CHAPTER 11: COMPANY FINANCIAL STATEMENT

LEARNING OBJECTIVES:
1. Record and accounts for transactions and events resulting in income, expenses, assets,
liabilities and equity in accordance with the appropriate basis of accounting and the laws,
regulations and accounting standards applicable to the financial statement
2. Record and account for changes in the ownership structure and ownership interests in an
equity
3. Identify the main components of a set of financial statements and specify their purpose
and interrelationship
4. Prepare and present a statement of financial position, statement of profit or loss,
statement of changes in equity and statement of cash flow from the accounting records and trial
balance in a format which satisfies the information requirements of entity
Specific syllabus learning outcomes are: 1d, e, 3a, c

Topic list
1. The nature of limited company
2. Equity: Share capital
3. Equity: retained earnings and other reserves
4. Dividends
5. Rights issues and bonus issues of shares
6. Non-current liabilities (debt capital)
7. Provision (IAS 37)
8. Tax
9. Revenue
10. The regulatory framework for company financial statement

The nature of a limited company

Limited companies are the most common form of a private sector business organization.
Businesses that are not limited companies tend to be small in size, or provide specialized
professional services: accountants or solicitors
The private company may not issue securities (shares and loan stock) to the public at large. A
public company may do so, either through a public listing or otherwise.
Limited companies has a separate legal existence, independent of its owners. Then, the way it
raises capital from its owners, and is accountable to its owners for the capital that it holds, is
more formalized than for sole traders or partnerships.
Particular features of company accounting relate to: owners’ capital (equity); debt capital;
provision and tax
1.1. Share capital and shareholders

Initial capital – divided into equal size (shares).

The company’s initial capital is divided into units of equal size, known as shares, issued to
individuals or companies – shareholders.
The total capital raised is referred as equity share capital
Ownership of a share entitles the shareholder to receive payment of share of profit - dividend
By law, shares must have par value – nominal value
Equity share capital
By law, shares must have par value (‘nominal value’)
All shares of same type (‘class’) have same par value
Distinguish par value, issue price and market price:
Issue price: the price that share was originally issued by the company to raise capital
The original issue price of a share matters to a company because it is the amount of cash raised
for each share issued.
I.e: £1 share of a company may be issued at price of £1.5 per share when the company is first
incorporated. So, £1/share is par value or nominal value and £1.5 per share is issue price
Current market value: the market value of shares if the shares of the company are traded on
stock market
The current market value of share has no bearing on company financial statement at all because
this is the price at which an existing shareholding is sold by one person to another person.
1.2 Public and private companies
Companies are either public or private companies.
1.2.1 A public company
Plc – abbreviate of public limited company. A public company may sale its securities (share and
loan stock such as bonds) persons who are unrelated to the company (“the public”). It is subject
to stricter regulation than private companies. In particular, a public company must have issued
capital of at least £50,000. Before it can trade, at least £12,500 plus the whole of any premium on
issue must have been received as cash. That means that a public limited company must have net
assets (assets less liabilities) of at least £12,500. Note that all companies whose shares are traded
on a stock market must plc but not all plcs have their shares traded on a stock market. A
company may choose not to list on an exchange or may not meet the requirements for listing
The biggest advantage of forming a PLC is that it grants the ability to raise capital by issuing
public shares. A listing on a public stock exchange attracts interest from hedge funds, mutual
funds, and professional traders as well as individual investors. That generally leads to far more
capital for investment in the company than a private limited company can amass. A PLC thus has
greater potential to grow and expand, start new projects, buy more rivals, pay off debt, and fund
research and development
A PLC thus has greater potential to grow and expand, start new projects, buy more rivals, pay off
debt, and fund research and development.
On the other hand, there's much more regulation for a PLC in Great Britain, as there is for a
public corporation in the U.S. They are required to hold annual general meetings open to all
shareholders and are held to higher standards of transparency in accounting.
1.2.2 A private company
A private company ends its name with Limited' or 'Ltd'. A private company is any company that
is not a public company. Private companies cannot offer their securities for sale to the public at
large. There is no minimum level of net assets.
1.3 Accounting for companies

