000

2016 1 Feb.

2 July

24 Sept

Dr Cr

41 000

B. The total amount of dividends recognised for the year ending 30 June 2016 is $24 000 being the interim dividend. C. If the dividend had been declared on 28 June 2016 then it would be recognised at that date and the total amount of dividends recognised for the year ending 30 June 2016 would be $65 000 being: • Interim dividend of $24 000 and. • Final dividend from 2016 of $41 000.

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Chapter 3: Company operations

Question 3.4

Dividends

The constitution of Oslo Ltd states that directors can only determine a final dividend and that any dividends determined can be revoked prior to time of payment. 1. On 5 August 2015, following the AGM a final dividend of $306 000 was paid from retained earnings. This dividend had been determined on 29 June 2015. 2. On 11 January 2016, the directors declared and paid an interim dividend of $224 000 from the general reserve. 3. On 28 June 2016, the directors determined that a final dividend of $320 000 from retained earnings would be paid following the AGM. 4. On 12 September 2016, following the AGM the final dividend of $320 000 was paid. Required A. Prepare general journal entries to account for the above events/transactions. You need to include a date for each entry. B. What is the total amount of dividends recognised for the year ending 30 June 2016? C. Would your answers to A and B change if in relation to 3 above the directors had determined this dividend on the 1 July 2016 instead of the 28 June 2016?

A. 2015 5 Aug.

Retained Earnings/Final Dividend Dr Cash Cr (Recognition and payment of final dividend)

306 000

General Reserve Dr Cash Cr (Recognition and payment of interim dividend)

224 000

306 000

2016 11 Jan.

224 000

28 June

There is no entry as the dividend has not been declared (only determined).

12 Sept

Retained Earnings/Final Dividend Dr Cash Cr (Recognition and payment of final dividend)

320 000 320 000

B. The total amount of dividends recognised for the year ending 30 June 2016 is $530 000 being: • Final dividend from 2015 of $306 000, and • Interim dividend of $224000. C. There would be no changes as the dividend has not been declared, and so is not recognised at the date it is determined. Further the 1 July 2016 is not within the current reporting period.

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Solution Manual to accompany Company Accounting 10e

Question 3.5

Retained earnings

At 1 July 2016, the balance in the Retained Earnings account of Canberra Ltd was $3 500 000. The company’s share capital at the 1 July 2016 comprises 400 000 6% preference shares issued for $2.00 per share and 1 400 000 ordinary shares fully paid at $1 per share. During the year ended 30 June 2017, the following events occurred: 1. On 1 February 2017, the directors declared and paid an interim ordinary dividend of $224 000 from retained earnings. 2. On 14 March 2017, the directors issued 40 000 ordinary bonus shares fully paid at $1.40 per share from retained earnings. 3. Profit for the year was $4 300 000. 4. On 30 June 2017, the directors declared a final ordinary dividend of $680 000. A dividend was also declared on the preference shares. 5. On 30 June 2017, the directors resolved to transfer $1 500 000 to a general reserve from retained earnings, and to transfer $4 000 000 from a previously created plant maintenance reserve back to retained earnings. Required Prepare journal entries for the above transactions, and the Retained Earnings account at 30 June 2017.

CANBERRA LTD General Journal 2017 1 Feb

14 Mar

June 30

Retained Earnings/Interim Dividend Cash (Payment of interim dividend)

Dr Cr

224 000

Retained Earnings Share Capital (ordinary) (Issue of bonus Shares)

Dr Cr

56 000

Profit or Loss Summary Retained Earnings (Transfer of profit closing entry)

Dr Cr

4 300 000

Retained Earnings/Dividend Declared Dr Dividend Payable - Ord Cr Dividend Payable - Pref Cr (Declaration of final ordinary dividend and 6% dividend on preference shares)

728 000

Retained Earnings/Transfer to Gen. Res. Dr General Reserve Cr (Transfer to general reserve)

1 500 000

224 000

56 000

4 300 000

680 000 48 000

1 500 000

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Chapter 3: Company operations

Plant Maintenance Reserve Dr Ret. Earnings/T’fer from P M Res. Cr (Transfer from plant maintenance reserve)

4 000 000 4 000 000

Other closing entries will be required if the solution uses Interim Dividend, Dividend Declared, and transfers to/from reserve accounts to close these accounts to Retained Earnings.

Retained Earnings 1 /2/17

Ord Div. – interim

224 000 1/07/16

14/3/17

Share Capital

56 000 30/06/17 P or L Summary

30/6/17

Ord Div. Payable

680 000

Pref. Dividend Payable Transfer to general reserve

48 000

Open bal.

3 500 000 4 300 000

1 500 000 30/06/17 Transfer from Plant

30/06/17 Balance c/d

9 292 000

Maint. Reserve

11 800 000 30/06/17 Balance b/d

4 000 000 11 800 000 9 292 000

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Solution Manual to accompany Company Accounting 10e

Question 3.6

Dividends and share issues

The share capital of Kathmandu Ltd as at 1 July 2016 comprised 1 400 000 ordinary shares issued and paid to $3.00 less share issue costs of $41 000. Information about some events/transactions relating to Kathmandu Ltd is below: 1. On 21 August 2016, a dividend of $440 000 was paid in cash. This dividend had been determined (proposed) on 29 June 2016 from retained earnings. 2. On 1 October 2016, Kathmandu Ltd issued a prospectus calling for applications for 1 600 000 ordinary shares from the public at an issue price of $4.20, payable $2.50 on application and $1.70 on allotment. By 25 November 2016, it had received 1 800 000 applications with $2.50 paid. On 1 December 2016 the company issued the shares and made refunds to 200 000 applicants. Costs incurred in the share issue totalled $52 000. All allotment monies were received by 24 December 2016. 3. On 28 June 2017, the directors determined a final dividend of $0.18 per share from retained earnings. This is to be paid on 20 August 2017 following the annual general meeting. At 30 June 2017, the directors transferred $350 000 to retained earnings from the general reserve. Required A. Prepare the general journal entries required in the year ended 30 June 2017 to reflect the events/transactions above. B. How would your entries above change if the final dividends had not been determined (at 29 June 2016 and 28 June 2017), but had been declared at these dates? A. 2016 21 Aug

Retained Earnings/Dividend paid Dr Cash/Bank Cr (Recognition and payment of dividend)

To 25 Nov Cash Trust Dr Application Cr (Receipt of monies with applications) 1 Dec

Application Dr Cash Trust Cr (Refund to unsuccessful applicants)

440 000 440 000

4 500 000 4 500 000

500 000 500 000

Application Dr 4 000 000 Allotment Dr 2 720 000 Share Capital Cr 6 720 000 (Recognition of issues of shares and share capital due on allotment and application) Cash/Bank Dr Cash Trust Cr (T/f of monies received on application) Share Issue Costs/Share Capital

4 000 000 4 000 000

52 000 3.24

Chapter 3: Company operations

Cash/Creditors/Payables (Costs of share issue)

24 Dec

Cash Allotment (Receipt of allotment money)

2017 28 June

30 June

Dr Cr

52 000

2 720 000 2 720 000

There is no entry as the dividend has only been determined, not declared.

