PGDBFS 103

International Financial

Accounting and Policy

(IFAP)

Malinda Boyagoda BSc. Business Admin (USJP), ACA, ACMA, CGMA, CPA (Bots)

Tutorial 02 : International

Financial Reporting

Standards

May 2019

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INTERNATIONAL FINANCIAL REPORTING STANDARDS (IFRSs)

IFRSs are the set of most commonly adopted generally accepted accounting principles worldwide.

This module describes and demonstrates the requirements of selected IFRSs and also makes

comparison to US GAAPs to indicate differences and similarities.

The type of differences between US GAAPs and IFRS will include: definition differences, recognition

differences, measurement differences, alternative accounting treatments available, lack of

requirements or guidance, presentation differences, disclosure differences

1. Inventories

IAS 2 Inventories provide more extensive guidance compared to US GAAP, especially with regard to

determination of initial cost of inventory, cost formulae to be used in expensing inventory, subsequent

measurement, disclosures etc.

Recognition: An entity should initially recognise inventory when it has control of the inventory, expects

it to provide future economic benefits, and the cost of the inventory can be measured reliably.

Measurement: Initial measurement of inventories should be at cost. After initial recognition,

inventories should be measured at the lower of cost and net realisable value.

Definition of “Cost” - Cost is defined as all costs of purchase, costs of conversion and other costs

incurred in bringing the inventories to their present location and condition.

Costs of purchase comprise the purchase price, including import duties and other taxes (so far as not

recoverable from the tax authorities), transport and handling costs, and any other directly attributable

costs, less trade discounts, rebates and similar items.

The following costs should be excluded from cost of inventories and recognised as expenses as incurred:

abnormal amounts of wasted materials, labour or other production costs;

storage costs, unless those costs are necessary in the production process prior to a further

production stage;

administrative overheads that do not contribute to bringing inventories to their present

location and condition; and

selling costs.

US GAAP IFRS

A variety of inventory costing methodologies such as

LIFO, FIFO, and/or weighted-average cost are

permitted.

Reversals of write-downs are prohibited.

A number of costing methodologies such as FIFO or

weighted-average costing are permitted. The use of LIFO,

however, is precluded.

Reversals of inventory write-downs (limited to the

amount of the original write-down) are required for

subsequent recoveries.

Inventory measurement

In the past there was a difference between US GAAP and IFRS in that US GAAP referred to the lower of cost or

market whereas IFRS referred to the lower of cost and net realizable value.

The FASB released Accounting Standards Update 2015-11 on July 22, 2015, which eliminated this difference. Now

under both US GAAP and IFRS, inventory is measured at the lower of cost and net realizable value. Net realizable

value is defined as the estimated selling price less the costs of completion and sale.

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2. Property, Plant and Equipment

Recognition: An item of property, plant and equipment is recognised as an asset if: “it is probable that

future economic benefits associated with the item will flow to the entity; and the cost of the item can be

measured reliably.”

Measurement: Items of property, plant and equipment that qualify for recognition should be initially

measured at cost.

Definition of “Cost”

Cost includes the costs of acquiring or constructing the asset and costs incurred subsequently to add to or

replace part of the asset.

Cost is usually the price paid. The cost of a self-constructed asset is the aggregate of the cost of material,

labour and other inputs used in the construction. The cost of an item of property, plant and equipment

comprises:

The purchase price, including import duties and non-refundable purchase taxes less any trade

discounts and rebates

Directly attributable costs of bringing the asset to the location and condition necessary for it to

be capable of operating in the manner intended by management.

The initial estimate of the costs of dismantling and removing the item and restoring the site on

which it is located (decommissioning obligations) if the obligation is incurred either when the

item is acquired or as a consequence of having used the item during a particular period for

purposes other than to produce inventories during that period.

Borrowing costs on qualifying assets.

An item of property, plant and equipment could be acquired in exchange for another non-

monetary asset. The cost of items acquired as such are measured at fair value.