Companies have distinctive characteristics to be accounted for. The following are examinable in
Accounting
Equity (owners' capital comprising share capital, retained earnings and other reserves), rights
issues and bonus issues
Forms of debt capital (non-current liabilities)
Provisions
Tax on profits
Dividends

2 Equity: share capital

2.1 Equity shares and preference shares
Ordinary shares are referred as 'equity share capital', each share represents an equal interest in
the ownership of the company.
Preference shares are issued by the company to their holders to a dividend out of profits
(preference dividend) before equity shareholders are entitled to any equity dividend. Once the
preference dividend has been paid, the remaining profit belongs to the equity shareholders.
2.2 Issued and called-up share capital
The issued share capital (allotted share capital): the par value of shares that have actually been
issued to shareholders
If a company issues shares but 'calls up' the issue amounts in instalments, instead of raising cash
immediately, it then has called-up share capital that is less than its issued share capital.
If a company has called-up share capital, but is waiting for payment from some shareholders, it
has paid up capital of less than its called-up capital
Worked example: Called-up share capital
A company issues 100,000 shares of £1 at par value, but only calls up 75p per share as a first
instalment. The issued share capital is £100,000, but the called -up share capital is only £75,000
The figure in the statement of financial position will be £75,000.
In a company's statement of financial position, the figure for share capital is the called-up
share capital (or paid up capital if part of share capital is unpaid).
Statement of financial position (extract)
Equity £’000
Share capital: equity shares of 50p each (81,5m shares) 40,750
Share capital: 6% irredeemable preference shares of £1 9,000
(9m shares)
49,750

Worked example: Paid up capital

A company issues 1 million shares of £1 at par, and asks for payment in full on issue, but it is
still owed £5,000 by shareholders who have yet to pay what they owe. The called-up share
capital is £1,000,000, but the paid up share capital is only £995,000. In the statement of financial
position, the share capital (a credit balance) is the called-up share capital of £1,000,000, and the
unpaid capital of £5,000 is shown as an 'other receivable' (a debit balance).
2.3 Irredeemable and redeemable preference shares
If the company is not entitled to buy back or not redeem at some stage in the future, known as
irredeemable preference shares, are treated as share capital.
In an exam question, you can assume that irredeemable preference shares are part of share
capital unless you are told otherwise.
Preference shares which the company is entitled to buy back from its shareholders or 'redeem' at
some future time are called redeemable preference shares, treated as non- current liabilities (debt
capital).
Exam question it will be specified whether preference shares are redeemable or irredeemable.
4. Dividends
4.1 Equity dividends
The dividend to be paid to the shareholders is decided by the board of directors. The dividend
rate can be expressed in a number of different ways.
Worked example: Equity dividends 1
Equity dividends can be quoted in terms of the pence amount each share receives, for example
the equity share information may appear in the trial balance as follows:
DR CR
£
Ordinary share capital (£1 per share) 400,000

The company paid an equity dividend of 5p per share.

This means that the dividend paid amounts to £20,000. This is calculated by multiplying 400,000
shares by 5p.
Number of shares in issue
When you calculate dividends, it is very important that you establish the number of shares in
issue
If the nominal value of shares is £1, and the value of the ordinary share capital account is
£500,000, that means there are 500,000 ordinary shares in issue (£500,000/£1).
If the nominal value of the shares was £2, and the value of the ordinary share capital account was
£500,000, that means there are 250,000 ordinary shares in issue (£500,000/£2).
If the nominal value of shares is 50p, and the value of the ordinary share capital account is
£500,000, that means there are 1,000,000 ordinary shares in issue (£500,000/£0.50).
Worked example: Equity dividends 2
If the nominal value of the share is 50p, and the value of the equity share capital is £400,000, the
trial balance would appear as follows:
DR CR
£
Ordinary share capital (50p per share) 400,000

The payment of an equity dividend of 5p per share would now result in a total dividend of
£40,000. This is because there are actually 800,000 50p shares in issue.
4.2 Preference dividends
A company may also issue preference shares, which entitle the holders to a dividend out.of
profits (preference dividend) before the equity (ordinary) shareholders are entitled to any equity
dividend
Preference shares are often expressed as follows:
DR CR
£
7% £1 irredeemable preference shares 100,000