General reserve Dr 350 000 Retained earnings (or T’fer from Gen.Res.) Cr (Transfer from general reserve)

350 000

B. If the final dividends had been declared then the following entries would be processed: 2016 21 Aug Dividend Payable Dr 440 000 Cash/Bank Cr 440 000 (Payment of dividend recognised on 29 June 2016) 2017 28 June

Retained earnings/Dividend Declared Dr 540 000 Dividend Payable Cr (Recognition of final dividend declared: 3 million shares @18c)

540 000

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Solution Manual to accompany Company Accounting 10e

Question 3.7

Equity movements and statement of changes in equity

The following is the equity of Paris Ltd on 30 June 2016: Share capital (fully paid ordinary shares at $3.50) General reserve Revaluation surplus Retained earnings

2 100 000 640 000 160 000 310 000 3 210 000

The following transactions occurred during the year ended 30 June 2017: 1. At the annual general meeting on 1 September 2016, the directors confirmed a final dividend of 20c per share for the year ended 30 June 2016. The dividend had been proposed (determined) on the 28 June 2016 and had not been provided for in the annual financial statements. Dividends were paid by direct debit at the close of the meeting. 2. On 31 December 2016, the directors, who were keen to keep cash resources in the business for further expansion of plant facilities, made a bonus share issue of 1 share for every 12 shares held valued at $3.80 per share from the general reserve. 3. On 30 June 2017, the directors decided to transfer $50 000 from the revaluation surplus to the general reserve. This portion of the surplus related to an asset that had been sold in May 2016. 4. The profit for the year after charging income tax expense of $140 000 was $690 000. 5. On 30 June 2017, the directors recommended a final dividend of 10c per share out of retained earnings. This was expected to be ratified and paid at the annual general meeting on 28 August 2017. Required A. Prepare journal entries to record the transactions. B. Prepare a statement of changes in equity for the year ended 30 June 2017. A. 2016 Sept 1

Dec 31

2017 June 30

Retained Earnings/Dividend Paid Cash (Payment of dividend confirmed at the AGM)

Dr Cr

120 000

General Reserve Share Capital (Payment of 1 for 12 bonus issue @$3.80 out of general reserve)

Dr Cr

190 000

Revaluation Surplus Dr General Reserve Cr (Transfer from revaluation surplus to general reserve)

120 000

190 000

50 000 50 000

3.26

Chapter 3: Company operations

Profit or Loss Summary Retained Earnings (Profit for the year closing entry)

Dr Cr

690 000 690 000

No entry for dividends on 30 June 2017 as these have not been declared. B. PARIS LTD Statement of Changes in Equity for the year ended 30 June 2017 Total comprehensive income for the year*

$690 000

Retained earnings: Balance at 1 July 2016 Profit for the period Dividend paid during year Balance at 30 June 2017

$310 000 690 000 (120 000) $880 000

Share capital: Balance at 1 July 2016 Bonus share issue during the period Balance at 30 June 2017

$ 2 100 000 190 000 $ 2 290 000

Other reserves: General Balance at 1 July 2016 Bonus share issue during the period Transfer from revaluation surplus Balance at 1 July 2017

$640 000 (190 000) 50 000 $500 000

Revaluation surplus Balance at 1 July 2016 Transfer to general reserve Balance at 30 June 2017

$160 000 (50 000) $110 000

* Comprehensive income = $690 000 profit. There were no items of other comprehensive income

3.27

Solution Manual to accompany Company Accounting 10e

Question 3.8

Adjustments and preparation of financial statements

The following details are taken from the accounting records of Aster Ltd at 30 June 2017: Debit Sales revenue Cost of sales Selling expenses Administrative and general expenses Financial expenses (including borrowing costs of $7000) Dividend revenue Interest revenue Plant and machinery (cost) Accumulated depreciation – plant and machinery Freehold land Buildings (cost) Accumulated depreciation – buildings 6% government bonds (face value $20 000) Shares in other companies Bank loan (due 2020) Accounts receivable Allowance for doubtful debts Inventories (at lower of cost and market) Mortgage payable (secured over land and buildings) Accounts payable Goodwill Share capital (120 000 ordinary shares issued for $2) General reserve Retained earnings 1/7/16

Credit 882 680

694 000 82 000 51 000 17 000 10 000 1 320 150 000 70 000 40 000 80 000 30 000 22 000 75 000 24 000 54 000 8 000 46 000 16 000 30 000 30 000 240 000 16 000 13 000

$ 1 341 000

The following items, not yet recorded, must be adjusted before completion of the company’s financial statements: 1. Depreciation to be recorded as follows: plant and machinery at 20% of cost; buildings at 5% of cost. Goodwill has not been impaired. 2. Income tax to be provided at 30% of profit before tax. 3. Dividends of 8c per share were declared on 30 June 2017. 4. Transfer $10 000 of the general reserve back to retained earnings. Required A. Prepare general journal entries to record the adjustments necessary. B. Prepare the statement of profit or loss and other comprehensive income for Aster Ltd for the year ended 30 June 2017. C. Prepare the statement of changes in equity for Aster Ltd for the year ended 30 June © John Wiley and Sons Australia, Ltd 2015

3.28

Chapter 3: Company operations

2017. D. Prepare the statement of financial position for Aster Ltd as at 30 June 2017. A. 2017 June 30

Depreciation - Plant & Machinery Accum. Depn - Plant & Mach (Depreciation at 20% per annum)

Dr Cr

30 000

Depreciation - Buildings Accum. Depn - Bldgs (Depreciation at 5% per annum)

Dr Cr

4 000

Income Tax Expense Current Lax Liability (Tax of 30% on profit of $16 000 as calculated below)

Dr Cr

4 800

Retained Earnings/Dividend Declared Dividend Payable (Final dividend of 8c per share on 120 000 shares declared)

Dr Cr

9 600

General Reserve Retained Earnings/Transfer from reserve (Being transfer from this reserve)

10 000

30 000

4 000

4 800

9 600

10 000

ASTER LTD Statement of Profit or Loss and Other Comprehensive Income for the year ended 30 June 2017 Income: Sales $882 680 Dividend revenue 10 000 Interest revenue 1 320 Total revenues 894 000 Expenses: Selling expenses Cost of sales $694 000 Other selling expenses 82 000 Total selling expenses 776 000 Administrative expenses Administrative expenses 51 000 Depreciation of plant & machinery 30 000 Depreciation of buildings 4 000 Total administrative expenses 85 000 Financial expenses Financial expenses 17 000 © John Wiley and Sons Australia, Ltd 2015

3.29

Solution Manual to accompany Company Accounting 10e

Total financial expenses Total expenses Profit before income tax Income tax expense (30%) Profit for the year Other comprehensive income Total comprehensive income for the year

17 000 878 000 16 000 4 800 $11 200 0 $11 200

ASTER LTD Statement of Changes in Equity for the year ended 30 June 2017

Total comprehensive income for the year Retained earnings: Balance at 1 July 2016 Profit for the period Dividend declared Transfer from general reserve Balance at 30 June 2017 Share capital: Balance at 1 July 2016 Balance at 30 June 2017 Other reserves: General Balance at 1 July 2016 Transfer to retained earnings Balance at 30 June 2017

$11 200 $13 000 11 200 (9 600) 10 000 $24 600 $240 000 $240 000

$16 000 (10 000) $6 000

D. ASTER LTD Statement of Financial Position as at 30 June 2017 Current assets Accounts receivable Allowance for doubtful debts Inventories Total current assets Non-current assets Government bonds Shares in other companies Freehold land Buildings Accumulated depreciation Plant and machinery Accumulated depreciation Goodwill Total non-current assets

$54 000 8 000

$46 000 46 000 92 000 22 000 75 000 40 000

80 000 (34 000) 150 000 (100 000)

46 000 50 000 30 000 263 000 3.30

Chapter 3: Company operations

Total assets Current liabilities Accounts payable Current tax liability Dividend payable Total current liabilities Non-current liabilities Bank loan payable Mortgage payable Total non-current liabilities Total liabilities Net assets Equity Share capital 120 000 ordinary shares issued and paid to $2 General reserve Retained earnings Total equity

355 000 30 000 4 800 9 600 44 400 24 000 16 000 40 000 84 400 $270 600

240 000 6 000 24 600 $270 600

3.31

Solution Manual to accompany Company Accounting 10e

Question 3.9

Ledger accounts for equity adjustments

The equity of Oslo Ltd at 30 June 2016 consisted of: Share capital: 200 000 10% cumulative pref. shares issued at $2, fully paid 100 000 ordinary shares issued at $1, paid to 50c General reserve Retained earnings

$400 000 50 000 40 000 860 000

The following transactions occurred during the year ended 30 June 2017: 2016 June 30

July 9 Sept. 19 Oct. 5 21 22

2017 Jan. 10 June 30

Already deducted from the retained earnings balance of $860 000 were final ordinary dividends of $7000 and preference dividends of $40 000 that had been declared at 30 June 2016. These dividends were expected to be paid later in 2016. Final call made on 100 000 partly paid ordinary shares. Call money received. Final dividends paid. Revaluation of an item of land upwards by $50 000. (This is the initial revaluation of land. Ignore taxation.) With the surplus created from the revaluation of land, the directors made a bonus issue of ordinary shares to existing ordinary shareholders, on the basis of 3 shares for every 10 shares, valued at $1.08 per share. Interim dividend of 6c per ordinary share paid out of retained earnings. Preference dividend for the year and final ordinary dividend of 6c per share were declared.. Transfer of $3000 to the general reserve from retained earnings.