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Subsequent measurement

The ability to revalue assets (to fair value) under IFRS might create significant differences in the carrying

value of assets as compared with US GAAP.

US GAAP IFRS

US GAAP only allows the cost model

to be used to subsequently measure

fixed assets.

IAS 16 allows two options for reporting fixed assets subsequent to its initial

measurement at cost: (1) cost model (2) revaluation model

Cost model – cost less depreciation and any impairment losses.

Revaluation model – measured at fair value on the date of the revaluation.

If chosen, the revaluations must be done often enough for its carrying value

not be significantly different from fair value.

When revaluations are done the entire class of assets need to be re-valued.

Revaluation gains are credited directly to equity through other comprehensive

income.

Revaluation losses are taken to equity up to any previously recorded

revaluation gains. The remainder is expensed to the Income statement.

Revaluation surplus in equity may be transferred to retained earnings once it

is realized (either through use or sale)

Transaction event US GAAP IFRS

Yr 0 Purchase of a fixed asset

for $100,000

Dr PPE 100,000 Dr PPE 100,000

Yr 1 Useful life of the asset

estimated as 10 years

Cost model adopted and the

asset is depreciated at 10%.

PPE $

Cost 100,000

Dep’n (10,000)

NBV 90,000

Revaluation model adopted

PPE $

Cost 100,000

Dep’n (10,000)

NBV 90,000

Yr 2

Assets is revalued at the

end of Yr2 to $96,000.

PPE $

Cost 100,000

Dep’n (20,000)

NBV 80,000

Dr P&L (Dep’n) $10,000

PPE Option 1 Option 2

Cost 120,000 96,000

Dep’n (24,000) -

NBV 96,000 96,000

Dr: PPE - Revaluation gains : $16,000

Cr: Equity – Revaluation surplus : $16,000

Total asset value and equity reported under IFRS is higher by $16,000

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Y3

PPE $

Cost 100,000

Dep’n (30,000)

NBV 70,000

Dr P&L (Dep’n) $10,000

PPE $

Cost 96,000

Dep’n ($96k/7yrs) (13,714)

NBV 82,286

Dr P&L (Dep’n) $13,714

Annual depreciation charge (and hence the profits of

Yr 3) is less by 3,714 (13,714 – 10,000) under IFRS.

Yr 4 Asset disposed for

$90,000 at the

beginning of Yr 4

Disposal profit = Sale price –

NBV

[$90,000-$70000 = $20,000]

$

Disposal profit (90k – 82,286) 7,714

Transfer of revaluation surplus

from Equity to P&L

16,000

Total credit to P&L 23,714

Profit for the year is $3,714 more under IFRS.

Depreciation

Deprecation is based on estimated useful lives, taking residual value into account. It should reflect

the pattern in which the assets future economic benefits are expected to be consumed.

US GAAP IFRS

US GAAP generally does not require the component

approach for depreciation.

While it would generally be expected that the

appropriateness of significant assumptions within the

financial statements would be reassessed each reporting

period, there is no explicit requirement for an annual

review of residual values.

IFRS requires that separate significant components of

property, plant, and equipment with different economic

lives be recorded and depreciated separately. (e.g. Air

craft hull and engine are depreciated separately)

The guidance includes a requirement to review residual

values and useful lives at each balance sheet date.

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3. Investment property

Alternative methods or options of accounting for investment property under IFRS could result in

significantly different asset carrying values (fair value) and earnings.

US GAAP IFRS

There is no specific definition of investment property.

The historical-cost model is used for most real estate

companies and operating companies holding

investment-type property.

Investor entities—such as many investment

companies, insurance companies’, and employee

benefit plans that invest in real estate — carry their

investments at fair value.

The fair value alternative for leased property does not

exist.

Investment property is separately defined as property

(land and/or buildings) held in order to earn rentals

and/or for capital appreciation. The definition does not

include owner occupied property, property held for sale

in the ordinary course of business, or property being

constructed or developed for such sale. Properties

under construction or development for future use as

investment properties are within the scope of

investment properties.