This means that the preference dividend to be paid will be £7,000 (£100,000x7%)
4.3 Calculating the dividends from retained earnings
Retained earnings comprise the profits that the company retains within the business, i.e. profits
that have not been paid out as dividends or transferred to any other reserve.
In some cases, you may be expected to calculate the dividends paid during the period without
any information regarding the dividend rate to be paid, Instead, you need to understand the
composition of retained earnings
Retained earnings = OB retained earnings +/- profit/loss for the year - dividends paid in the year
This equation can be used to calculate dividends paid.
Worked example: Dividends and retained earnings
The retained earnings of a company at 1 January 20X5 were £800,000. The retained earnin 31
December 20X5 are £1,140,000. The profit for the year is £370,000.
Requirement: What was the total dividend paid during the year?
Solution:
The total dividend paid during the year is £30,000

RETAINED EARNINGS
£ £
Dividends (bal. fig.) 30,000 B/f 800,000
C/f 4,000 Profit for the year 370,000
1,170,000 1,170,000

5 Rights issues and bonus issues of shares

5.1 A rights issue of shares
Definition:
Rights issue: New shares are offered to existing owners in proportion to their existing
shareholding, usually at a discount to the current market price.
For example, a company with 20 million shares in issue decides to raise more cash by issuine 5
million new shares. It can offer the new shares to existing owners in ai for 4 rights issue: each
existing owner is offered one new share for every four currently held (20 million/5 million = 4)
Interactive question 1: Rights issue
The statement of financial position of Omnibus plc contains the following information.
ASSETS £’000
Non-current assets 18,600
Current assets 2,900
Total assets 21,500
EQUITY AND LIABILITIES
Equity
Share capital: equity shares of 20p each 6,000
Share premium 5,700
Retained earnings 7,000
Total equity 18,700
Total liabilities 2,800
Total equity and liabilities 21,500

The company decides to make a 1 for 3 rights issue for cash, fully paid, at a price of £1.80 per
share.
Requirement
What are the balances for (a) current assets, (b) share capital and (c) share premium after the
rights issue?

5.2 Bonus issues of shares

Definition: Bonus issue (or capitalisation issue or scrip issue): An issue of fully paid shares to
existing owners, free of charge, in proportion to their existing shareholdings.
A bonus issue does not involve any cash inflow for the company. The company converts
some of its reserves (share premium or retained earnings or both) into new fully paid share
capital issued at its par value. The double entry for the par value of the bonus share issed is
DEBIT Share premium OR retained earnings (OR both)
CREDIT Share capital
The balance on share premium cannot (by law) be paid to owner dividend few transactions that
can ever reduce share premium. One of these is a bonus issue of shakes.
In an exam you should assume that a company uses the share premium account as any an e can
before using retained earnings, unless told otherwise.
Worked example: Bonus issue
A company has the following statement of financial position.
£’000
ASSETS 30,000
EQUITY AND LIABILITIES
Equity
Share capital: equity shares of £1 each 5,000
hare premium 1,300
etained earnings 9,700
Total equity 16,000
otal liabilities 14,000
Total equity and liabilities 30,000
The company decides to make a 2 for 5 bonus issue of shares.
The company is issuing (£5m/5 x 2) = 2,000,000 new shares of £1 each to its owners, in
proportion to their existing shareholdings. It will:
£ £
DR. Share premium (total balance of share premium) 1,300,000
DR. Retained earnings (remainder) 700,000
CR. Shared capital 2,000,000

The statement of financial position after the issue shows no change in assets or liabilities, but
equity has changed, as follows:
 £’000
ASSETS 30,000
EQUITY AND LIABILITIES
Equity
Share capital: equity shares of £1 each (£5m + 7,000
£2m)
Share premium (£1.3m - £1.3m) 0
Retained earnings (£9.7m - £0.7m) 9,000
Total equity 16,000
Total liabilities 14,000
Total equity and liabilities 30,000

Interactive question 2: Bonus issue

Statement of financial position of Canvat plc at 31 December 20X1 is as follows:
£’ 000
ASSETS 2,000
EQUITY AND LIABILITIES
Equity
Share capital: 800,000 50p equity shares 400
Share premium 500
Retained earnings 300
Total equity 1,200
Total liabilities 800
Total equity and liabilities 2,000