Required Prepare ledger accounts to reflect the above transactions. OSLO LTD

General Ledger

30/6/17

Balance

Share Capital - Ordinary 132 400 30/6/16 Balance 9/9/16 Final call 22/10/16 Reval surplus 132 400 30/6/17 Balance

50 000 50 000 32 400 132 400 132 400

3.32

Chapter 3: Company operations

Share Capital – Preference 30/6/16 Balance

30/6/17

10/1/17 30/6/17 30/6/17 30/6/17

9/7/16

19/9/16

General Reserve 43 000 30/6/16 Balance 30/6/17 Retained earnings 43 000 30/6/17 Balance

Balance

Int ord div Pref div payable Ord div payable General reserve

Retained Earnings (extract) 7 800 30/6/16 Balance 40 000 7 800 3 000

Ord share capital

Final Call 50 000 19/9/16 Cash

Final call

Cash (extract) 50 000 5/10/16 Ord div payable 5/10/16 Pref div payable 10/1/17 Retained earnings (int ord div)

400 000

40 000 3 000 43 000 43 000

860 000

50 000

7 000 40 000 7 800

3.33

Solution Manual to accompany Company Accounting 10e

Cash

Ordinary Dividend Payable 7 000 30/6/16 Balance 30/6/16 Retained earnings

7 000 7 800

5/10/16

Cash

Preference Dividend Payable 40 000 30/6/16 Balance 30/6/16 Retained earnings

40 000 40 000

22/10/16

Share capital

30/6/17

Balance

5/10/16

21/10/16

Gain on Revaluation (OCI)

Revaluation Surplus

Revaluation Surplus 32 400 21/10/16 Gain on Revaluation (OCI) 17 600 50 000 30/6/17 Balance

50 000

50 000 17 600

Land (extract) 50 000

Other Comprehensive Income * 50 000 21/10/16 Land

50 000

*Entries for revaluations in this chapter are simplified and do not consider taxation. Revaluations of such items are considered in Chapter 9.

3.34

Chapter 3: Company operations

Question 3.10

Adjustments and financial statements

The trial balance of Madrid Ltd as at 30 June 2016 is given below: MADRID LTD Trial Balance as at 30 June 2016 Debit Share capital Second call (3 000 000 shares at 25c each) Calls in advance Retained earnings (1/7/15) Mortgage payable on land and buildings Bank overdraft Accounts payable Land Buildings Vehicles Accumulated depreciation — buildings Accumulated depreciation — vehicles Financial investments Goodwill Accounts receivable Inventory Sales revenue Interest on financial investments Cost of sales Commission expense Delivery expense Salaries — administrative Salaries — travellers Directors’ fees Interest on mortgage General expenses

Credit $ 101 250 000

750 000 3 000 000 3 900 000 30 000 000 11 250 000 3 000 000 15 300 000 60 000 000 3 750 000 6 000 000 750 000 52 500 000 8 250 000 8 240 000 24 000 000 36 000 000 2 625 000

16 500 000 150 000 300 000 3 000 000 1 035 000 300 000 1 500 000 2 200 000 $ 197 775 000 $ 197 775 000

Additional information A.The share capital at 1 July 2015 consisted of 45 000 000 shares fully paid at $1 and 75 000 000 shares issued for $1 and called to 75c per share. B. The following adjustments have to be made to the trial balance prior to the preparation of the financial statements: (i) doubtful debts at 30 June 2016 are estimated to be $230 000 (ii) unrecorded and unpaid travellers’ salaries amount to $170 000 (iii) prepaid general expenses amount to $23 000 (iv) income tax expense to be recognised of $3 758 000 (v) a final dividend is to be recommended for $2 250 000. The company’s constitution requires shareholders to ratify final dividends. (vi) $1 300 000 is to be transferred to a general reserve (vii) depreciation on vehicles at the rate of 20% p.a. and on buildings at the rate of 5% p.a. for the whole year © John Wiley and Sons Australia, Ltd 2015

3.35

Solution Manual to accompany Company Accounting 10e

Required A. Prepare a statement of profit or loss and other comprehensive income for Madrid Ltd for the year ended 30 June 2016 for internal purposes. B. Prepare a statement of financial position for Madrid Ltd as at 30 June 2016 for internal purposes. Workings 2016 June 30 (i)

Bad Debts Expense Allowance for Doubtful Debts* *or Allowance for Impairment of receivables

(ii)

(iii)

(v)

Dr Cr

$’000 230

Salaries: Travellers Salaries Payable

Dr Cr

170

Prepaid Expenses General Expenses

Dr Cr

Income Tax Expense Current Lax Liability

Dr Cr

3 758

Dr Cr

1 300

170

3 758

(vi) No entry (vi)

(vii)

Transfer to General Reserve General Reserve

1 300

Depreciation – Vehicles Dr 750 Depreciation - Buildings Dr 3 000 Accum. Depn – Vehicles Cr 750 Accum. Depn - Bldgs Cr 3 000 (Depreciation at 20% per annum on vehicles and 5% per annum on buildings)

3.36

Chapter 3: Company operations

The trial balance of Madrid Ltd as at 30 June 2016 after the above adjustments is therefore: MADRID LTD TRIAL BALANCE (as at 30 June 2016) Debit $’000 Share Capital Second Call (3 000 000 shares at 25c each) Calls in Advance Retained Earnings (1/7/15) Transfer to General Reserve General Reserve Mortgage Payable on Land and Buildings Bank Overdraft Accounts Payable Salaries Payable Current Tax Liability Land Buildings Vehicles Accumulated Depreciation - Buildings Accumulated Depreciation - Vehicles Financial Investments Goodwill Accounts Receivable Allowance for Doubtul Debts Inventory Prepaid Expenses Sales Revenue Interest on Financial Investments Cost of Sales Commission Expense Delivery Expense Salaries: Administrative Salaries: Travellers Directors’ Fees Interest on Mortgage Bad Debt Expense Income Tax Expense Depreciation – Vehicles Depreciation – Buildings General Expenses

Credit $’000 101 250

750 3 000 3 900 1 300 1 300 30 000 11 250 3 000 170 3 758 15 300 60 000 3 750 9 000 1 500 52 500 8 250 8 240 230 24 000 23 36 000 2 625 16 500 150 300 3 000 1 205 300 1 500 230 3 758 750 3 000 2 177 206 983

______ 206 983

3.37

Solution Manual to accompany Company Accounting 10e

MADRID LTD Statement of Profit or Loss and Other Comprehensive Income For year ended 30 June 2016 Income: Sales Interest on financial investments Total income Expenses: Selling expenses Cost of sales Commission expense Delivery expense Depreciation – vehicles Salaries: travellers Total selling expenses Administrative expenses Salaries: administrative Depreciation – buildings Directors’ fees General expenses Total administrative expenses Financial expenses Bad debt expense Interest on mortgage Total financial expenses Total expenses Profit before income tax Income tax expense Profit for the year Other comprehensive income Total comprehensive income for the year