Investment property is initially measured at cost

(transaction costs are included). Thereafter, it may be

accounted for on a historical-cost basis or on a fair

value basis as an accounting policy choice. When fair

value is applied, the gain or loss arising from a change

in the fair value is recognized in the income statement.

The carrying amount is not depreciated.

The election to account for investment property at fair

value may also be applied to leased property.

4. Impairment of assets

An asset cannot be carried in the balance sheet at more than its recoverable amount.

An impairment review compares the asset’s recoverable amount with its carrying value. If the

recoverable amount is lower, the asset is impaired and should be written down to the recoverable

amount.

IAS 36 applies to the impairment of all assets, unless specifically excluded from the standard’s scope.

Assets that are excluded include: Inventories, Deferred tax assets, financial assets that are included

within the scope of IFRS 9, Investment property that is measured at fair value, Biological assets related

to agricultural activity measured at fair value.

US GAAP IFRS

US GAAP requires a two-step impairment test and

measurement model as follows:

Step 1—The carrying amount is first compared with

the undiscounted cash flows. If the carrying amount

is lower than the undiscounted cash flows, no

impairment loss is recognized.

Step 2—If the carrying amount is higher than the

undiscounted cash flows, an impairment loss is

measured as the difference between the carrying

amount and fair value.

IFRS uses a one-step impairment test.

The carrying amount of an asset is compared with the

recoverable amount.

The recoverable amount is the higher of

(1) the asset’s fair value less costs of disposal or

(2) the asset’s value in use.

Fair value less costs of disposal represents the price that

would be received to sell an asset or paid to transfer a

liability in an orderly transaction between market

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Fair value is defined as the price that would be

received to sell an asset in an orderly transaction

between market participants at the measurement

date (an exit price).

participants at the measurement date less costs of

disposal.

Value in use represents entity-specific future pretax

cash flows discounted to present value by using a

pretax, market-determined discount rate.

If a reversal of an impairment loss has occurred IAS

36 allows the reversal to be recognized in the income

statement.

US GAAPs do not allow previously recognized

impairment losses to be reversed.

Example – calculation of impairment losses

Assume an asset with following characteristics:

Carrying amount 50,000

Selling price 40,000

Cost of disposal 1,000

Expected future cash flows 55,000

Present value of expected future cash flows 46,000

IFRS – IAS 36

Recoverable amount = higher of; net selling rice and value in use

= higher of : (40,000-1,000) or 46,000

= 46,000

Impairment = Carrying amount less recoverable amount = 50,000 – 46,000 = 4,000.

US GAAP

Carrying value = $50,000

Expected future cash flows (undiscounted) = $ 55,000

Expected future cash flows exceed the carrying amount, therefore, no impairment is recognized.

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5. Intangible assets

An intangible asset is defined as “an identifiable non-monetary asset without physical substance”.

The key characteristics of an intangible asset are that it:

is a resource controlled by the entity from which the entity expects to derive future

economic benefits;

lacks physical substance;

is identifiable to be distinguished from goodwill.

Examples of intangible assets – computer software costs, patents, copy rights, franchises, customer

loyalty, import quotas, brands

An intangible asset could be acquired in following ways:

i. Purchased from an external party. [e.g. a patent right purchased from its owner]

ii. Acquired in a business combination [e.g. Brand name of a subsidiary acquired by the

parent)

iii. Internally generated intangibles [e.g. loyalty of its own customers / value of the company’s

own brand name]

Purchased intangibles

Purchased intangible assets should be measured on initial recognition at cost.

Its useful life is assed as finite (e.g. a 5 year copy right) or infinite (e.g. brand name).

Finite intangibles – cost is amortised on a systematic basis over the useful life.

Infinite life – No amortization. Asset is assessed for impairment annually.

Intangible assets acquired in a business combination

The cost of an intangible asset acquired in a business combination is its fair value at the acquisition date.