The directors decide to make a 1 for 5 bonus issue, followed by a 1 for 3 rights issue at £1.60 per
share.
Requirement: Show the revised statement of financial position of Canvat plc after both share
issues have taken place.
5.2.1 Calculating the dividends from retained earnings where there has been a bonus issue
during the year
If there is no share premium account, or you are specifically told to use the retained earnings
account for the issue of bonus shares, you should understand how this transaction will affect the
calculation of dividends from the retained earnings account.
Worked example: Bonus issue, dividends and retained earnings
Using the information from the Worked Example, suppose that the company held £100,000
equity shares of £1 each. During the year the company decided to make a 1 for 10 bonus issue of
shares from the retained earnings account.
Requirement: Calculate the dividends paid during the year.
6. Non-current liabilities

Non-current liabilities include debt securities (debentures, loan stock and bonds), bank loans
and redeemable preference shares.
Debt securities (debentures, loan stock and bonds): the securities that normally issued as
certificates, each with a par value, in return for cash (the loan principal). The certificate's owner
is legally entitled to interest on its par value, and is entitled to repayment of the principal 'at
maturity', i.e, when the loan period reaches its end at a specifiable future date. This is known as
redemption. The company has a contractual obligation to pay interest on debt securities. Interest
due for the period is recorded as finance cost within the statement of profit or loss. Unpaid
interest at the year end must be included in the statement of financial position within accruals
and other payables.
Debt securities due for redemption within 12 months is shown under current liabilities. The
other securities is classified as non-current liabilities.
6.1 Accounting for non-current liabilities
On issue of debt:
DEBIT Cash
CREDIT Non-current liabilities
On repayment of debt:
DEBIT Non-current liabilities
CREDIT Cash
Notes: Any redeemable preference shares in issue will also be treated as liabilities (either
current or non-current) rather than equity
7. Provisions
Liability: 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
Provisions are liability of uncertain timing or amount of a company. Provisions are shown
separately from other liability because the amount of a provision can be measured only by using
a substantial degree of estimation.
IAS 37 aims to ensure that: appropriate recognition criteria and measurement bases are applied to
provisions sufficient information is disclosed in the notes to the financial statements to enable
users to understand their nature, timing and amount.
Under IAS 37, provision is recognized if all the below criteria that must be fulfilled
- The business has a present obligation to incur the expenditure (eg, a legal obligation - such
sales made with a warranty guarantee, a legal claim against the business); and
- It is probable (ie, more than 50% likely) that the expenditure will be incurred.

There is a significant amount of judgement required in determining whether a provision is

needed and the amount to be provided. The accountant will often seek advice from other
professionals, such as lawyers when considering legal claims and production managers when
considering warranties.
7.1 Accounting for provisions

Stage 1: Create provision

When provision is created, an expense is recorded in the SOPL and a corresponding liability is
recorded in the SOFP. The journal entry as follow:
DEBIT Expense (statement of profit or loss)
CREDIT Current liabilities (statement of financial position)
Stage 2: Incur expenditure
When the expenditure for which the provision was created is incurred, it should be charged
against the provision. If the expenditure is greater than the amount provided, an additional charge
will be required in the SOPL.
The journal entry to record the use of a provision where the expenditure exceeds the amount
provided for is:
DEBIT Expense (statement of profit or loss) – the exceed amount of provision
DEBIT Current liabilities (statement of financial position) - provision
CREDIT Cash at bank – the actual amount to be expended
Stage 3: Remove excess provision
If the actual expenditure was less than the amount provided, any excess provision remaining in
the SOFP should be released to profit or loss by recording the journal entry:
DEBIT Current liabilities (SOFP)
CREDIT Expense (SOPL)
Worked example: Provision for legal claim
An employee of Stop Ltd damaged his hand whilst using machinery that was not fitted with
adequate safety guards. In the year ended 31 July 20X7, the employee sued Stop Ltd for
£100,000 in respect of the damages he suffered. Stop Ltd's lawyers have indicated that the
employee is 80% likely to win the case and agree that the amount payable is likely to be
£100,000. They are not sure when the amount will be settled, but it is expected to be within the
next 12 months.
Provision for claims under warranty
When a business first sets up a warranty provision, the full amount of the provision is debited to
expenses and credited to current liabilities, as shown above. If any warranty claims arise during
the year, the costs incurred are charged against the warranty provision:
DEBIT Provisions (statement of financial position)
CREDIT Cash/payables (statement of financial position) with the amount of costs incurred.
In the following year, the business may determine that the level of warranty claims is expected to
increase or to decrease and so the warranty provision should be adjusted:
 Calculate the new warranty provision required.
 Compare it with the existing balance on the warranty provision account (ie, the balance b/d
from the previous accounting period less any costs charged against the provision in the year.
 Calculate increase or decrease required.