($’000)

($’000) 36 000 2 625 38 625

16 500 150 300 750 1 205

18 905 3 000 3 000 300 2 177 8 477 230 1 500 1 730 29 112 9 513 3 758 5 755 0 $5 755

3.38

Chapter 3: Company operations

2. MADRID LTD Statement of Financial Position as at 30 June 2016 Current assets Inventory Accounts receivable Less Allowance for doubtful debts Prepaid expenses Total current assets Non-current assets Land Buildings Less Accumulated depreciation Vehicles Less Accumulated depreciation Financial investments Goodwill Total non-current assets Total assets Current liabilities Bank overdraft Accounts payable Salaries payable Current tax liability Total current liabilities Non-current Liabilities Mortgage payable on land and buildings Total non-current liabilities Total liabilities Net assets

($’000) 8 240 230

(4’000) 24 000 8 010 23 32 033 15 300

60 000 (9 000) 3 750 (1 500)

51 000 2 250 52 500 8 250 129 300 161 333 11 250 3 000 170 3 758 18 178 30 000 30 000 48 178 $113 155

Equity Share capital Less second call Calls in advance General reserve Retained earnings* Total equity

101 250 (750)

100 500 3 000 1 300 8 355 $113 155

*Retained earnings = 3 900 + 5 755 – 1 300

3.39

Solution Manual to accompany Company Accounting 10e

Question 3.11

Equity transactions and retained earnings account

The equity of Washington Ltd at 1 July 2017 consisted of: Share capital 500 000 ‘A’ ordinary shares — fully paid 400 000 ‘B’ ordinary shares issued for $2 and paid to $1.50 General reserve Retained earnings

$1 500 000 600 000 930 000 1 780 200

The following events occurred during the financial year 1 July 2017 to 30 June 2018: 2017 Aug. Oct.

Dec.

15 20 21

2018 March

June

The final dividend of $96 000 was paid. This had been declared on 29 June 2017 from retained earnings. The first and final call was made on the ‘B’ ordinary shares. All call money was received. The directors allotted a 1-for-10 bonus issue on all ‘A’ ordinary shares, valued at $3, to be paid out of the general reserve. An interim dividend of 9c per fully paid share was paid on all ordinary shares out of retained earnings. The directors declared a final dividend of 11c per fully paid share on all ordinary shares out of retained earnings. Half of the remaining balance in the general reserve was transferred back to retained earnings.

Required A. Prepare journal entries to record the above transactions. B. Assuming that the company made an after-tax profit of $1 400 000 for the year, prepare the retained earnings ledger account for the year ended 30 June 2018. A. 2017 Aug 10 Dividend Payable Cash (Payment of final dividend)

Dr Cr

96 000

Oct 15 Final Call – B Ordinary Share Capital – B Ordinary (Call of 50c on 400 000 shares)

Dr Cr

200 000

Oct 20 Cash Final Call – B Ordinary

Dr Cr

200 000

Dec 21 General Reserve Share Capital – A Ordinary (Bonus issue out of general reserve)

Dr Cr

150 000

96 000

200 000

150 000 3.40

Chapter 3: Company operations

2018 Mar 1 Retained Earnings/Interim Dividend Paid Dr Cash Cr (Interim dividend of 9c per ord. share paid)

81 000 81 000

June 30 Retained Earnings/Dividend Declared Dr Dividend Payable Cr (Declaration of final dividend: 11c * 900 000 shares)

99 000

Jun 30 General Reserve Dr Retained Earnings/T’fer from Gen. Res. Cr (General reserve transferred to retained earnings)

390 000

99 000

390 000

Workings: Calculation of general reserve Balance 1/7/2017 930 000 Less bonus issue (150 000) Less transfer to retained earnings (390 000) Balance 30 June 2018 $390 000 B.

Retained Earnings 1/3/18 Interim dividend paid 81 000 1/7/17 Balance 30/6/18 Final Dividend 99 000 30/6/18 P or L Summary Declared 30/6/18 Balance c/d 3 390 200 30/6/18 General Reserve t’fer 3 570 200 1/7/18 Balance b/d

1 780 200 1 400 000 390 000 3 570 200 3 390 200

3.41

Solution Manual to accompany Company Accounting 10e

Question 3.12

Equity adjustments, and statement of changes in equity

Equity of Santiago Ltd at 1 July 2016 consisted of: Share capital General reserve Plant replacement reserve Retained earnings

1 764 000 600 000 550 000 980 000

Additional information (a) Santiago Ltd had made two previous share issues. In 2012, it issued 400 000 ordinary shares issued and paid to $2.00. Costs incurred in this share issue totalled $12 000. In December 2015, it issued 500 000 ordinary shares at an issue price of $2.40. At 30 June 2016, these were paid to $2.00. Costs incurred in this share issue totalled $24 000. The following events occurred during the year ending 30 June 2017: 2016 July Aug.

5 10

Final dividend of $81 000 was declared. Final dividend declared on 5 July was paid

Sept. Sept. 2017 Jan.

2 30

First and final call made on the 500 000 partly paid shares. All call money received.

March

June

July

Interim dividend of 10c per share declared and paid out of retained earnings. The directors made a 1-for-8 bonus issue of shares from the general reserve. Shares are issued at $2.20 each. Profit before tax for the year was $760 000 out of which the following appropriations were made: (a) Income tax expense $220 000 (b) Transfers to reserves from retained earnings General reserve 100 000 Plant replacement reserve 30 000 The final dividend of 10c per share on all issued shares was declared.

Required A. Prepare the journal entries (in general journal format) required in the year ending 30 June 2017. B. Prepare the statement of changes in equity up to 30 June 2017. A. 2016 July 5 Retained Earnings/Final Div Declared Dividend Payable (Final dividend declared)

Dr Cr

81 000 81 000

3.42

Chapter 3: Company operations

Aug 10 Dividend Payable Cash (Final dividend paid)

Dr Cr

81 000

Sept 2 Final Call Share Capital (Final call on 500 000 shares at 40c)

Dr Cr

200 000

Sept 30 Cash Final Call (Cash received on call) 2017 Jan 30 Retained Earnings/Interim Div Paid Cash (Interim dividend paid; 900 000*10c)

Dr Cr

200 000

Dr Cr

90 000

Mar 10 General Reserve Share Capital (Bonus share issue; 900 000/8*$2.20)

Dr Cr

247 500

Jun 30 Income Tax Expense Current Tax Liability (Income tax expense for the year)

Dr Cr

220 000

Retained Earnings/T’fers to Reserves General Reserve Plant Replacement Reserve (Transfers to reserves)

Dr Cr Cr

130 000

Revenues Expenses (excl. tax) Profit or Loss Summary (Closing entry)

Dr Cr Cr

Profit or Loss Summary Income Tax Expense (Tax expense closing entry)

Dr Cr

220 000

Profit or Loss Summary Retained Earnings (Closing entry to transfer profit)

Dr Cr

540 000

81 000

200 000

90 000

247 500

220 000

100 000 30 000

x 760 000

220 000

540 000

The entry for the final dividend declared on the 2 July is not included as only required to prepare entries for the year ending 30 June 2017.