Under both IAS 38 and US GAAP intangibles such as patents, trademarks and customer lists acquired in a

business combination should be recognized as an asset apart from goodwill.

Its useful life is assed as finite or infinite.

Internally generated intangibles

The cost of an internally generated intangible asset that meets the recognition criteria is the sum of

directly attributable expenditure incurred to create, produce and prepare the asset so that it is capable of

operating in the manner intended by management.

Examples of internally generated intangible assets: computer software costs, patents, copy rights,

franchises, import quotas, mining licenses.

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US GAAP IFRS

In general, both research costs and

development costs are expensed as incurred,

making the recognition of internally generated

intangible assets rare.

However, separate, specific rules apply in

certain areas. For example, there is distinct

guidance governing the treatment of costs

associated with the development of software for

sale to third parties.

Costs associated with the creation of intangible assets are

classified into research phase costs and development

phase costs.

(1) Costs in the research phase are always expensed.

(2) Costs in the development phase are capitalized, if all of the

following six criteria are demonstrated:

The technical feasibility of completing the intangible asset

The intention to complete the intangible asset

The ability to use or sell the intangible asset

How the intangible asset will generate probable future

economic benefits (the entity should demonstrate the

existence of a market or, if for internal use, the usefulness

of the intangible asset)

The availability of adequate resources to complete the

development and to use or sell it

The ability to measure reliably the expenditure attributable

to the intangible asset.

Development Expenditures on internally generated brands,

publishing titles, customer lists, and items similar in substance

cannot be distinguished from the cost of developing the

business as a whole. Therefore, such items are not recognized as

intangible assets.

Development costs initially recognized as expenses cannot be

capitalized in a subsequent period.

Revaluation model

US GAAP IFRS

Revaluation of intangible assets is not allowed. IAS 38 Allows the use of the revaluation model for intangible

assets with finite lives, but only if the intangible asset has a

price that is available on an active market (a condition rarely

met in practice).

Application of the revaluation model and accounting for

revaluation gains/losses is similar to PPE.

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6. Borrowing costs

Prior to the revision of IAS 23 – Borrowing costs in 2007, it provided two methods of accounting for

borrowing costs.

1. Benchmark treatment: expense all borrowing costs in the period incurred.

2. Allowed alternative treatment: capitalize borrowing costs to the extent they are attributable to the

acquisition, construction or production of a qualifying asset (an asset that takes a substantial

period to get ready for tis intended use/sale); other borrowing costs are expensed as incurred.

Adoption of the benchmark treatment was not acceptable under US GAAP. Under the IASB-FASB

convergence project, IAS 27 was revised in 2007, whereby the benchmark treatment was eliminated.

Borrowing costs under IFRS are broader and can include more components than interest costs under US

GAAP. E.g. IAS 23 specifically includes foreign exchange gains/losses on foreign currency borrowings.

7. Leases

The objective of IAS 17 is to prescribe, for lessees and lessors, the appropriate accounting policies and

disclosures to apply in relation to leases.

A lease is defined as an agreement whereby the lessor conveys to the lessee in return for a payment or

series of payments the right to use an asset for an agreed period of time.

Classification of leases

All leases must be classified as either finance leases or operating leases. The classification of leases

under IAS 17 is based on the extent to which risks and rewards incidental to ownership of a leased asset

lie with the lessor or the lessee.

Examples “risks” - possibilities of losses from idle capacity, technological obsolescence,

variations in return, because of changing economic conditions.

Examples “rewards” - expectation of profitable operation over the asset’s life and of gain from

the appreciation in value of the asset’s residual value

A finance lease is defined as “... a lease that transfers substantially all the risks and rewards incidental

to ownership of an asset”. Thus, a finance lease is an arrangement that has the substance of a financing

transaction for the lessee to acquire effective economic ownership of an asset.

An operating lease is “... a lease other than a finance lease”.

The following examples of situations, individually or in combination, would normally lead to a lease being

classified as a finance lease:

The lease transfers ownership of the asset to the lessee by the end of the lease term.