(1) If a higher provision is required now:

DEBIT Provisions (statement of financial position)

CREDIT Expenses (statement of profit or loss) with the amount of the increase.
(2) If a lower provision is needed now than before:

DEBIT Provisions (statement of financial position)

CREDIT Expenses (statement of profit or loss) with the amount of the decrease.

Worked example: Warranty provision

A company sells a product with a standard two-year warranty. The company estimates that 5%
warranties will be invoked*, at a cost of £15,000.

The following year, due to a change in material used, the company estimated that only 3% of
warranties would be invoked, at a cost of £9,000. There have been no claims against the
warranty provision in the year.

8. Tax
Any tax due on profits is the company's liability and therefore must be shown:
- As a deduction in the statement of profit or loss
- As a payable in the statement of financial position

Any over-provision or under-provision in previous reporting periods is credited/debited in the

current reporting period’s SOPL
8.1 Accounting for tax
When a tax liability arises and is identified, the double entry to record it is:
DEBIT Tax expense (statement of profit or loss) X
CREDIT Tax payable account X
When a tax payment is made:
DEBIT Tax payable account X
CREDIT Cash at bank X
At the end of the reporting period, any balance on the tax payable account is carried down.
Usually this is a credit balance and is shown as 'Tax payable' under current liabilities on the
statement of financial position.
Worked example: Tax 1
Hardwork plc has estimated that £90,000 is payable in tax on the profits earned in the year ended
31 December 20X1. None of this tax has been paid by the date of the statement of financial
position.
The tax will be accounted for as follows:
TAX PAYABLE ACCOUNT
20X1 £ 20X1 £
Balance c/d 90,000 Tax expenses (SOPL) 90,000
90,000
20X2
Bal c/d 90,000

Since a company's statement of profit or loss is usually prepared before the tax due is agreed
with HMRC, the expense in the statement of profit or loss is an estimate. It nearly proves to be
too high (over-provision) or too low (under-provision). Instead of going back to financial
statements for the reporting period and changing them:
Any over-provision from the previous reporting period reduces the tax expense for subsequent
reporting period
Any under-provision from the previous reporting period increase the tax expense for
subsequent reporting period

Worked example: Tax 2

In the year to 31 December 20X2, Hardwork plc has a credit balance brought down on its
payable account of £90,000 (1), It agrees with HMRC that the tax due on 20X1's profits is
£87,000, which it pays in February 20X2 (2) Its over-provision for 20X1 is therefore £3,000 (3).
It estimates that its tax due on 20X2's profits should be £100,000 (4)
Hardwork plc's net tax expense in the statement of profit or loss for the year to 31 December
20X2 will be £100,000 (4) less the over-provision of £3,000 (1) in the previous reporting period
i.e, £97,000. Its statement of financial position current liability is £100,000 (5).

TAX PAYABLE ACCOUNT

20X2 20X2
Cash (2) Bal b/d (1)
Statement of profit or loss: over-provision Statement of profit or loss: charge
20X1 for 20X2
Bal c/d (5)

Note that any balance owed to HMRC in respect of VAT or PAYE/NIC is disclosed as other
payables, not as tax payable.

9 Revenue (IFRS 15)

Income: increase in assets or decreases in liabilities, that result in increases in equity, other than
those relating to contributions from holders of equity claims (Conceptual framework)

Revenue: Income arising in the course of an entity's ordinary activities (IFRS 15: Appendix A).
which includes: sales/turnover, interest, dividends and royalties. Revenue includes both credit
and cash sales, net of trade and early settlement discounts, refunds and VAT.