3.43

Solution Manual to accompany Company Accounting 10e

B. SANTIAGO LTD Statement of Changes in Equity for the year ended 30 June 2017 Total comprehensive income for the period*

$540 000

Retained earnings: Balance at 1 July 2016 Profit for the period Dividend declared – final 2016 Interim dividend paid Transfer to plant replacement reserve Transfer to general reserve Balance at 30 June 2017

$980 000 540 000 (81 000) (90 000) (30 000) (100 000) $1 219 000

Share capital: Balance at 1 July 2016 Call on shares Issue of bonus shares Balance at 30 June 2017

$1 764 000 200 000 247 500 $2 211 500

Other reserves: General reserve Balance at 1 July 2016 Transfer from retained earnings Issue of bonus shares Balance at 30 June 2017

$600 000 100 000 (247 500) $452 500

Plant replacement reserve Balance at 1 July 2016 Transfer from retained earnings Balance at 30 June 2017

$550 000 30 000 $580 000

* Comprehensive income = Profit $540 000 (there are no items of other comprehensive income)

3.44

Chapter 3: Company operations

Question 3.13

Equity adjustments and statement of changes in equity

The equity of London Ltd at 30 June 2016 was: Share capital 50 000 10% cumulative preference shares — fully paid 100 000 ordinary shares — fully paid Revaluation surplus Development reserve Retained earnings Total equity

50 000 200 000 250 000 50 000 20 000 (30 000 ) 290 000

During the year ended 30 June 2017, the following transactions occurred: 2016 Sept.

In 2015, the directors had authorised the development reserve as they were considering developing a new product. In anticipation of this, the directors had authorised the appropriation for developments last year. The board now directs that the reserve be discontinued and transferred back to retained earnings.

2017 March

The profits for the half-year were such that the directors declared dividends of 10% on the preference shares. The directors also declared an interim dividend of 10c per share on ordinary shares. Preference dividends have not been paid for 2015 or 2016. Dividends declared on 1 March were paid.

April

12 1

June

The directors authorised the issue to ordinary shareholders of a bonus share issue of 1 share for every 5 held, valued at $2.20. The shares do not rank for dividend until 2018. The issue is out of the revaluation surplus. The profit before tax for the year was $300 000. The directors recommended a final dividend of 18c per share on ordinary shares out of retained earnings. The company’s constitution requires approval of final dividends on ordinary shares by shareholders at the annual general meeting. Assume the taxation rate is 30%.

Required A. Prepare general journal entries to record all transactions for the year. B. Prepare a statement of changes in equity for the year ended 30 June 2017.

3.45

Solution Manual to accompany Company Accounting 10e

A. 2016 Sept 1

2017 Mar 1

Mar 12

April 1

June 30

Damages Expense Cash (Payment of damages from lawsuit)

Dr Cr

15 000

Development Reserve Retained Earnings/Transfer from Reserve (Reserve transfer to retained earnings)

20 000

15 000

20 000

Retained Earnings/Dividends Declared Dr Dividend Payable – Pref Cr Interim Dividend Payable-Ord Cr (Declaration of 10% preference dividend for three years on cumulative shares, and ordinary interim dividend of 10c per share)

25 000

Dividend Payable - Preference Interim Dividend Payable – Ord Cash (Payment of dividends)

Dr Dr Cr

15 000 10 000

Revaluation Surplus Dr Share Capital - Ordinary Cr (Issue of 1 for 5 bonus shares valued at $2.20 out of revaluation surplus)

44 000

Revenue and Expenses Profit or Loss Summary (Profit before tax for the year)

Dr Cr

300 000

Income Tax Expense Current Tax Liability (Tax expense)

Dr Cr

90 000

Profit or Loss Summary Income Tax Expense (Being closing entry)

Dr Cr

90 000

Profit or Loss Summary Retained Earnings (Transfer of profit)

Dr Cr

210 000

15 000 10 000

25 000

44 000

300 000

90 000

210 000

No entry for dividends as not yet approved.

3.46

Chapter 3: Company operations

B. LONDON LTD Statement of Changes in Equity for the year ended 30 June 2017 Total comprehensive income for the year

$210 000

Retained earnings: Balance at 1 July 2016 Profit Preference dividend paid Ordinary interim dividend paid Transfer from development reserve Balance at 30 June 2017

$(30 000) 210 000 (15 000) (10 000) 20 000 $175 000

Share capital: Balance at 1 July 2016 Issue of bonus shares Balance at 30 June 2017

$250 000 44 000 $294 000

Other reserves: Revaluation surplus Balance at 1 July 2016 Issue of bonus shares Balance at 30 June 2017 Development reserve Balance at 1 July 2016 Transfer to retained earnings Balance at 30 June 2017

50 000 (44 000) (6 000) $20 000 (20 000) $ 0

3.47

Solution Manual to accompany Company Accounting 10e

Question 3.14

Share issues, options, dividends and reserves

The equity of Cairo Ltd at 30 June 2016 consisted of: 400 000 ordinary ‘A’ shares, issued at $2, fully paid 300 000 ordinary ‘B’ shares, issued at $2, called to $1.20 50 000 6% redeemable preference shares, issued at $1.50, fully paid Share issue costs Calls in advance (at 80c) Share options (issued at 60c, fully paid) Retained earnings

$800 000 360 000 75 000 (2 670) 16 000 24 000 318 000

The options were exercisable by 28 February 2017. Each option entitled the holder to acquire two ordinary ‘C’ shares at a price of $1.80 per share, payable by 28 February 2017. The following transactions occurred during the year ended 30 June 2017: 2016 Sept.

Oct.

Nov.

25 1

Dec.

2017 Jan.

Feb.

April 30 May 31 June

18 26 27

The preference dividend and the final ordinary dividend of 16c per share were paid. These dividends had both been determined (i.e. proposed but not declared) on 30 June 2016 from retained earnings. The preference shares were redeemed out of retained earnings at a 5% premium. Cheques were issued to the preference shareholders. A 1-for-5 renounceable rights offer was made to ordinary ‘A’ shareholders at an issue price of $1.90 per share. The offer’s expiry date was 30 November 2016. The issue was underwritten at a commission of $3000. Holders of 320 000 shares accepted the rights offer, with other rights being renounced to the underwriter. Ordinary ‘A’ shares were issued and money received. The underwriting commission was paid.

The directors transferred $35 000 from retained earnings to a general reserve. As a result of options being exercised, 70 000 ordinary ‘C’ shares were issued. Unexercised options lapsed. The final call, due by 31 May 2017, was made on the partly paid shares. All call money was received by this date, except for that due on 15 000 shares. The shares on which the final call was unpaid were forfeited. The forfeited shares were reissued, credited as paid to $2, for $1.80 cash per share. The balance of the Forfeited Shares account will be refunded to the former shareholders on 27 June. Paid refund to former holders of forfeited shares. The directors determined a 20c per share final dividend out of © John Wiley and Sons Australia, Ltd 2015

3.48

Chapter 3: Company operations

Sept.

retained earnings to be payable on 15 September 2017. Final dividend paid.

Required Prepare general journal entries to record the above transactions. 2016 Sept 15 Retained Earnings/Dividend Paid– Ordinary Retained Earnings/Dividend Paid– Preference Cash (Recognition and payment of ordinary dividend [400 000 x 16c +300 000 x 16c x 3/5 = $92 800] and preference dividend [$75 000 x 6%]) Oct 20 Share Capital – Preference Retained Earnings/Redemption Premium (75 000 x 5%) Shareholders’ Redemption (Redemption of preference shares out of profits) Note: dividends do not accrue on the preference shares

Retained Earnings/Transfer to Share Capital Share Capital – Ordinary (Retained earnings transferred to capital. NOTE: no dividends will be paid on this share capital)

Dr Dr

92 800 4 500 97 300

Dr Dr

75 000 3 750

78 750

Dr Cr

75 000

Oct 25 Shareholders’ Redemption Cash (Payment of cash to redeem preference shares)

Dr Cr

78 750

Nov 30 Cash Share Capital – Ordinary ‘A’ (Renounceable rights issue) [400 000/5 = 80 000 x 1.90]

Dr Cr

152 000

75 000

78,750

152 000

3.49

Solution Manual to accompany Company Accounting 10e

Dec 20 Share Issue Costs (Share Capital) Cash (Payment of share issue costs)

Dr Cr

3 000

Dr Cr

35 000

Feb 28 Cash Share Capital – Ordinary ‘C’ (Issue of shares to options holders) [70 000 x $1.80]