The lessee has the option to purchase the asset at a price that is expected to be sufficiently

lower than the fair value at the date the option becomes exercisable for it to be reasonably

certain, at the inception of the lease, that the option will be exercised.

The lease term is for the major part of the economic life of the asset, even if title is not

transferred.

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At the inception of the lease, the present value of the minimum lease payments amounts to at

least substantially all of the fair value of the leased asset.

The leased assets are of a specialised nature such that only the lessee can use them without

major modifications being made.

The following situations, individually or in combination, could also lead to a finance lease classification:

If the lessee can cancel the lease, the lessor’s losses associated with the cancellation are borne

by the lessee.

Gains or losses from the fluctuation in the residual’s fair value fall to the lessee (for example,

in the form of a rent rebate equalling most of the sales proceeds at the end of the lease).

The lessee has the ability to continue the lease for a secondary period at a rent that is

substantially lower than market rent.

Lease classification example:

On 1 Jan 2010 ABC entered into lease with XYZ for a pre-owned airplane, and the terms of the

lease are as follows:

a) Lease term – 7 years

b) Annual lease payments of $3,000 due on Dec 31

c) Fair value of the airplane at inception of the lease is $20,000

d) Airplane has a 10 year remaining economic life

e) Estimated residual value is $5,124.

f) ABC has the option to purchase the airplane at the end of the lease term for $8,000

g) Implicit interest rate of the lease is 5%

h) Ownership is not transferred at the end of the lease term

i) The lease may not be extended.

Should this lease be classified as finance lease or operating lease?

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Finance lease indicator Indicator present?

Transfers ownership of the asset to the

lessee at the end of the lease term.

The lessee bargain purchase option

The lease term is for the major part of

the economic life of the asset.

The present value of the minimum

lease payments amounts to at least

substantially all of the fair value of

the leased asset.

The leased assets are of a specialised

nature such that only the lessee can

use them without major modifications

being made.

The lease transfers ownership of the

asset to the lessee by the end of the

lease term.

The lessee has the option to purchase

the asset at a price that is expected to

be sufficiently lower than the fair

value.

The leased assets are of a specialised

nature

Conclusion

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Accounting for finance leases

A finance lease should be recorded in a lessee’s balance sheet both as an asset and as an obligation to pay

future rentals. At the commencement of the lease term, the sum to be recognised both as an asset and as a

liability should be the lower of the fair value of the leased asset and the present value of the minimum

lease payments.

Leased assets and leased liabilities are presented separately and gross in the balance sheet.

In calculating the present value of the minimum lease payments, the discount factor is the interest rate

implicit in the lease (i.e. the rate that will discount the future lease rentals to the fair value of the leased

asset at inception), if this is practicable to determine, if not, the lessee’s incremental borrowing rate shall

be used.

An asset leased under a finance lease should be depreciated over the shorter of the lease term and its

useful life, unless there is a reasonable certainty that the lessee will obtain ownership of the asset by the

end of the lease term, in which case it should be depreciated over its useful life.

An entity applies IAS 36 to determine whether a leased asset has become impaired in the same way as for

assets that are owned by the entity.

Accounting for operating leases

Operating leases should not be capitalised. Lease payments made under operating leases should be

recognised as an expense on a straight-line basis over the lease term, unless another systematic basis is

more representative of the time pattern of the user’s benefit.

The requirement to spread the lease payments on a straight-line basis over the lease term applies even if

the payments are not made on such a basis.

Accounting for sale and leaseback transactions - Finance leasebacks

A finance leaseback is essentially a financing operation for the seller. The seller/lessee never disposes of

the risks and rewards of ownership of the asset, and so it should not recognise a profit or loss on the sale.

Any apparent profit (that is, the difference between the sale price and the previous carrying value) should

be deferred and amortised over the lease term. This treatment will have the effect of adjusting the overall

charge to the income statement, for the depreciation of the asset, to an amount consistent with the asset’s

carrying value before the leaseback.

