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Three pillars of IFRS in Europe

Standard setting

Endorsement

Enforcement

Requirements of standards

Understandability

Relevance

Reliability

Comparability

Information economics perspective

The more informative the set of accounting rules, the lower the costs of capital, emphasizes the valuation function of accounting

Contracting perspective

The higher the precision of a set of accounting rules the lower the respective contracting costs, emphasizes the stewardship function of accounting

Role conceptual framework

Attempts to provide a structured theory of accounting

Fundamental qualitative characteristics

Neutral, Complete, Free from error

Relevance (Capable of making a difference in the decisions made by users)

Core principle IFRS 15

Recognize revenue at an amount equal to the consideration expected to be received in exchange for goods or services provided to a customer

Revenue is recognized when a po is satisfied, when control over a good or service is transferred and when the customer directs the use and receives benefits from the good or service

Revenue recognition 5-step

Identify the contract

Identify the performance obligation

Determine the transaction price

Allocate the transaction price to po’s

Recognize revenue when po is satisfied

Main issues associated with revenue recognition

Inconsistent

Lack of framework

Comparability

Complexity

Disclosure requirements

Revenue recognition linked basis

Two or more po are so closely related that they should be accounted for as one. Happens when contracts are a package, and pricing depend on the other

Recognize revenue with the % of completion

Revenue recognition linked basis

The po’s do not depend on each other, mutual dependency. They are identified separately. Recognize immediately a loss if selling below cost.

Contract modification

New contract if new goods/services are distinct and pricing is independent and fair

Modification to existing contract if goods/services are not distinct, or pricing is discounted/bundled

Transaction price allocation

Compute the percentage of the standalone prices of the total. Translate the percentages to the allocated transaction price according to the contract

Items of inventory

Finished goods

Work-in-progress

Ra materials

Costs of inventory

Value in acquiring

Import and duty taxes (non-recoverable)

Transportation and handling

Conversion, direct cost of material and labor and overhead

Other directly attributable costs

- Trade discounts and rebates

Depreciation of used machinery

(storage only if bonded)

Periodic accounting inventory

Determined periodically through physical count

Ending balance = N * cost/N

COGS based on opening-closing inventory

Perpetual accounting inventory

Inventory records are updated each time a transaction involving inventory takes place

Cost of inventory is transferred to COGS directly on the sale of the item

Value inventory

FIFO or weighted average cost formula (IAS2 only allows)

End-of-period adjustments inventory

Goods in transit

Goods held in consignment or shipped on consignment

Unaccounted differences recorded as inventory loss

NRV inventory

Net amount an entity expects form the realization of inventory sales in the ordinary course of business. Not necessarily equal to fair value. Selling price - cost to sell - cost to complete. IAS 2 requires that written down happens item to item.

Which costs not to recognize in inventory

Wasted materials

Storage

Administrative overhead

Selling

Taxes (recoverable)

Exception impairment raw materials

Materials held for use in the production are not written down below cost if the finished product in which they will be incorporated are expected to be sold at or above cost

PPE

Tangible items that are held for use in the production or supply of goods or services, for rental to others, or for administrative purposes; and are expected to be used during more than one period

PPE initial cost

Recognition shall be measured at its cost

Purchase price including duties, non-refundable taxes, deduct trade discounts and rebates

Directly attributable costs of bringing the asset to location and condition

Initial estimated cost of dismantling and removal

Significant parts approach

Asset may be subdivided into significant parts/components based on expected benefits

Several components with different useful lives

Significant in relation tot the total cost, depreciated separately

Replacing is recognized if the recognition criteria are met

Not applied on costs of the day-to-day servicing

PPE maintenance and repairs

Costs are expensed when incurred

PPE improvements and betterments

Costs are capitalized and depreciated over the useful life. Capitalization requires increased probable future economic benefit.

Major inspections are treated like improvements

PPE depreciation

Allocation depreciable amount on a systematic basis that reflects the pattern of consumption of economic benefits

Straight-line method

Diminishing-balance method

Units-of-production method

PPE borrowing costs

Borrowing costs establishes criteria for the recognition of interest as a component of the carrying amount of a self-constructed item of ppe.

Costs that an entity incurs in connection with the borrowing of funds

Capitalization if directly attributable to the acquisition, construction or production of a qualifying asset

Qualifying asset takes a substantial time to get ready for its intended use or sale

Revaluation model FV>BV

Increase of revaluation reserve in OCI

Except: Recognition of a revaluation loss in prior periods, a reverse revaluation loss, recognize an increase in P&L to the extent of the prior loss

Revaluation model FV<BV

Revaluation loss recognized in P&L

Exception: Recognition of a revaluation increase in OCI in prior periods, eliminate revaluation surplus before recognizing an additional revaluation expense

Exercise cost model to revaluation with tax

Step 1: establish the timeline

Step 2: calculate depreciation first period, than carrying amount, than difference with fv

Step 3: calculate deferred tax by multiplying the difference with tax rate and establish the asset revaluation surplus (or loss)

Step 4: calculate depreciation second period, than carrying amount, than difference with fc

Step 5: calculate second time deferred tax by multiplying the difference with tax rate and establish the asset revaluation surplus (or loss)

Step 6: Calculate total asset revaluation surplus and depreciation expense

Provisions (IAS 37)

A liability of uncertain timing or amount

Liability is a present obligation from past events, the settlement of which is expected to result in an outflow

An obligating event is an event that creates a legal or constructive obligation

Uncertainty is key distinction from other type of liabilities

Provision recognition

There is a present obligation as a result of a past event

It is probable that an outflow of resources will be required

A reliable estimate can be made

Provision for group of similar obligations

Probability is determined by considering the class of obligations as a whole

Criterion fulfilled even if outflow probability of any item is small

Warranties, rights of return

Contingent liability

a) A possible obligation that arises from past events and whose existence will be confirmed only by the occurrence or non-occurrence of one or more uncertain future events not wholly within the control of the entity.

b) A present obligation that arises from past events but is not recognized because it is not probable that an outflow will be required or/and the amount of the obligation cannot be measured reliable.