Dr Cr

126 000

Share Options Share Capital – Ord ‘C’ Lapsed Options Reserve (Transfer of options account, 35 000 exercised and 5 000 lapsed) [70 000/2 = 35 000 x 60c = 21 000]

Dr Cr Cr

24 000

April 30 Call – Ordinary ‘B’ Share Capital – Ordinary ‘B’ Call of 80c per share on Ordinary B shares)

Dr Cr

240 000

Calls in Advance (20 000 x 80c) Call – Ord ‘B’ (Transfer of calls in advance)

Dr Cr

16 000

May 31 Cash Call – Ord ‘B’ (Cash received on call) [(300 000 – 20 000 – 15 000) x 80c]

Dr Cr

212 000

June 18 Share Capital – Ordinary ‘B’ Call – Ordinary ‘B’ Forfeited Shares Liability (Forfeiture of 15 000 Ordinary B shares)

Dr Cr Cr

30 000

2017 Jan 10 Retained Earnings/Transfer to reserve General Reserve (Transfer to general reserve)

3 000

35 000

126 000

21 000 3 000

240 000

16 000

212 000

12 000 18 000

3.50

Chapter 3: Company operations

26 Cash Forfeited Shares Liability Share Capital – Ordinary ‘B’ (Reissue of 15 000 shares paid to $2 for payment of $1.80)

Dr Dr Cr

27 000 3 000

27 Forfeited Shares Liability Cash (Refund to former shareholders)

Dr Cr

15 000

Dr Cr

170 000

Sept 15

Retained Earnings/Dividend Paid Cash (Dividend recognised and paid) [Workings from the entries above: 400 000 + 300 000 + 80 000 + 70 000 – 15 000 + 15 000= 850 000 x 20c] Note: No entry for dividend on 28 June as not declared (only determined).

30 000

15 000

170 000

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Solution Manual to accompany Company Accounting 10e

Question 3.15

Financial statements

At 30 June 2017, the trial balance of Budapest Ltd was: BUDAPEST LTD Trial Balance as at 30 June 2017 Debit $ Accounts payable Current tax liability Dividend payable Bank loan Interest revenue Consulting revenue Cash Accounts receivable Allowance for doubtful debts Inventory Buildings

52 100 241 500 7 500 300 000 915 000

Accumulated depreciation – buildings Equipment

Credit $ 65 000 84 500 195 000 180 000 6 000 20 000

55 000 425 000

Accumulated depreciation – equipment Cost of sales Administrative expenses Advertising expenses Income tax expense Interest expense Salaries and wages Sales returns Sales revenue Other selling expenses Doubtful debts expense General reserve Retained earnings Revaluation surplus Share capital

48 100 1 294 500 340 600 57 050 84 500 16 400 255 000 79 000 3 080 000 152 500 9 000

$4 222 150

45 000 150 050 46 000 240 000 $4 222 150

Additional information (a) The bank loan is to be repaid in three equal instalments payable on 1 July each year commencing 1 July 2017. There is no intention of refinancing the loan. (b) An interim dividend of $165 000 was paid during the year out of retained earnings. (c) $75 000 was transferred from the revaluation surplus to retained earnings. (d) A bonus share issue of 10 000 shares issued and paid to $4.00 was made in October 2017 from the general reserve. (e) A final dividend of $195 000 has been declared at the end of the year (30 June 2017) © John Wiley and Sons Australia, Ltd 2015

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out of retained earnings. Note (b) to (e) are already adjusted in the trial balance. Required A. Prepare the statement of profit or loss and other comprehensive income for Budapest Ltd for the year ended 30 June 2017, with expenses classified by function. B. Prepare the statement of changes in equity for the year ended 30 June 2017. C. Prepare the statement of financial position for Budapest Ltd at 30 June 2017, classifying assets and liabilities clearly into current and non-current categories. A. BUDAPEST LTD Statement of Profit or Loss and Other Comprehensive Income For year ended 30 June 2017 Income: Sales Less sales returns Interest revenue Consulting revenue Total revenues Expenses: Selling expenses Cost of sales Advertising expenses Other selling expenses Salaries and wages Total selling expenses Administrative expenses Financial expenses Doubtful debts Interest expense

$3 080 000 79 000

$3 001 000 6 000 20 000 3 027 000

1 294 500 57 050 152 500 255 000 1 759 050 340 600 9 000 16 400 25 400

Total expenses Profit before income tax Income tax expense Profit for the year Other comprehensive income Total comprehensive income for the year

2 125 050 901 950 84 500 $817 450 0 $817 450

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Solution Manual to accompany Company Accounting 10e

B. BUDAPEST LTD Statement of Changes in Equity for the year ended 30 June 2017 Total comprehensive income for the year

$817 450

Retained earnings: Balance at 1 July 2016 Profit for the period Transfer from revaluation surplus Interim dividend paid Final dividend declared Balance at 30 June 2017

$435 050 817 450 75 000 (165 000) (195 000) $967 500

Share capital: Balance at 1 July 2016 Bonus share issue Balance at 30 June 2017

$200 000 40 000 $240 000

Other reserves: Revaluation surplus Balance at 1 July 2016 Transfer to retained earnings Balance at 30 June 2017 General reserve Balance at 1 July 2017 Bonus share issue Balance at 30 June 2017

121 000 (75 000) $46 000 $ 85 000 (40 000) $45 000

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Chapter 3: Company operations

C. BUDAPEST LTD Statement of Financial Position as at 30 June 2017 Current assets Cash Inventory Accounts receivable Less allowance doubtful debts Total current assets Non-current assets Buildings Accumulated depreciation Equipment Accumulated depreciation Total non-current assets Total assets Current liabilities Accounts payable Dividend payable Bank loan Current tax liability Total current liabilities Non-current Liabilities Bank loan Total non-current liabilities Total liabilities Net assets

$52 100 300 000 241 500 (7 500)

915 000 (55 000) 425 000 (48 100)

234 000 586 100

860 000 376 900 1 236 900 1 823 000 65 000 195 000 60 000 84 500 404 500 120 000 120 000 524 500 $1 298 500

Equity Share capital Revaluation surplus General reserve Retained earnings Total equity

$240 000 46 000 45 000 967 500 $1 298 500

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Solution Manual to accompany Company Accounting 10e

Question 3.16

Equity transactions and adjustments, statement of changes in equity

On 30 June 2016, the equity of Vienna Ltd consisted of: 25 000 ordinary shares, issued at $3, called to $2.50 1500 ordinary shares, issued at $1.50, fully paid Calls in arrears (1000 shares at 50c) General reserve Retained earnings Total equity

62 500 2 250 (500 ) 12 500 39 500 116 250

The company has recognised a liability of $10 000 in relation to 5000 8% redeemable preference shares, issued at $2 each and fully paid. These preference shares must be redeemed at a 5% premium by 31 March 2017. During the year ended 30 June 2017, the following events occurred: 1. By 31 July 2016, $300 of outstanding call money had been received. 2. On 7 August 2016 the directors forfeited those ordinary shares with calls still outstanding. The company’s constitution provides that no refund is made to the former shareholders. 3. On 17 September 2016, the final dividends (40c per share on ordinary shares and 8% on preference shares) declared on 30 June 2016 were paid. 4. On 31 December 2016, an ordinary interim cash dividend of 30c per share was declared and paid. 5. To fund the redemption of preference shares, on 16 January 2017 the directors issued a prospectus offering 12 000 ordinary shares at an issue price of $2.80, payable 70c on application, $1.40 on allotment, and 70c on a future call. The closing date for applications was 15 February 2017. The issue was underwritten by UBeaut Ltd for a fee of $1600, payable on 23 February 2017. 6. By 15 February 2017, applications had been received for 15 000 shares, with applicants for 3000 shares having paid the full issue price. 7. On 25 February 2017, the directors allotted 3000 shares to those applicants who had paid the full issue price per share, and 9000 shares to other applicants on a first-come first-served basis. The company’s constitution allows excess application money to be retained and used to offset other money payable. By 15 March 2017, all allotment money had been received. 8. On 31 March 2017, the preference shares were redeemed, and cheques were sent to preference shareholders on 4 April 2017. 9. Profit for the year was $3625. On 30 June 2017, the directors decided to: • transfer the general reserve balance to retained earnings • make a 1-for-6 bonus issue in lieu of a final cash dividend; the bonus shares were issued on 30 June 2017, valued at $2.70 each. Required A. Prepare general journal entries (including any closing entries) to record the above events. B. Prepare a statement of changes in equity as at 30 June 2017.