Illustration – Sale and lease back

Entity A owns a freehold interest in a building. Entity A sells the building to bank B and leases it back for a

period of 20 years. This is believed to be a major part of the building’s economic life. The main facts about

the building and the lease are as follows:

Book value of the building $700,000

Sales proceeds $1,000,000

Lease rentals years 1 - 20 $88,218

Interest rate implicit in lease 7%

Present value of minimum lease payments $1,000,000

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The leaseback of the building is for a major part of the building’s economic life, and so the lease should be

treated as a finance lease. Entity A will therefore record the following double entries:

On sale:

Dr Cash $1,000,000

Cr Building $700,000

Cr Deferred income $300,000

to recognise the sale of the building.

Dr Assets held under finance lease $1,000,000

Cr Finance lease creditor $1,000,000

to set up the finance leased asset and liability.

Years 1-20:

Dr Deferred income $15,000

Cr Profit & loss $15,000

to release the deferred income over the lease term (C300,000/20).

Dr Depreciation $50,000

Cr Assets held under finance lease $50,000

to recognise depreciation on the leased asset (C1,000,000/20).

Dr Interest (profit & loss) X

Dr Finance lease creditor (88,218 − X)

Cr Cash 88,218

to record rentals paid.

Operating leases – Disclosures

Lessees shall make the following disclosures for operating leases:

The total of future minimum lease payments under non-cancellable operating leases for each of the

following periods:

a) not later than one year;

b) later than one year and not later than five years;

c) later than five years.

US GAAPS require disclosure of the amount to be paid in each of the next 5 years (year 1 to 5) by year, as

well as the amount to be paid later than 5 years as a single amount.

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US GAAP vs IFRS

US GAAP IFRS

The guidance for leases (ASC 840, Leases) applies

only to property, plant, and equipment.

Although the guidance is restricted to tangible

assets, entities can analogize to the lease guidance

for leases of software.

The scope of IFRS lease guidance (IAS 17, Leases) is not

restricted to property, plant, and equipment. Accordingly, it

may be applied more broadly (for example, to some intangible

assets and inventory).

The guidance under ASC 840 contains four specific

criteria for determining whether a lease should be

classified as an operating lease or a capital lease by

a lessee. The criteria for capital

lease classification broadly address the following

matters:

Ownership transfer of the property to the

lessee

Bargain purchase option

Lease term in relation to economic life of the

asset

Present value of minimum lease payments in

relation to fair value of the leased asset

The criteria contain certain specific quantified

thresholds such as whether the lease term equals or

exceeds 75% of the economic life of the leases asset

(“75% test”) or the present value of the minimum

lease payments equals or exceeds 90% of the fair

value of the leased property (“90% test”).

The guidance under IAS 17 focuses on the overall substance of

the transaction.

Lease classification as an operating lease or a finance lease

(i.e., the equivalent of a capital lease under US GAAP) depends

on whether the lease transfers substantially all of the risks and

rewards of ownership to the lessee.

Although similar lease classification criteria identified in US

GAAP are considered in the classification of a lease under

IFRS, there are no quantitative breakpoints or bright lines to

apply (e.g.,90%).

Under IFRS there are additional indicators/potential

indicators that may result in a lease being classified as a

finance lease. For example, a lease of special-purpose assets

that only the lessee can use without major modification

generally would be classified as a finance lease. This would

also be the case for any lease that does not subject the lessor to

significant risk with respect to the residual value of the leased

property.

Under ASC 840, land and building elements

generally are accounted for as a single unit of

account, unless the land represents 25% or more of

the total fair value of the leased property.

Under IAS 17, land and building elements must be considered

separately, unless the land element is not material.

This means that nearly all leases involving land and buildings

should be bifurcated into two components, with separate

classification considerations and accounting for each

component.

The lease of the land element should be classified based on a

consideration of all of the risks and rewards indicators that

apply to leases of other assets.