9.1 Revenue from Contracts with Customers

IFRS 15 prescribes the accounting treatment of revenue. Generally, revenue is recognised when
the entity has transferred promised goods or services to the customer (IFRS 15: para 2).

IFRS 15 sets out the 5 steps to determining revenue.

Step 1: Identify the contract with the customer

This is required in order to understand what has been agreed between the entity and the
customer.

The standard defines a “contract” as an agreement between two or more parties that creates
enforceable rights and obligations and specifies that enforceability is a matter of law. Contracts
can be written, oral or implied by an entity’s customary business practices (IFRS 15.10)

A contract does not exist when each party has unilateral right to determinate a wholly
unperformed contract without compensation (IFRS 15.12)

A contract with a customer is in the scope of standard when it is legally enforceable and meets
all of the following criteria (IFRS 15.9)
The contract exist if
(1) The collection of consideration is probable
(2) Rights to goods and services and payment terms can be identified
(3) It has commercial substance
(4) It is approved and the parties are committed to their obligations

Step 2: Identify the separate performance obligations

A contract includes promises to provide goods or services to a customer. Those promises are
called performance obligations. We will always assume that performance obligations are distinct
and that the contract is for the delivery of one specified good or service.

A goods or service is distinct if both of the following criteria are met

(1) Capable of being distinct: Can the customer benefit from the good or service on its own
or together with other readily available resources; and
(2) Distinct within the context of the contract: is the entity’s promise to transfer the good or
service separately identifiable from other promises in the contracts?

Example 1: Single performance obligation in a contract

Construction company C enters into a contract with customer D to design and build a hospital. C
is responsible for the overall management of the project and identifies goods and services to be
provided – including engineering, site clearance, foundation, procurement, construction, piping
and wiring, installation of equipment and finishing
Example 2: Telco T has a contract with customer R that includes the delivery of a handset and
two years of voice and data services.
The handset can be used by R to perform certain function – i.e. calendar, contract list, email,
internet access and to play music or games.
Additionally, there is evidence of customers reselling handsets on an online auctions site and
recapturing a portion of the selling price of the phone. T also regularly sells its voice and date
services separately to customer.

Step 3: Determine the transaction price

The transaction price is the amount of consideration a company expects to be entitled to receive
from the customer in exchange for transferring the promised good or service. Consideration is
normally cash or a promise from the customer to settle in cash at a later date in a credit
transaction.
In determining the transaction price, an entity considers the following components:

(1) Variable consideration: an entity estimates the amount of variable consideration to which
it expects to be entitled (discounts, incentives, penalties…)
(2) Significant financing component: for contracts with significant financing component, an
entity adjusts the promised amount of consideration to reflect the time value of money
(3) Non cash consideration: Non-cash consideration is measured at fair value, if that can be
measured at fair value, if that can be reasonably estimated; if not, then an entity uses the stand-
alone selling price of the good or service that was promised in exchange for non-cash
consideration

Example:
Free advertising: Production company Y sells a TV show to TV company X. The consideration
under the arrangement is a fixed amount of 1,000 and 100 advertising slots. Y determines that
the stand-alone selling price of the show would be 1,500. Based on market rates, Y determines
that the fair value of the advertising slots is 600. Y determines that the transaction price is 1,600,
comprising the 1,000 fixed amounts plus the fair value of the advertising slots.
If the fair value of the advertising slots could not be reasonably estimated, then the transaction
price would be 1,500 – i.e. Y would use the stand-alone selling price of the goods and services
promised for the non-cash consideration in these circumstances
Step 4: Allocate the transaction price to the performance obligations

If a contract contains more than one performance obligation, the transaction price must be
allocated to each performance obligation. For Accounting, we will always assume a single
performance obligation so the whole transaction price is allocated to that single performance
obligation.

This step of the revenue model comprises two sub-steps that an entity performs at contract
inception.
(1) Determine stand-alone selling prices
(2) Allocate the transaction price

Step 5: Recognise revenue when (or as) a performance obligation is satisfied

The entity satisfies a performance obligation by transferring control of a promised good or

service to the customer. A performance obligation can be satisfied at a point in time, such as
When goods are delivered to the customer, or over time, such as for an ongoing maintenance
agreement.