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Chapter 3: Company operations

A. VIENNA LTD General journal 2016 July 31 Cash Call (Receipt of call monies)

Dr Cr

300

Dr Cr Cr

1 000

Sept 17 Preference Dividend Payable Ordinary Dividend Payable Cash (Payment of final ordinary and preference dividend)

Dr Dr Cr

800 10 600

Dec 31 Retained Earnings /Dividend Paid Cash (Ordinary interim dividend paid [26 500 – 400 = 26 100] x 30c)

Dr Cr

7 830

Dr Cr

16 800

Feb 23 Share Issue Costs (Share Capital) Cash (Payment of underwriting commission)

Dr Cr

1 600

Feb 25 Application Allotment Share Capital (Issue of 12 000 ordinary shares with $1.40 due on allotment) Application Cash Cash Trust

Dr Dr Cr

8 400 16 800

Dr Dr Cr

2 100 14 700

Aug 7

Share Capital Call Forfeited Shares Reserve (Forfeiture of 400 shares)

2017 Feb 15 Cash Trust Application (Application monies received) [3 000 x $2.80] + [12 000 x 70c]

300

200 800

11 400

7 830

16 800

1 600

25 200

16 800 3.57

Solution Manual to accompany Company Accounting 10e

(Refund to unsuccessful applicants [3000 x 70c] and transfer of balance of cash)

Application Allotment Calls in Advance (Transfer of excess application monies)

Dr Cr Cr

6 300

Mar 15 Cash Allotment (Receipt of balance of allotment monies)

Dr Cr

12 600

4 200 2 100

12 600

Mar 31 Preference Share Liability Dr 10 000 Redemption Premium Exp. (10 000 x 5%) Dr 500 Shareholders’ Redemption Cr 10 500 (Redemption of preference shares liability at a 5% premium out of profits) Note: Interest up to 31 March has not been recognised on these preference shares. It could be assumed that the premium on redemption is effectively interest expense. Alternatively, interest of 8% for 9 months (= $600) could be recognised separately from the redemption expense. Mar 31 Retained Earnings/T’fer to Share Capital Share Capital (Transfer to share capital as required by ASIC Regulatory Guide 68)

Dr Cr

10 000

April 4 Shareholders’ Redemption Cash (Payment to preference shareholders)

Dr Cr

10 500

June 30 Profit or Loss Summary General Reserve Retained Earnings (Transfer of profit and transfer from general reserve)

Dr Dr Cr

3 625 12 500

Retained Earnings/Bonus Issue Share Capital (Issue of 6 350 ordinary shares under a 1-for-6 bonus issue) [38 100 shares/6 x $2.70]

Dr Cr

17 145

10 000

10 500

16 125

17 145

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Chapter 3: Company operations

B. VIENNA LTD Statement of Changes in Equity for the year ended 30 June 2017 Total comprehensive income for the year Retained earnings: Balance at 1 July 2016 Profit for the period Ordinary dividend paid Bonus share issue Transfer to share capital Transfer from general reserve Balance at 30 June 2017 Share capital: Balance at 1 July 2016 Receipt of calls in arrears Forfeiture of shares [1000 – 200] Share issue costs Issue of ordinary shares Calls in advance Transfer from retained earnings (redemption of pref. share liability) Issue of bonus shares Balance at 30 June 2017 Other reserves: Forfeited shares Balance at 1 July 2016 Forfeiture of shares Balance at 30 June 2017 General Balance at 1 July 2016 Transfer to retained earnings Balance at 30 June 2017

$3 625 $39 500 3 625 (7 830) (17 145) (10 000) 12 500 $20 650 $64 250 300 (800) (1 600) 25 200 2 100 10 000 17 145 $116 595

0 800 800 $12 500 (12 500) $ 0

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Solution Manual to accompany Company Accounting 10e

Question 3.17

Adjustments and financial statements

The unadjusted trial balance of Pretoria Ltd at 30 June 2016 contained the following information: PRETORIA LTD Unadjusted Trial Balance as at 30 June 2016 Debit Sales Sales returns Cost of sales Advertising expense Sales salaries Administrative salaries Office expenses Rent expense Vehicle running expenses Debenture interest expense Bad debt expense Motor vehicles Accumulated depreciation – motor vehicles Fixtures and fittings (cost) Accumulated depreciation – fixtures and fittings Allowance for doubtful debts Debenture interest received Retained earnings Share capital (80 000 shares issued at $2 each) 7% debentures Trade creditors Loan payable to bank Patents 8% debentures in Prague Ltd Trade debtors Bills receivable Cash at bank Share issue costs

Credit $ 624 000

1 080 265 320 18 000 72 000 75 000 15 900 19 600 2 000 1 170 2 340 70 000 20 000 26 000 12 000 1 650 360 18 600 160 000 18 000 22 000 14 000

30 000 9 000 71 000 5 400 203 200 3 600 $ 890 610

$ 890 610

Additional information (Unless otherwise indicated you will need to make adjustments for the following events/transactions). (a) The 8% debentures in Prague Ltd were held throughout the year, and the full interest entitlement for the year has not been received. Likewise, there is interest to be accrued on the debenture liability for the year. (b) An interim dividend of $16 000 has been paid during the year out of retained earnings. (Hint: This is already adjusted in the trial balance). (c) Depreciation of motor vehicles and fixtures and fittings is to be provided at the rates © John Wiley and Sons Australia, Ltd 2015

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of 20% and 15% straight-line respectively for the year. Patents were not amortised by the company. (d) The allowance for doubtful debts is to be increased to $3600. (e) ON 30 June 2016, a final dividend of 10c per share has been declared from retained earnings. (f) Income tax expense for the year is estimated to be $72 000. (g) On 30 June 2016, the directors decided to set aside (i) $10 000 to provide for the enhanced cost of replacing fixtures and fittings and (ii) $5000 for the redemption of debentures. (h) The debentures are due for redemption in 3 years. Required A. Prepare a statement of profit or loss and other comprehensive income for the year ended 30 June 2016. B. Prepare the Retained Earnings account for the year ended 30 June 2016. C. Prepare a statement of financial position for the company as at 30 June 2016.

