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Financial Accounting And Reporting: Halides Ltd Add in library

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Question :

(1) When finalising the financial statements for the year ended 30 June 2014 two significant errors were made and there is debate as to whether we should simply adjust the financial statements in the current year or change last year’s financial statements as well. The IT system of the company was installed 3 years ago at a cost of approximately $3.5 million and was estimated to last 10 years. However the latest technology advancements indicate that this was a very optimistic estimate and that the maximum life span of this equipment will probably be not more than 6 years in total with little or no residual value. It was also discovered in August 2014 that a machine worth $2.2 million purchased in January 2014 was erroneously written off to repairs and maintenance instead of being capitalised. Deberella the marketing director thinks we should just adjust this year’s figures to account for these problems but Peter indicated that it was slightly more complicated than that. Could you please give us some advice on this?
 
(2) A number of employees who work on our strategic management team have been with us for a number of years - at least 12 of them have been with us since the company commenced operations in 2006. In accordance with the Employee Bargaining Agreement (EBA) all employees are entitled to long service leave of 13 weeks if they remain in service for 10 years. They are also entitled to pro rata long service leave after 6 years of service. Our usual practice is to show the long service leave expense in the income statement when the employee actually takes leave and is paid. Of course we maintain a memorandum record of the number of days each employee is entitled to. Peter has indicated to us that he thinks we should consider treating this expense in a different manner, which seems complicated. The directors are wondering why we should complicate a very simple way of calculating long service leave – why not “stick with” recognising the expense when we pay for it? What do you think we should do and why?
 
(3) Peter, the new financial controller, has also informed the board that the company will need to present a statement of cash flows with the financial statements in addition to those statements already being presented, which really attracted a lot of attention. Some of the directors thought it was a waste of time to present this statement as it was merely a summarised cash book. Others were of the opinion that it could be useful but didn’t quite know how they would use it. The structure of the statement of cash flows also came into question with one of the directors suggesting that we merely needed to “get a printout” of the cash account and attach it. Another said that we couldn’t just do that as we needed to show “operating, instigating and financing” cash flows in the statement. Could you please clarify this matter for us?

 

 

Answer :

(1) As per the codification topic number 250-10-45-12, any entity can only and only change the accounting principles that has been followed only when the other method that is proposed to be followed is preferable. But the method of accounting that was being followed for the types of the transactions shall in no case be allowed to be terminated. In order to illustrate this, the method of accounting that was being followed for taxes or for the credit of taxes shall not be changed at the time of discontinuance. Nut a change in the estimated period of the asset that is of benefit for the asset, only if the same has been justified by the facts, shall be recognised as the change in the estimate of accounting. (EY, 2015)

 

As per IAS 8, Correction of prior period accounting error, the prior period errors of account are the omissions from the misstatements that took place in the prior financial statements that have resulted of them being unfit for use or the misuse of the reliable information that was available could have reasonable be expected to be obtained, at the time of the preparation of those financial statements.

The following are some of the examples of the accounting error:

1. Application of the accounting policies in the wrong way. This could include not recognizing the sale of the goods even when the same were transferred to the customer
2. Fraud.This would include the failure to notice the information that was available at the time of the preparation of the financial statements like not writing off the debtors even when the same was declared insolvent
3. Mathematical errors, like addition etc.
4. Omitting the recording of the transaction in the financial statements 

These errors must be separate from the changes that were made in the prior period estimates that were based upon the information that is best reflected in the conditions and the circumstances that existed as on the reporting date. The errors in the financial statements losses the confidence of its users in them. Therefore, the errors must be discovered and corrected in the timely manner so as to ensure that the users are capable of relying on the information that is contained on the financial statements.

The correction of the errors relating to the prior accounting periods must be corrected retrospectively in the financial statements. The retrospective application refers to the correction of the fact of correcting the comparative figures from the very beginning when the item started being recorded in the financial statements. The main reason behind the same is the fact that the current year figures have to be compared with the figures pertaining to the previous years. (IAS, 2015) And when is an error the same has to be corrected as the prior period item.