10 The regulatory framework for company financial statements

Company financial statements prepared for external publication are extensively regulated to
protect investors who use information to make economic decisions, especially when comparing
different companies. Published financial statements are therefore prepared on the same basis by
all companies so investors can make meaningful comparisons. Rules and regulations are applied
to:
 content: what information the financial statements should contain, and what supporting
information should go with them
 accounting concepts: how figures should be prepared
 presentation: how the financial statements should be presented
The main sources of accounting regulations for companies are:
 accounting standards (IFRS Standards); and
 legislation, in particular the Companies Act 2006.

10.1 Why does IAS 1 include formats?

The purpose of setting out formats for a SOPL and SOFP is to make it easier for the users of
financial statements:
To find the items they are particularly interested in: companies are prevented from using
complex layouts and formats that make the financial statements more difficult to understand
To make comparisons of the results of different companies, or between the results of the same
company from one reporting period to the next.
It is for this second reason that IAS 1 requires comparative figures for the previous reporting
period to be shown, as well as the figures for the reporting period being reported. In some ns a
statement of financial position from an even earlier reporting period may be required as well.
10.2 Structure and content of financial statements

On each statement of financial position and statement of profit or loss, the following information
needs to be prominently displayed:
 name of the company
 date of the statement of financial position/reporting period covered - financial statements
should not normally cover reporting periods longer than 12 months

The statement of financial position must distinguish between current and non-current assets
and current and non-current liabilities. Current items are to be settled within 12 months of the
date of the statement of financial position.
In the accounting policies note to the financial statements the entity must disclose the
measurement basis used in their preparation (historical cost or net realisable value, for
instance), and the other accounting policies used that are relevarit to an understanding of the
financial statements.
10.3 IAS 8, Accounting Policies, Changes in Accounting Estimates and Errors

IAS 8 prescribes the criteria for selecting and changing accounting policies, together with the
accounting treatment and disclosure of changes in accounting policies, changes in accounting
estimates and correction of errors.
To be clear on the distinction between accounting policies and accounting estimates:
Accounting policies are the specific principles, bases, conventions, rules and practices applied by
an entity in preparing and presenting the financial statements' (IAS 8: para. 5). The decision to
value inventories using the first in, first out method, as opposed to the average cost method, is an
example of an accounting policy choice.
Accounting estimates are judgements or assumptions used in applying an accounting policy
when, because of estimation uncertainty, an item in financial statements cannot be measured
with precision like: Bad debts, inventory obsolescence, the fair value of assets and liabilities, the
useful life of depreciable asset, warranty obligations (IAS 8: para.32)

The application of IAS 8 enhances the usefulness of financial statements by ensuring that:

 information is available about the accounting policies adopted by different entities;

 different entities adopt a common approach to the distinction between a change in accounting
policy and a change in an accounting estimate;
 the scope for accounting policy changes is constrained;
 changes in accounting policies, changes in accounting estimates and corrections of error are
dealt with in a comparable manner by different entities

10.4 Ethics as an issue for regulators

Trust in the financial information produced by accountants is essential. How to ensure that
information is reliable and fit for purpose is therefore a key concern of regulators and
government. One of the ways in which this trust can be achieved is by ensuring that the
individuals involved in the production of the material are acting with integrity, which can be
defined as acting in a straightforward and honest manner.
Professional bodies can instil integrity in their members through their leadership, policies, the
information and training they provide, and the ethical standards which members are expected to
adhere to.
The overall regulatory framework within a country or market can be very complex and needs to
be underpinned by ethical values. The process also needs to be: honest and truthful, transparent
and adaptable, legally compliant, consistent.
While the development of policy and guidance can be useful in achieving this, a rules-based
approach can also devalue the requirements on the individuals to act ethically, as the emphasis
can shift to keeping within the letter or the law, rather than the spirit of it.
Self-test
Answer the following questions.
1. The company’s assets and liabilities at the beginning and end of a reporting period were
as follows:
Beginning End
£ £
Non-current assets 85,000 150,000
(carrying amount)
Current assets 120,000 110,000
Equity shares of £1 100,000 125,000
Share premium 5,000 10,000
Retained earnings 50,000 67,000
Trade and other payables 30,000 40,000
Tax payable 20,000 18,000

During the reporting period the company issued a further 25,000 shares at £1.20 each. £22,000
for tax expense was shown in the statement of profit or loss.