A. Statement of Profit or Loss and Other Comprehensive Income for the year ended 30 June 2016 Income: Sales $624 000 Less sales returns 1 080 $622 920 Debenture interest revenue* 720 Total revenues 623 640 Expenses: Selling expenses Cost of sales 265 320 Advertising 18 000 Sales salaries 72 000 Total selling expenses 355 320 Administrative expenses Administrative salaries 75 000 Office expenses 15 900 Vehicle running expenses 2 000 Depreciation of furniture & fittings* 3 900 Depreciation of motor vehicles* 14 000 Total administrative expenses 110 800 Financial expenses Interest expense on debentures* 1 260 Rent expense 19 600 Bad debts* 4 290 Total financial expenses 25 150 Total expenses 491 270 Net profit before income tax 132 370 Income tax expense 72 000 Profit for the year 60 370 Other comprehensive income 0 Total comprehensive income for the year $60 370 © John Wiley and Sons Australia, Ltd 2015

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Solution Manual to accompany Company Accounting 10e

*Workings for parts A and B (in general journal format) (a) Interest Receivable Dr Debenture Interest Received (revenue) Cr (8% of $9 000 = $720 – 360) Debenture Interest Expense Interest Payable (7% of $18 000 = $1 260 – 1 170 = 90)

Dr Cr

360 360

90 90

(b) Interim dividend paid has already been debited to retained earnings as there is no separate account in the trial balance; hence, the beginning balance of retained earnings = $18 600 + $16 000 = $34 600 (c)

(d)

(e)

(f)

(g)

Depreciation Expense – Motor Vehicles Depreciation Expense – Furniture & Fitts. Accumulated Depreciation – Vehicles Accumulated Depreciation – F & E (20% of $70 000 and 15% of $26 000)

Dr Dr Cr Cr

14 000 3 900

Bad Debts Expense Allowance for Doubtful Debts ($3 600 - $1 650)

Dr Cr

1 950

Retained Earnings/Dividend Declared Dividend Payable

Dr Cr

8 000

Income Tax Expense Current Tax Liability

Dr Cr

72 000

Retained Earnings/Transfer to reserves Plant Replacement Reserve Debenture Redemption Reserve

Dr Cr Cr

15 000

14 000 3 900

1 950

8 000

72 000

10 000 5 000

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Chapter 3: Company operations

B. Retained Earnings -/-/16

Dividend – interim

16 000 1/07/15

Opening balance

34 600

8 000 30/06/16 P or L Summary

60 370

30/6/16 Dividend payable– final Transfer to plant replacement reserve Transfer to deb. redemption reserve 30/06/16 Balance c/d

10 000

5 000 55 970 94 970

94 970 1/7/16

Balance b/d

55 970

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Solution Manual to accompany Company Accounting 10e

C. PRETORIA LTD Statement of Financial Position as at 30 June 2016 Current assets Cash Trade debtors Allowance for doubtful debts Interest receivable Bills receivable Total current assets Non-current assets 8% debentures in Prague Ltd Motor vehicles Accumulated depreciation Furniture and fittings Accumulated depreciation Patents Total non-current assets Total assets

$203 200 $71 000 3 600

9 000 70 000 (34 000) 26 000 (15 900)

Current liabilities Trade creditors Debenture interest payable Current tax liability Dividend payable Total current liabilities Non-current liabilities 7% debentures Loan payable to bank Total non-current liabilities Total liabilities Net assets Equity Share capital 80 000 ordinary shares issued at $2 Less, Share issue costs Other reserves: Plant replacement reserve Debenture redemption reserve Retained earnings Total equity

67 400 360 5 400 276 360

36 000 10 100 30 000 85 100 361 460

22 000 90 72 000 8 000 102 090 18 000 14 000 32 000 134 090 $227 370

160 000 3 600 10 000 5 000

156 400

15 000 55 970 $227 370

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Chapter 3: Company operations

Question 3.18

Adjustments and financial statements

The following unadjusted trial balance is for the year ended 30 June 2017: SINGAPORE LTD Unadjusted Trial Balance as at 30 June 2017 Debit Bank overdraft Vehicle rental expenses Cash at bank Investment in government bonds Goodwill Interest revenue Insurance expense Land Buildings Office furniture and equipment Retained earnings (1/7/16) Revaluation surplus Accumulated depreciation – office furniture and equipment Accumulated depreciation – buildings Allowance for doubtful debts Cost of sales Advertising expense Sales returns and allowances Sales Mortgage payable Inventory Share capital (called to $1 per share) General reserve Interest expense on overdraft Discount received Discount allowed Fees revenue Proceeds on sale of furniture Carrying amount of furniture sold Accounts payable Accounts receivable Salaries of sales staff Administrative wages Calls in arrears (25c per share) Calls in advance (25c per share) Interest expense on mortgage

Credit $ 178 050

72 000 7 500 150 000 24 000 4 800 3 000 230 000 1 000 000 127 000 83 000 15 000 23 000 100 000 14 700 197 400 12 300 8 700 478 120 90 000 106 000 1 140 000 18 000 11 300 11 250 12 000 17 900 13 000 5 000 133 900 225 400 60 000 68 620 2 000 6 000

4 500 $ 2 326 720

$ 2 326 720

Additional information (a) Singapore Ltd is involved in the computer services industry. Leased vehicles are used mainly for delivery and service of computers. The company’s head office, which © John Wiley and Sons Australia, Ltd 2015

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Solution Manual to accompany Company Accounting 10e

houses its administrative staff, is located on a prime piece of real estate in the local township. (b) The following adjustments are required before preparation of Singapore Ltd’s financial statements for the year: (i) Depreciation to be provided on a straight-line basis on buildings at 5% p.a. and on office furniture and equipment at 10% p.a. The sale of office furniture occurred at the beginning of the current financial year. (ii) Goodwill is considered not to be impaired. (iii) Management was informed that a particular debtor had become bankrupt and the full account of $12 000 needs to be written off. (iv) The Allowance for Doubtful Debts account needs to be adjusted to 8% of accounts receivable, after considering the adjustment in item iii above. (v) Current income tax expense (and tax liability) for the year is estimated to be $8000. (vi) Accrued wages to staff: sales $1500, administrative $2000. (vii) Vehicle rental paid in advance at 30 June 2017 amounted to $30 000. (viii) Shares with calls in arrears are to be forfeited, any reserve being retained by the company. (ix) A dividend of 3c per share is declared on shares remaining after considering item viii. (x) Land is to be revalued upwards to its fair value of $250 000. (xi) Transfer $10 000 from the general reserve to retained earnings. Required A. Prepare the journal entries (in general journal form) required by items i to xi above. B. Prepare the adjusted trial balance as at 30 June 2017. C. Prepare the statement of profit or loss and other comprehensive income with expenses classified by function for Singapore Ltd for the year ended 30 June 2017. D. Prepare the statement of changes in equity for the year. E. Prepare the company’s statement of financial position as at 30 June 2017. A. General Journal 2017 June 30 Depreciation Expense – Buildings Dr Accumulated Depreciation – Buildings Cr (Depreciation at 5% per annum)

50 000 50 000

30 Depreciation Expense – Furniture & Equip. Accumulated Depreciation – F & E (Depreciation at 10% per annum)

Dr Cr

12 700

30 Allowance for Doubtful Debts Accounts Receivable (Bad debts written off)

Dr Cr

12 000

30 Bad Debts Expense

14 372

12 700

12 000

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Chapter 3: Company operations

June

Allowance for Doubtful Debts (Recognition of allowance at 8% of receivables) 8% x (225 400 – 12 000) – (14 700 – 12 000)

14 372

30 Income Tax Expense Current Tax Liability (Income tax expense)

Dr Cr

8 000

30 Salaries Expense – Sales Staff Wages & Salaries Payable (Accrued salaries of sales staff)

Dr Cr

1 500

30 Administrative Wages Expense Wages & Salaries Payable (Accrued wages of admin. staff)

Dr Cr

2 000

30 Prepaid Rent Vehicle Rental Expense (Rent prepaid)

Dr Cr

30 000

30 Share Capital Call Forfeited Shares Reserve (Forfeiture of 8 000 shares)

Dr Cr Cr

8 000

30 Retained Earnings/Dividend Declared Dividend Payable (Dividend of 3c on 1 132 000 shares)

Dr Cr

33 960

8 000

1 500

2 000

30 000

2 000 6 000

33 960

30 Land Dr 20 000 Gain on revaluation of land (OCI) Cr (Recognition of other comprehensive income on revaluation of land)

20 000

30 Gain on revaluation of land (OCI) Revaluation Surplus (Transfer to revaluation surplus)

20 000

Dr Cr

20 000

30 General Reserve Dr Retained Earnings/Transfer from Reserve Cr (Transfer from general reserve)

10 000

3.67