Accordingly, a land lease would be classified as a finance lease

if the lease term were long enough to cause the present value

of the minimum lease payments to be at least substantially all

of the fair value of the land.

In determining whether the land element is an operating or a

finance lease, an important consideration is that land normally

has an indefinite economic life.

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IFRS 16 Leases - IASB / FASB Convergence project

The IASB published IFRS 16 Leases in January 2016 with an effective date of 1 January 2019. The new

standard requires lessees to recognise nearly all leases on the balance sheet which will reflect their right to

use an asset for a period of time and the associated liability for payments.

Under existing rules, lessees account for lease transactions either as operating or as finance leases,

depending on complex rules and tests which, in practice, these result in all or nothing being recognised on

balance sheet for sometimes economically similar lease transactions.

The impact on a lessee’s financial reporting, asset financing, IT, systems, processes and controls is

expected to be substantial. Many companies lease a vast number of leased items, including cars, offices,

equipment, power plants, retail stores, cell towers, aircrafts etc.

Therefore, lessees will be greatly affected by the new leases standard. The lessors’ accounting largely

remains unchanged

The distinction between operating and finance leases is eliminated for lessees, and a new lease asset

(representing the right to use the leased item for the lease term) and lease liability (representing the

obligation to pay rentals) are recognised for all leases (except for the exempted short term leases and low

value asset leases)

Lessees should initially recognise a right-of-use asset and lease liability based on the discounted payments

required under the lease.

The new standard will affect virtually all commonly used financial ratios and performance metrics such as

gearing, current ratio, asset turnover, interest cover, EBITDA, EBIT, operating profit, net income, EPS,

ROCE, ROE and operating cash flows. These changes may affect loan covenants, credit ratings and

borrowing costs, and could result in other behavioral changes. These impacts may compel many

organisations to reassess certain ‘lease versus buy’ decisions.

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DISCLOSURE AND PRESENTATION STANDARDS

8. Statement of cash flows

IAS 7 requires all entities to prepare a cash flow statement as an integral part of their financial statements

for each period for which financial statements are presented.

Cash flows must be classified and reported according to the activity which gave rise to them. There are three standard activities:

operating activities;

investing activities; and

financing activities.

Cash flows from operating activities

IAS 7 defines operating activities as “the principal revenue-producing activities of the entity and other

activities that are not investing or financing activities”.

Examples of cash flows that are expected to be classified as operating activities:

receipts from the sale of goods and the rendering of services;

payments to suppliers for goods and services;

payments to and on behalf of employees;

payments and refunds of income taxes

Where an entity deals or trades in securities, this is equivalent to inventory in a retail entity, and this

activity will be treated as an operating activity. Similarly, financial institutions will classify cash flows in

relation to loan advances to customers within operating activities.

Operating cash flows could be reported using either the direct method or the indirect method. The

standard encourages, but does not require, reporting entities to use the direct method.

Cash flow from investing activities

IAS 7 defines ‘investing activities’ as “the acquisition and disposal of long-term assets and other

investments not included in cash equivalents”.

Examples of cash flows expected to be classified as investing activities:

Payments to acquire long-term assets (e.g. property, plant and equipment)

Receipts from sales of long-term assets.

Payments to acquire equity or debt instruments of other entities.

Receipts from the sale of equity or debt instruments of other entities held as investments.

Advances and loans made to other parties (other than those made by a financial institution).

Receipts from the repayment of advances and loans made to other parties (other than those received by a financial institution).

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Cash flow from financing activities

IAS 7 defines ‘financing activities’ as “activities that result in changes in the size and composition of the

contributed equity and borrowings of the entity”.

Examples of the cash flows expected to be classified as arising from financing activities:

receipts from the issue of shares or other equity instruments;

payments to acquire or redeem the entity’s shares;

receipts from the issue of debentures or other borrowings;

repayments of amounts borrowed;

Interest and dividend cash flows

IAS 7 does not dictate how dividends and interest cash flows should be classified, but rather allows an entity to determine the classification appropriate to its business.