The company's profit before tax for the reporting period was
A. £17,000
B. £20,000
C. £27,000
D. £39,000

2. You are supplied with the following extract from Niton plc's statements of financial
position at 31 January 20X9 and 20X8.
31 January 20X9 31 January 20X8
£m £m
Equity shares of £1 each 120 100
Share premium 260 220

Notes
(1) On 1 July 20X8 there was a 1 for 10 bonus issue
(2) On 30 September 20X8 there was a rights issue
(3) There are no other reserve balances
What was the total amount received from the issue of shares for the year ended 31 January
20X9?
A. £10m
B. £20m
C. £50m
D. £60m
3. The figure for equity in the IAS 1 statement of financial position is represented by:
A. Called-up share capital plus share premium
B. Total assets less current liabilities
C. Paid share capital plus retained earnings
D. Total assets less total liabilities

4. Which of the following would cause a company's profit for the period to increase?
A. Issue of 100,000 £1 equity shares at £1.02
B. Early settlement discount provided to a customer of £255
C. Disposal for £8,500 of a fork-lift truck which originally cost £15,000 and has a carrying
amount of £9,250
D. Receipt of £25 in respect of a receivable previously written off as irrecoverable

5. Which two of the following transactions could affect a company's retained earnings for
the reporting period?
A. Rights issue of shares
B. Transfer to other reserves
C. Purchase of land
D. Repayment of debentures at their par value
E. Increase in income tax due to HMRC

6. Raymond plc issues 135,000 equity shares with a par value of £3 each at a price of £5
each for cash. Which of the following journal entries would be made to record this transaction?
A. Credit Bank £675,000, Debit Share capital £405,000, Debit Share premium £270,000
B. Debit Bank £675,000, Credit Share capital £135,000, Credit Share premium £540,000
C. Debit Bank £675,000, Credit Share capital £405,000, Credit Share premium £270,000
D. Credit Bank £675,000, Debit Share capital £135,000, Debit Share premium £540,000

7. The following information is available in relation to the tax figures to be included in the
financial statements of Godshill plc.
31 December 20X7 31 December
20X6
Tax payable £ 271,500 237,600
Statement of profit or loss tax expense 269,700 219,800

What is the total tax paid during the year ended 31 December 20X7?
A. £185,900
B. £235,800
C. £237,600
D. £269,700

8. Munch Co is a fast food retailer. One of its customers has started a legal claim for
damages after contracting food poisoning at a Munch Co restaurant. Munch Co's lawyers believe
that there is a 70% chance that the claim will be successful and they estimate that the award to
the customer will be £90,000. Which of the following statements is correct?
A. Munch Co should not create a provision because payment of damages is not certain.
B. Munch Co should create a provision for 70% of the expected award of £90,000.
C. Munch Co should create a provision for the full amount of the expected award of
£90,000.
D. Munch Co should create a provision for £90,000 plus an additional amount in case other
claimants launch similar legal claims.

9. In the year to 31 December 20X6, Coisty had the following capital structure:

400,000 equity shares of 25p each: £100,000

Share premium account: £50,000

During the year, Coisty paid an equity dividend of 45p per share.
What is the total dividend paid?
A. £67,500
B. £180,000
C. £45,000
D. £270,000

10. Ava Co sold equipment to Orla Co for £10,000 on 28 January 20X8 and delivered that
equipment to the customer on 4 February 20X8. Ava Co retained control of the equipment until
the point of delivery. In a separate contract with the same customer, Ava Co agreed to service the
equipment on an annual basis for the next three years, commencing 31 January 20X9 at a cost of
£2,000 per annum.
What is the total revenue that Ava Co can recognise in the year ended 31 January 20X8 in
respect of the transactions with Orla Co?
A. Nil
B. £10,000
C. £12,000
D. £16,000