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Revise lecture 6 1 Accounting concepts and policies The main issues covered by IAS 8 are: 1. 2. 3. 4. Selection of accounting policies Changes in accounting policies Changes in accounting estimates Correction of prior period errors 2 Accounting concepts and policies Selection of accounting policies IAS 8 requires an entity to select and apply appropriate accounting policies complying with International Financial Reporting Standards (IFRSs) and interpretations to ensure that the financial statements provide information that is: 3 Accounting concepts and policies Selection of accounting policies • Relevant to the decision-making needs of users • Reliable in that way: – Represent faithfully the results of financial position of the entity – Reflect the economic substance of events and transactions and not merely the legal form – Are neutral, i.e. free from bias – Are prudent – Are complete in all material respects 4 Accounting concepts and policies 2. Changing accounting policies • The general rule is that accounting policies are normally kept the same from period to period to ensure comparability of financial statements over time. • IAS 8 requires accounting policies to be charged only if the change: – Is required by IFRSs or – Will result in a reliable and more relevant presentation of events or transactions 5 Accounting concepts and policies A change in accounting policy occurs if there has been a change in: 1. Recognition, e.g. an expense is now recognised rather than an asset 2. Presentation, e.g. depreciation is now included in cost of sales rather than administrative expenses, or 3. Measurement basis, e.g. stating assets at replacement cost rather than historical cost 6 Accounting concepts and policies Changes in accounting estimates The requirement of IAS 8 are: • The effects of a change in accounting estimate should be included in the income statement in the period of the change and, if subsequent periods are affected, in those subsequent periods • If the effect of the change is material, its nature and amount must be disclosed. 7 Accounting concepts and policies Changes in accounting estimates Examples of changes in accounting estimates are changes in : • The useful lives of non-current assets • The residual values of non-current assets • The method of depreciating non-current assets • Warranty provisions, based upon more up-todate information about claims frequency 8 Question • Which of the following is a change in accounting policy as opposed to change in estimation technique? 1. An entity has previously charged interest incurred in connection with the construction of tangible non-current assets to the income statement. Following the IAS32, it now capitalises this interest. 9 Question 2. An entity has previously depreciated vehicles using the reducing balance method at 40% pa. It now uses the straight line method over a period of five years 3. An entity has previously shown certain overheads within cost of sales. It now shows those overheads within administrative expenses 10 Question 4. An entity has previously measured inventory at weighted average cost. It now measures inventory using the first in first out (FIFO) method For each of the items, ask whether this involves a change to: 1. Recognition 2. Presentation 3. Measurement If the answer to any of these is yes, the change is a change in accounting policy 11 Answer • 1. This is a change in recognition and presentation. Therefore this is a change in accounting policy • 2. The answer to all 3 question is no. This is only a change in estimation technique • 3. This is a change in presentation and therefore a change in accounting policy • 4. This is a change in measurement basis and therefore a change in accounting policy 12 Prior period errors Prior period errors are omissions form, and misstatements in, the financial statements for one or more prior periods arising from failure to use information that • Was available when the FS for those periods were authorised for issue and • Could reasonably be expected to have been taken into account in preparing those FS 13 Prior period errors • Such errors include mathematical mistakes, mistakes in applying accounting polices, oversights and fraud • Current period errors that are discovered in that period should be corrected before the financial statements are authorised for issue 14 Prior period errors Correction of prior period errors Prior period errors are dealt with by: Restating the opening balance of assets, liabilities and equity as if the error had never occurred and presenting the necessary adjustment to the opening balance of retained earnings in the statement of changes in equity 15 Prior period errors Correction of prior period errors • Disclosing within the accounts a statement of financial position at the beginning of the earliest comparative period. • In effect this means that three statements of financial position will be presented within a set of financial statements: 1. At the end of the current year 2. At the end of the previous year 3. At the beginning of the pervious year 16 Prior period errors • Q: During 2001 a company discovered that certain items had been included in inventory at 31 December 2000 at a value of Rs2.5 million but they had in fact been sold before the year end. • The orginal figures reported for the year ended 31 December 2000 and the figures the current year 2001 are given below: 17 Prior period errors • Sales • Cost of sales • Gross profit • Tax • Net profit 2001 52100 (33500) ________ 18600 (4600) ________ 14000 2000 48300 (30200) ________ 18100 (4300) _______ 13800 18 Prior period errors • The cost of goods sold in 2001 includes the Rs2.5 million error in opening inventory. The retained earnings at 1st Jan 2000 were Rs11.2million. (Assume that the adjustment will have no effect on the tax charge) Show the 2001 income statement with comparative figures and the retained earnings for each year. 19 Answer 20 Answer 21