Always mentioned in the notes, never on the balance sheet

Measurement of provisions

Best estimate

Determined by judgement

If time value of money has a material effect, measure the amount at the pv of expected expenditures

Measurement of provisions future events

Shall be reflected when there is evidence

Future changes in tech not to be considered if only believed by the entity

New legislations, most often not sufficient until enacted

Measurement of provision reimbursements

Shall be treated as a separate asset

Only recognized if virtually certain

Amount recognized for reimbursement cannot exceed the amount of the provision

May be netted in the statement of comprehensive income

Occurrence non-business combination restructuring

Sale or termination line of business

Closure of locations

Changes in management structure

Fundamental reorganizations

Restructuring provisions criteria

1: A present obligation must exist, no obligation towards a third party

2: Costs must be directly and necessarily caused by the restructuring and not associated with the ongoing activities

3: If restructuring involves the sale of an operation, a binding sale agreement is needed before a provision can be recognized

Onerous contract

A contract where the unavoidable costs of meeting the obligations exceed the expected economic benefits

Measured at the lower of: The costs of fulfilling the contract and the costs of not fulfilling the contract

IAS 38 intangibles

An intangible asset is an identifiable non-monetary asset without physical substance

Separability IAS 38

Intangible is capable of being separated or divided from the entity and sold, transferred, licensed, rented or exchanged, either individually or together with a related contract, asset, or liability

Key criteria recognition intangibles

Identifiability

Control, the company has the power to obtain economic benefits generated by the asset; and the ability to deny access to those benefits to all other parties

Future economic benefits probable, the asset generates either revenues from the sale of products or services or cost savings

Reliable measurement of costs, may depend on how the intangible asset is acquired, initial recognition at cost

Intangibles exceptions

Internally generated brands, mastheads, publishing titles, customer lists and items similar in substance shall not be recognized

Internally generated goodwill

When acquired externally they can be recognized

Acquisition methods intangibles

Separate acquisition

Acquisition as part of a business combination

Acquisition through a government grant

Recognition research expenses

Always recognized as expense

Recognition development expenses requirements

An asset if met

a) Technical feasibility

b) Intention to complete and to use/sell

c) Ability to use or sell

d) Demonstration of how asset will generate eco benefits

e) Availability of resources to complete development

f) Ability to measure reliably the expenditure

Cost model finite useful life intangible

Residual value assumed to be zero unless: There is a commitment by a third party to purchase the asset at the end of useful life or there is an active market

Allocated on a systematic basis over its useful life

Cost model indefinite useful life

No amortization

Periodic review to determine whether the asset is still indefinite

Required to test for impairment by comparing recoverable amount with carrying amount: annually and whenever there is an indication that the intangible asset may be impaired

Disclosure requirements intangibles

Each class has to be disclosed separately

Internally generated intangibles also disclosed separate form others

Purpose of impairments

Necessary to ensure that assets are not overstated

Overstated when the carrying amount exceeds the recoverable amount

Impairment vs straight-line amortization

Impairments provide more relevant information

Impairments logical step towards information economics and valuation approach

Straight-line amortization is easier to apply, less time consuming and costly and more verifiable than impairment test

Allows prediction of amortization’s impact on earnings with greater accuracy

Steps impairment test

Identification of assets

Measuring recoverable amount

Recognition of impairment loss

Reversal

Impairment scope

Within scope of IAS 36: PPE, intangibles and goodwill

Outside of scope: Inventory, assets from construction contracts, deferred tax assets, financial instruments and insurance contracts, investment property, biological assets, assets held for sale

When to impair

External and/or internal sources of information that might indicate the possibility of impairment

Exception: IAS 38 yearly impairment tests for intangibles with indefinite useful live, intangibles not yet available for use, specific regulations for cash generating units with goodwill

Impairment of goodwill

Goodwill is a residual balance, not individually identified or separately recognized assets. Not possible to identify recoverable amount. Goodwill testing at the CGU level.

Requirement IAS 36

Annual goodwill impairment test

Each unit or group of units to which the goodwill is so allocated shall represent the lowest level within the entity at which the goodwill is monitored

The impairment test

Step 1 determine the recoverable amount equal to the higher of FV less cost of disposal and Value in use

Step 2 compare recoverable amount and carrying amount.

If recoverable < carrying, an impairment loss

If recoverable > carrying, no further action is required

Value in use

PV of the future cash flows expected to be derived from an CGU

Five elements have to be reflected

An estimate of the future CF

Expectations about possible variations in the amount or timing of those future CF

The time value of money

The price for bearing the uncertainty inherent in the asset

Other factors