It is generally accepted that dividends received and interest paid or received in respect of a financial institution’s cash flows will be classified as operating activities, but the classification is not so clear cut for other entity types.

The standard allows the following presentation for interest and dividends received and paid, provided that the presentation selected is applied on a consistent basis from period to period:

Interest and dividends received in operating or investing activities.

Interest and dividends paid in operating or financing activities.

9. Events after the reporting period

IAS 10 applies to the accounting and disclosure of events that happen between the balance sheet date and

the date when the financial statements are authorised for issue.

IAS 10 distinguishes between events that require changes in the amounts to be included in the financial

statements (‘adjusting events’) and events that only require disclosure (‘non-adjusting events’). The

classification of an event depends on whether it provides additional information about conditions already

existing at the balance sheet date, or it indicates conditions that arose after the balance sheet date.

Adjusting event - an event that provides additional evidence relating to conditions that existed at the

balance sheet date.

Example:

The settlement of a court case after the balance sheet date that confirms that the entity had a present

obligation at the balance sheet date

A non-adjusting event - an event that arises after the balance sheet date that is indicative of conditions

that arose after the balance sheet date

An entity discloses the nature of the event, and an estimate of its financial effect, for each material

category of non-adjusting event.

Example:

The destruction of a major production plant by fire after the balance sheet date.

Commencing major litigation arising solely out of events that occurred after the balance sheet date.

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10. Related party disclosures

IAS 24’s objective is to ensure that financial statements contain the disclosures necessary to draw

attention to the possibility that the reported financial position and results might have been affected by the

existence of related parties and by transactions and outstanding balances, including commitments, with

them.

‘Related parties’ of an entity includes:

Persons with control or joint control over the reporting entity;

Persons with significant influence over the reporting entity; or

Members of the key management personnel of the reporting entity or of a parent of the reporting entity.

Members of the same group (e.g. fellow subsidiaries of a group)

11. Earnings per share

Earnings per share (EPS) is a ratio that is widely used by financial analysts, investors and other users to

gauge an entity’s profitability and to value its shares. Its purpose is to indicate how effective an entity has

been in using the resources provided by the ordinary shareholders, and to assess the entity’s current net

earnings. EPS also forms the basis for calculating the ‘price-earnings ratio’, which is widely used by

investors and analysts to value shares.

IAS 33 prescribes the principles for the determination and presentation of EPS.

IAS 33 applies to the following entities:

Those whose ordinary shares are traded in a public market (e.g. a domestic or foreign stock

exchange).

Those that file, or are in the process of filing, financial statements with a securities

commission or other regulatory body for the purpose of issuing ordinary shares in a public

market (that is, not private placements).

Basic EPS should be calculated by dividing the profit or loss for the period attributable to the parent

entity’s ordinary equity holders by the weighted average number of ordinary shares outstanding during

the period.

12. Operating segments

The core principle (and objective) of IFRS 8 is to require an entity to disclose information that enables users

of the financial statements to evaluate the nature and financial effects of the business activities in which the

entity engages and the economic environments in which it operates

IAS 33 applies to the following entities:

Those whose ordinary shares are traded in a public market.

Those that file, or are in the process of filing, financial statements with a securities commission or

other regulatory body for the purpose of issuing ordinary shares in a public market.

An operating segment is defined as a component of an entity:

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that engages in business activities from which it could earn revenues and incur expenses (including revenues and expenses relating to transactions with other components of the same entity);

whose operating results are regularly reviewed by the entity’s CODM to make decisions about resources to be allocated to the segment and assess its performance; and

for which discrete financial information is available.

An entity should disclose information about reportable segments, to enable users of the financial statements

to evaluate the nature and financial effects of the business activities in which the entity engages and about

the economic environments in which it operates.

Specified amounts that should be disclosed relating to each reportable segment o revenues from external customers; o inter-segment revenue; o interest revenue; o interest expense; o depreciation and amortisation; o income tax expense or income; and o material non-cash items other than depreciation and amortisation