In the given case, the expected period for the IT system was changed and therefore, the same will go on to change the amount of the depreciation that is being charged and will change the depreciation that was charged in the previous years. And therefore, the same will change retrospectively and will relate to the previous years and will be reported as the prior period item 

 

(2) As per the AASB 30, accounting for the employee benefits and entitlements, all the liabilities that arise on account of the following:

1. Wages and salaries, annual leave and the sick leaves irrespective of whether they will be settled within the time span of 12 months of the reporting or not
2. Other such employee entitlement that are expected to be settled within the period of 12 months will be measured at their nominal values and amounts. All the employees’ entitlements shall be measured at the present value of the estimated future cash flows. The amounts have to be paid to the employees for the services that have been rendered by them to the employer.(AASB, 2015)

 

 

An income statement is the statement that shows the amounts that have been earned during the year and the amounts that have been spent during the same period. All the expenses that have been spent during the year will also include the expenses that have been paid to the employees in respect of their long service leaves.

The items that are included in the income statement are the items that are related with the regular course of business activities of the company. And therefore, the long term service leaves that are en-cashed during the year by the employees will go on to be included in the income statement. And this is the appropriate treatment for the same.

There is no reason for the creation of the provision for the same since the same is being paid on the regular basis.

(3) A cash flow statement is the statement that shows the cash that has been received by the organization and has been suspended by the organization within a year. 

The statement of cash flows is required to be prepared by the generally accepted accounting principles and are required to be included in the financial statements. The cash flow statement is required to be included in each and every year in which the income or the operating statement is included. It is due to this reason that the annual reports includes the statement of cash flows for each year. The main aim of a cash flow statement is to report as to whether the organization is able to generate the cash and when it is, how it is using it. When the organization knows where the cash is coming from, then it can assess the future requirements of cash of the organization as well. When the organizations represent their cash flow statements, then the companies combine the cash and cash equivalents since it considers the same as the short term investments that are used as the primary source of cash. (Wiley, 2015)

 

The main reason for the preparation of the cash flow statement are as follows:

1. The cash flow statement must always compare the actual cash flows with the predicted cash flows. This will help the organization in figuring out whether the things have worked out as were planned or not and when they have not, then the reasons behind the discrepancies. This will also help in planning the future course of action for the organization.
2. When an investor looks at the forecast of the cash flows, it tells him whether the money that is being earned and being received by the organization will be able to meet the expenses of the organization or not. If the amount of the cash flows are enough, then the business must arrange in order to obtain the amount of the money. This could be done either inside or outside the organization. The easiest way of meeting the short term cash crunches is borrowing the money from the bank. But there are some other methods too that could be used to fund the organization. (Bized, 2015)

Therefore, it is very important to prepare a cash flow statement.  

 

References:

Accounting-simplified.com, (2015). IAS 8 Correction of Prior Period Accounting Errors. [Online] Available at: https://accounting-simplified.com/standard/ias-8/correction-of-accounting-errors.html [Accessed 17 Jan. 2015].

Bized.co.uk, (2015). Biz/ed - Cash Flow Learning Trail | Biz/ed. [online] Available at: https://www.bized.co.uk/learn/business/accounting/cashflow/trail/cashflow.htm?page=4 [Accessed 17 Jan. 2015].

www.aasb.gov.au, (2015). AASB 30. [Online] Available at: https://www.aasb.gov.au/admin/file/content102/c3/AAS30_3-94.pdf [Accessed 17 Jan. 2015].

www.ey.com, (2015). Accounting changes and error corrections. [Online] Available at: https://www.ey.com [Accessed 17 Jan. 2015].

www.wiley.com, (2015). Cash flow statements. [Online] Available at: https://www.wiley.com/college/bcs/0471238236/king/ch13.pdf [Accessed 17 Jan. 2015].

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